New California Law Affects Payments to Executives That Are Subject to Repayment

On January 1, a new California law (AB 692, enacting California Business and Professions Code section 16608) became effective. It broadly regulates payments to employees or independent contractors that are subject to repayment. As applied to executives, the law potentially invalidates any payments subject to repayment (such as buyout awards when executives are newly hired), unless they fit within a specific and detailed exception. At the least, any employer with a California connection should become familiar with this new law if it is contemplating any executive compensation arrangement that may require repayment (as noted below, the new law may have an even broader impact).

Introduction

Assume a California company hires a new executive (who works in California) and one of the features of the new employment contract is a large cash payment upon commencement of employment, which payment is subject to repayment if the executive leaves within a certain period of time, for example, a $5 million payment subject to complete repayment if the executive leaves within three years. These cash payments can occur, for example, if the executive is forfeiting awards that he or she might have earned if the executive had stayed with the former employer. Alternatively, a large cash upfront payment may be seen as an advantageous way of enticing the executive to switch jobs because it is a one-time payment, whereas enticing the executive with a large salary increase creates a permanent increase in compensation.

This particular hypothetical contract arrangement just became illegal if the contract was entered into on or after January 1, 2026. More precisely, the “contract or contract term” that violates the new law is void, plus the employer is subject to injunctive relief, may incur a $5,000 fine, and is liable for reasonable attorney’s fees and costs if a lawsuit is brought. As explained in more detail below, the new law does provide limited relief for some payments agreed to at the outset of employment, provided certain conditions are met.

One would think the California legislature would have little interest in regulating these types of arrangements since they are the product of negotiations between two informed parties, and neither party would appear to have much of a bargaining advantage over the other. Unfortunately, the legislature was very interested in regulating something called “TRAPs” and in the process wrote broad legislation impacting practices that it had no interest in regulating. So, employers now must deal with the proscriptions of a statute that was drafted without taking their circumstances into account.

Background

The primary impetus for AB 692 appears to be a type of employment practice known as a “Training Repayment Agreement Provision,” or a “TRAP.” While TRAPs come in various shapes, the essential concern was that employers were locking lower paid workers into jobs by providing that, if they left before a certain period of time had elapsed, they had to repay the costs of on-the-job training, orientation, equipment, or other supplies necessary to perform their work duties. Bill proponents described situations where workers were subject to repayment obligations of between $4,000 and $30,000 if they left too early. The bill’s language addressed this in section 16608(b)(1)(A) by making it unlawful to (among other things) have a contract provision requiring the worker “to pay an employer. . . for a debt if the worker’s employment. . . with a specific employer terminates.”

Opponents of the bill persuaded the legislature that, as written, the proscription went too far. Accordingly, section 16608(b)(2)(D) contains a limited exception¹ “for the receipt of a discretionary or unearned monetary payment, including a financial bonus, at the outset of employment,” provided that five conditions are met:

1. The repayment obligation is set forth in a separate agreement from the primary employment agreement;
2. The employee is told he or she has the right to consult an attorney and given at least five days to obtain legal advice;
3. Any repayment obligation is not subject to interest accrual and is prorated based on the remaining term of any retention period, which is limited to two years;
4. The worker can defer receipt of the payment to the end of the retention period without any repayment obligation; and
5. Separation prior to the end of the retention period was at the sole election of the employee or at the election of the employer for misconduct.²

Complying with the Exception

The first thing to note is that you can’t get the benefit of the exception unless the payment is made at the outset of employment. Suppose the executive is reaching the end of the initial contract term, the employer wants to sign a contract extension for two years, the executive wants a signing bonus, and this is only acceptable from the employer’s perspective if it is subject to repayment. That doesn’t work since the exception only applies upon initial employment.

If a payment is being considered at the outset of employment, however, it seems to us that primarily the third and fifth set of conditions are problematic. The forced proration provision within the third condition will be problematic to some employers, especially because it immediately applies rather than having at least some minimum period of employment that must be met to avoid a complete forfeiture. Limiting the retention period to two years, also required by the third condition, could be problematic to some employers if the initial contract is for more than two years.

