Last week, in Goonewardene v. ADP, LLC, the California Supreme Court addressed the question of whether, when an employer hires an independent payroll service provider (or “payroll company”) to take over all the payroll tasks that would otherwise be performed by an internal payroll department, the employee may bring a civil action against not only his or her employer but against the payroll company as well.  The Court held that an employee who believes he or she has not been paid the wages due under the applicable labor statutes and Wage Orders may not maintain causes of action for unpaid wages against a payroll service provider for: (1) breach of contract, (2) negligence, or (3) negligent misrepresentation.  In reaching this holding, the Court reversed the Court of Appeal’s ruling that the employee may maintain those three causes of action for unpaid wages against the payroll company even though a payroll company cannot properly be considered an employer of the hiring business’s employee.

First, the Supreme Court determined that an employee cannot maintain a breach of contract action against the payroll company under the third-party beneficiary doctrine. Under this doctrine, an individual or entity that is not a party to a contract may bring a breach of contract action against a party to the contract if the third party establishes that (1) it is likely to benefit from the contract, (2) a motivating purpose of the contracting parties is to provide a benefit to the third party, and (3) permitting the third party to bring its own breach of contract action against a contracting party is consistent with the objectives of the contract and the reasonable expectations of the contracting parties. The Supreme Court held that the third-party beneficiary doctrine does not apply to payroll service contracts in part because, instead of benefiting employees, an employer’s contract with a payroll company is intended to provide a benefit to the employer.

Second, the Supreme Court held that, based on a variety of public policy considerations, “it is neither necessary nor appropriate to impose upon a payroll company a tort duty of care with regard to the obligations owed to an employee under the applicable labor statutes and wage orders and consequently that the negligence and negligent misrepresentation causes of action lack merit.”

Overall, the California Supreme Court’s decision is a win for payroll companies as well as employers, who would most likely bear the pass-through costs of increased litigation against payroll companies.