First Circuit Finds Commission Plan’s Windfall Provision Permissible Under Massachusetts Wage Act

In Klauber v. VMWare, the First Circuit upheld an employer’s use of a provision in its compensation plan that allowed it to modify commissions on certain large or atypical sales.  These “windfall” clauses are common in sales commission plans, and the First Circuit’s decision affirms that employers may continue to use them without violating the Massachusetts Wage Act, which otherwise would invite the prospect of paying treble damages on disputed incentive compensation earnings.

The plaintiff in Klauber was a salesperson for software firm VMWare.  He was paid a salary plus sales commissions.  The plaintiff’s eligibility for commissions was governed by VMWare’s “terms and conditions,” which defined commissions as earned once three requirements had been satisfied.  First, the employee had to accept the compensation plan.  Second, the employee had to have eligible quota achievement.  Finally, VMWare had to conduct a “plan reconciliation,” which included a “review of any transactions deemed to be Exception Transactions.”  Plan reconciliation allowed VMWare to determine whether and by how much to adjust commissions for Exception Transactions.  The terms and conditions included the following examples of Exception Transactions: the top ten customer deals within a quarter, transactions in which the value exceeded the employee’s quota, transactions valued over $2M, and transactions with limited involved by the employee.  This third requirement – the plan reconciliation – was at the heart of plaintiff’s case.

The plaintiff contended that the company improperly invoked the Exception Transactions provision to adjust his commissions on two sales – commissions he alleged should have totaled around $460,000.  Both sales, however, were treated as Exception Transactions due to their size, and the plaintiff’s commissions were reduced through plan reconciliation as a result of his limited involvement in each sale. 

Ultimately, the plaintiff filed Wage Act and breach of contract claims against VMWare for its failure to pay him commission on those two sales in accordance with the standard commission formula.  The district court granted VMWare’s motion for summary judgment, holding that the windfall provision of the terms and conditions was enforceable under Massachusetts law.  The district court reasoned that the commissions the plaintiff sought were not “wages” within the meaning of the Wage Act because those sums had not been definitely determined or become due and payable, in light of the plan reconciliation provision, and thus there was no Wage Act violation.

On appeal, the First Circuit agreed.  In reaching this conclusion, the First Circuit reiterated that commissions are “contingent compensation,” and they only become wages under the Wage Act when they are “definitely determined” and “due and payable.”  Where an incentive compensation plan does not provide otherwise, the default rule is that a commission is due and payable when the salesperson closes the sale.  But the employer and employee, the First Circuit explained, can agree to different terms that modify the default rule.  In this case, the plaintiff argued that the Exception Transaction provision was a violation of the Wage Act because it gave VMWare “unfettered authority to withhold pay” through commission adjustments.  The First Circuit disagreed.  It reasoned that the Exception Transactions provision only applied to atypical deals, and the terms and conditions included examples of what those atypical deals could be.  Under those circumstances, the appellate court found that the two sales at issue were appropriately deemed Exception Transactions based on the terms and conditions.  The court noted that it is reasonable for different criteria to apply to atypical deals where applying standard commission rates could lead to windfalls.  The Court held that the fact that there was discretion in the calculation of commission adjustments for the limited class of Exception Transactions did not give VMWare such free rein over payment of commissions, in general, to invalidate the windfall provision. 

The First Circuit also reiterated that Massachusetts law does not prevent employers from incorporating subjective criteria into their commission plans.  This includes windfall provisions like the Exception Transactions provision of VMWare’s terms and conditions.  The First Circuit explicitly held that VMWare’s plan did not violate the Wage Act because it specifically defined commissions as not earned until plan reconciliation had been completed.

The plaintiff asserted one more common argument against the Exception Transaction provision.  The Wage Act provides that “no person shall by special contract . . . exempt himself from” the Wage Act.  The plaintiff contended that the Exception Transactions provision of the terms and conditions was a special contract in violation of the Wage Act because it gave VMWare the ability to withhold commissions.  The First Circuit easily disposed of that argument, again holding that commissions are only wages when they are “due and payable,” and VMWare’s terms and conditions explicitly defined when such commissions were due and payable – after plan reconciliation.  The special contract provision of the Wage Act does not apply if the contested commissions are not wages.

This is an important decision for Massachusetts employers that maintain incentive compensation programs, as it provides clarity around what was previously a murky issue under Massachusetts law.  Disputes regarding large, unexpected commissions are common, and prior to Klauber, an employer’s ability to rely on a windfall provision to manage the consequences of such a sale were unclear.  With the benefit of the analysis in Klauber, Employers should carefully review their commission plans to ensure their windfall provisions are crafted in compliance with Massachusetts law.  Please reach out to Barry Miller or Molly Mooney if you have any questions about the terms of your compensation plans or their viability under Massachusetts law.