The fifth condition may be problematic insofar as it limits the flexibility of the employer and employee to define what circumstances will and will not trigger repayment. The fifth condition provides that it is only permissible to require repayment where separation is (1) at the “sole election of the employee” or (2) by the employer due to “misconduct.” Suppose the executive dies or becomes disabled. It’s far from clear that these are separations “at the sole election of the employee.” Perhaps an executive claims he or she is quitting for good reason because of changes in the conditions of employment. Some cases say major deleterious changes in work conditions constitute a “constructive termination.” Previously, the parties could agree on language clarifying whether and how a “good reason” termination would be analyzed. Now it’s up to the courts.

Finally, the statute defines “misconduct” by a cross-reference to the California Unemployment Insurance Code. As you might expect, there is a high bar that must be cleared before an executive’s behavior will amount to misconduct. ³

Additional Issues—Does 16608 Only Apply in the Case of a California Employer and an Executive Performing Work in California?

There appears to be significant uncertainty as to the extraterritorial reach of section 16608. The section is subject to section 16600.5, which provides:

(a) Any contract that is void under this chapter is unenforceable regardless of where and when the contract was signed.
(b) An employer or former employer shall not attempt to enforce a contract that is void under this chapter regardless of whether the contract was signed and the employment was maintained outside of California.

Taken literally, this language appears to represent California’s assertion that it can, for example, apply section 16608 to a contract signed in Texas between a Texas corporation and a Texas executive. We are unaware of any cases endorsing that broad interpretation.

We think the result is more uncertain if the Texas employee quits to take a job in California and, when the employer attempts to enforce the repayment obligation, the executive sues in a California court, claiming the protection of section 16608. Another variation would involve a California headquartered corporation hiring an executive who is resident outside the state.

Additional Issues—Other Concerns

While most of the attention in executive compensation circles has focused on signing bonuses, two other aspects of section 16608 concern us.

Some nonpublic company employers may provide loans to their executives. If so, sometimes the loan repayment obligation is accelerated upon termination of employment. While we hope this remains legal, it is not at all clear to us how the accelerated repayment obligation meshes with the statement in section 16608(b)(1)(A) that it is unlawful to require repayment for a debt if the worker’s employment terminates. Section 16608(b)(1)(B) further provides that it is unlawful to “end forbearance on a debt” if the employment relationship terminates, reinforcing our concern.

Finally, we have not touched upon section 16608(b)(1)(C), making it unlawful to impose any “penalty” if the worker’ employment terminates. Could this be read to jeopardize standard vesting provisions in long-term incentives? Suppose the executive has received restricted stock with three-year cliff vesting. He or she is technically the owner of the stock, which is subject to forfeiture. If the executive terminates and the stock is forfeited in accordance with the terms of the award, is this a penalty under section 16608? We think it extremely improbable that the legislature intended to void restricted stock agreements. Unfortunately, there is nothing in the legislative history that suggests the legislature thought about this issue at all, one way or the other. One could argue that they just drafted broad language and hoped for the best.

Net, net, we will not be surprised if section 16608 ends up triggering litigation in areas completely removed from the TRAPs that were the impetus for the statute.

Next Steps

Because the extraterritorial scope of section 16608 is unclear, it seems prudent for a company’s labor law attorneys to become familiar with section 16608 if the corporation or its executives have business contacts with California. In addition to particularly focusing on any practices involving repayments upon termination of employment, this review should consider the extent to which the statute may have some of the potentially broader impacts described in the preceding section and what steps, if any, the company wants to take to address these broader concerns. As best we can tell at this point, the legal community is still getting acquainted with this far-reaching new statute, and no consensus has yet emerged as to the scope of its impact.

¹ The statute provides for four other, limited, exceptions that are outside the scope of this Alert. These pertain to government agency loan assistance programs, reimbursement for the cost of tuition (where certain conditions are met), contracts related to enrollment in certain apprenticeship programs, and contracts related to the lease, financing, or purchase of residential property.
² Literally, the statute says “Separation from employment prior to the retention period was at the sole election of the employee, or at the election of the employer for misconduct,” when it should have said “prior to the end of the retention period.” We assume the literal language will be ignored since otherwise the exception will never apply since the retention period begins with employment and it’s impossible to separate from a job before you are hired.
³ As one might expect, the interpretations on this topic are voluminous. https://calchamberalert.com/2025/03/28/misconduct-not-automatic-cause-for-denying-unemployment-benefits/