The Texas Supreme Court recently issued a notable decision construing an employer’s obligation to pay pro-rata commissions to a terminating employee when the underlying agreement failed to specify certain criteria for payment. Perthuis v. Baylor Miraca Genetics Labs., LLC, 2022 WL 1592587 (Tex. May 20, 2022). The Perthuis case is a good reminder of several key considerations to keep in mind when entering into commissions arrangements with employees:
1. Be clear and specific in drafting, including the commissions formula and what conditions must be met for commissions to be “earned” and payable.
Imperfect drafting has resulted in significant litigation over commission obligations. Disputes commonly arise when agreements fail to specify whether the employee must meet certain criteria, beyond simply booking a sale, to earn a commission. Disputes are litigated when the agreement fails to specify whether the employee must be employed at the time of payout. Or when the agreement is simply unclear as to how the commission is to be calculated.
2. Understand that state laws differ, sometimes significantly, in setting rules for how commission arrangements must work.
Some states have limited parties’ freedom to agree on commission arrangements by requiring that agreements be in writing (always a best practice anyway), or that the employer cannot condition otherwise earned commissions on being employed at the time of payout, or that commission payments be made at certain intervals, including at termination of employment.
At the other end of the spectrum, some states place no restrictions on the parties’ ability to agree on how to handle these questions. Always confirm where employees will be performing services so that you can determine which states’ laws may govern your commission agreements, looping in legal counsel when necessary.
3. Understand that in Texas, failure to specify when commissions are earned may mean that employees are entitled to pro rata commission payments when terminating employment.
The Texas Supreme Court recently held that if the parties’ commission agreement does not specify conditions under which the employee “earns” a commission, then under the “procuring cause” doctrine, an employee is entitled to a pro rata share of a commission based on the employee’s role in procuring the sale—even if the employee played no subsequent role in consummating the transaction itself and the employee has subsequently terminated employment. See Perthuis v. Baylor Miraca Genetics Labs., LLC, 2022 WL 1592587 (Tex. May 20, 2022).
Again, careful drafting is key—the Supreme Court specifically noted that parties can sidestep these issues by specifying the conditions under which commissions are earned and payable, including, for example, that the employee must be employed on the payout date; that commissions are payable only if the deal closes during the employee’s employment; or that commissions are payable only if the deal is funded within a particular time frame.
The Bottom Line for Employers
Commission arrangements are a frequent source of litigation when employers do not include sufficient detail in their agreements and misunderstand the role that state law plays in dictating certain terms. Careful drafting and consulting with legal counsel can achieve employers’ objectives and limit the legal risk.