The rule in California
The rule comes from Cal. Lab. Code § 227.3.
- Use-it-or-lose-it policies are illegal in California (Suastez v. Plastic Dress-Up Co., 1982). A cap on how much you can accrue is allowed.
- PTO plans follow the same rules as vacation.
Use-it-or-lose-it. California treats earned vacation as wages, so a policy that takes it away is not allowed. A cap that stops further accrual is a different thing and is allowed.
What to check in your policy
Because California law requires the payout, a handbook clause that says unused vacation is lost when you leave generally does not override it; any exception is in the rule above. Check that your final paycheck includes every earned hour.
Tax on a California payout
A payout is taxable wages. Take 80 unused hours at $25.00 an hour, worth $2,000.00. Paid on top of regular wages, it is a supplemental payment, so many employers withhold $440.00 of federal income tax at the flat 22% rate, plus $124.00 of Social Security and $29.00 of Medicare, leaving about $1,407.00.
California income tax is withheld on top of that, under the state’s own rules, so you will receive somewhat less. Withholding is not the final tax; any difference is settled on your return.
Questions people ask
Does California require employers to pay out unused PTO?
Yes. In California, vested vacation (including PTO) counts as wages and must be paid at your final rate of pay when your job ends, for any reason. Use-it-or-lose-it policies are illegal, but reasonable caps on how much you can accrue are allowed.
Is use-it-or-lose-it vacation legal in California?
No. California treats earned vacation as wages, so a policy that takes it away is not allowed. A cap that stops further accrual is a different thing and is allowed.
How is a PTO payout taxed in California?
Federally, a payout on top of regular wages is a supplemental payment: many employers withhold 22% for income tax, plus Social Security and Medicare. California income tax is withheld as well, under the state’s own rules.