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► Take Care When Recovering Overpayments/Debt From Employees

There are three broad categories of deductions employers make from employee paychecks. The first, legally required deductions, comes in the form of income tax and wage garnish-ments. The second, deductions on employees’ behalf, is withholdings for insurance premiums or charitable contributions. The third category —and the focus of this column—is deductions for the employer’s benefit. Employers may seek to take deductions for overpayment, employee theft, or docking for cash shortages and breakage. When doing so, you must follow both federal and state law to avoid possible penalties and liquidated damages.

Be proactive

Whether an employer will be successful in recovering an overpayment or a loan from an employee depends in large part on its diligence in implementing and maintaining the right policies and documents. For starters, employers should consider adopting policies that address deductions from pay for overpayments, loans, or employee theft.

The policies should explain that the employer will make deductions from employees’ pay under these circumstances. While not required in many states, a best practice is to have employees sign an acknowledgment of receipt and understanding of this policy.

If the money an employee owes is a result of a loan, the employer should require the individual to sign a promissory note outlining the terms of the loan, the mechanisms for repayment (during and following employment), and the consequences for failure to repay the loan. The promissory note should also include an authorization to deduct “payments” during employment and that the employer will deduct the full amount permitted by law from the final paycheck if the loan remains outstanding when the employee ends employment.

Deductions must comply with applicable laws

The Fair Labor Standards Act (FLSA) allows employers to deduct wage overpayments from future wages even if the deduction causes the employee’s wages to fall below the minimum wage. Depending on the state the employee resides in, some state laws may conflict with the FLSA for the employee’s benefit.

For example, Arizona law only allows deductions from an employee’s paycheck for overpayment so long as the deductions don’t cause the worker’s pay to fall below Arizona’s minimum wage. If the deduction for the total overpayment would cause the employee’s pay to fall below the minimum wage, the employer would need to take deductions over several pay periods to comply with Arizona law.

Recovering overpayment from former employees

Recovering overpayments from former employees can be tricky. Employers may need to make swift decisions if the final paycheck hasn’t been issued. It’s best to contact the former employee first to request the money, especially if the overpayment can’t be fully deducted from the final paycheck.

Making payment arrangements may increase the likelihood of full recovery of the overpayment. If the employee ignores attempts to collect or refuses to pay back the overpayment, the employer will need to consider the next best course of action. If the final paycheck hasn’t been issued, the employer can deduct the maximum amount permitted by law. If overpayment remains, the employer may need to consider whether legal action should be taken or whether to treat the overpayment as bad debt.

In deciding whether to take legal action, employers should consider employees’ resources. If an employee doesn’t have resources to collect, legal action may be useless and expensive. And this past December, Arizona made it increasingly difficult to collect on a judgment or garnish wages.

A word to the wise

Employers should be prepared to address overpayment, theft, or loans and how to collect the money, especially from a departed employee. Once the overpayment is discovered, priority one is to correct the problem. This will reduce the overpayment that needs to be recovered and prevents the recurrence of recover issues.

When in doubt about what you can deduct from an employee’s wages and when, contact qualified legal counsel to obtain guidance on the proper course of action.


By Jodi R. Bohr. Ms. Bohr is a shareholder with Tiffany & Bosco, P.A., and a contributor to the Arizona Employment Law Letter. She practices employment and labor law, with an emphasis on counseling employers on human resources matters, litigation, and workplace investigations.

[10/2023]

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