Navigating the Process of PTO Payouts at Employee Exit

What happens to the unused PTO once the employee stops working?

The remaining PTO can either expire, be used up during the notice period, or be cashed out when the contract ends. 

However, there are plenty of factors that impact what employers can opt for: state laws, company PTO policies, employee handbook, employment contracts, even verbal agreements, and informal practice. 

Here, we’ll discuss how to best navigate PTO payouts and review different scenarios your company might experience regarding unused PTO.

What Counts As PTO?

Paid time off (PTO) is the time employees spend not working but are still paid for, at the same rate. In the U.S., PTO accounts for any type of absence: vacation, sick days, personal days, and every other time taken off to handle personal affairs (sick family members, bereavement, or even maternity leave when there are no specific policies in place). 

In some instances, sick days and vacation days aren’t equal and lumped together. See the clarification in our blog.

No law in the U.S. requires employers to give any PTO, and it is at businesses’ discretion to create paid leave policies. The generosity of PTO policies may vary depending on the company’s desire to attract and retain a stellar workforce; industry standards, competition, and employee expectations greatly shape the PTO policies.

According to the Bureau of Labor Statistics, PTO is granted to workers who stay in the company for a certain amount of time and keeps growing the longer they stay. In 2020, 78% of “civilian workers” had paid sick leave policies in place.

How Does PTO Accrual Work?

Since employers aren’t required by law to provide PTO, they’re free to set up PTO policies and PTO accrual processes the way they deem fit.

PTO accrual is the accumulation of paid time off that happens during the employees’ work at the company. Simply put, employees need to work for some time first to earn time off. 

For example, a PTO accrual policy may propose that for each month of work, an employee earns a work day (8 hours) off. This means that an employee needs to work at least 5 months before taking a work week off.

Annual PTO allotment is another type of PTO policy, where workers receive a lump sum of days off at the beginning of the year and are free to use them however they want. In practice, employers do set some PTO usage conditions; sometimes, a new employee has to work for a specific amount of time before taking PTO (a month, 90 days, or 6 months). 

Prorated PTO calculations are applied when they start working during the year, and there is less PTO to award since they weren’t there for the full year. The amount of PTO needs to be scaled down and proportionate.

What To Do If You Offer Unlimited PTO?

The greatest downside of offering unlimited PTO is that it may create complicated legal precedents, and no business owner wants to have a legal case named after them. 

The concept of unlimited PTO is quite new, and PTO payout immediately comes to mind as one of those situations where your great promises come back to bite you. If the PTO is technically unlimited, how does that impact the payout?

Stay calm — no, you don’t owe a lifetime of PTO payments. It is, in fact, the opposite: employers who give unlimited PTO don’t have to pay for unused vacation days. 

Regular PTO days are vested, which means that employees have earned it by working some time first. In the case of the unlimited PTO, days off aren’t vested, so there’s technically nothing the employer has to pay out.

However, the Colorado lawmakers have put more thought into the unlimited PTO policy and clearly defined the PTO payout in this case.

The Colorado Department of Labor and Employment (CDLE) proposes a Rule Against Forfeiture of Earned Vacation. Here’s what to pay attention to regarding unlimited PTO in Colorado:

• “To be payable upon separation, the amount of vacation pay must be “determinable” — able to be calculated. The calculation can be from a written document, verbal policy, or informal practice.”

• “…if an employer says it offers “unlimited PTO,” yet actually doesn’t let employees take more than a certain amount of paid time off, then what it provides isn’t really “unlimited,” it’s a limited, determinable amount of PTO.”

In reality, taking days off always comes with stipulations — or else no one would ever show up for work. “Verbal policy” and “informal practice” may very well look like a manager declining almost every PTO request because there’s work to do, or intense pressure to take fewer days off. This way, unlimited PTO is never really unlimited, and employees have grounds to ask for a PTO payout based on a tangible calculation.

To avoid any conundrum, we strongly suggest you discuss the unlimited PTO with legal experts on the subject matter, establish a crystal-clear unlimited PTO policy, and keep close track of leave management.

Do You Have To Pay For The PTO Rollover Too?

PTO rollover means transferring the unused PTO from the past year to the next one. 

If you, for example, have 3 days off to use from 2023, PTO rollover lets you use them in 2024 on top of the regular days off you get each year. Employers can also pay the workers out for the unused PTO at the end of the year.

Some companies put a cap on the amount of unused PTO you can transfer to the following year. Others have a “use it or lose it policy” where PTO expires if unused by a certain date, or upon leaving the company — however, this policy is prohibited in Nebraska, Montana, California, and Colorado.

How To Calculate The Correct PTO Payout Amount?

Here’s a step-by-step process to calculate the exact PTO payout amount:

• Check your PTO tracker to see how many days/hours of PTO the employee won’t have used by the time their contract officially ends.

• Read the PTO policy you’ve implemented to see if some special conditions apply. For example, some employers award the workers with an additional day off for each year of service (seniority PTO accruals);

• Multiply their daily wage by the number of unused PTO days, OR multiply their hourly wage by the number of unused hours of PTO;

• Deduct taxes that apply in your state. According to the IRS, a PTO payout is considered a supplemental payment, and as such, susceptible to taxation.

Is PTO Payout Required By Law?

Not in every country. 

While some laws treat PTO as a form of earned wages (and denying the PTO payout as a wage theft), others consider paid leave employee benefits and let businesses decide. 

These countries have mandatory PTO payout:

• California;
• Colorado;
• The District of Columbia (Washington, D.C.), but Washington doesn’t require PTO payout;
• Illinois;
• Indiana;
• Louisiana;
• Maine;
• Maryland;
• Massachusetts;
• Minnesota;
• Montana;
• Nebraska;
• New Mexico;
• New York;
• North Carolina;
• North Dakota;
• Ohio;
• Rhode Island;
• West Virginia;
• Wyoming.

Important note: you should still examine specific PTO rules for each country. For example, Illinois and a few other states require a payout for unused vacation days, but not for unused paid sick leave (unless it’s guaranteed by an employment contract).

The countries that do not require PTO payout by law usually have the “unless promised by an employer’s contract or policy” clause. PTO payout is only mandatory if the companies promised it in the contract.

The law may also be unclear in some of these countries (ex Montana, and West Virginia), so the best course of action is to implement a strong and fair PTO policy for your employees, backed by legal experts. 

Does It Matter How The Employee Left The Company?

In states where PTO payout is mandatory, it doesn’t matter whether the employee was fired, quit, their contract expired (and wasn’t extended), or retired: PTO payout is a must.

You may have more freedom to decide which categories are eligible for PTO payout in the countries where payout isn’t mandatory.

Main Takeaways

• PTO accounts for all paid time off, no matter what the workers use it for. Still, some countries make a difference between sick days and vacation days for PTO payouts, and let companies pay for one and not the other.

• No state law makes PTO mandatory for companies, so if you don’t provide any PTO, there’s no PTO payout;

• While PTO payout isn’t mandatory in all states, all businesses that promise PTO payout in the employment contract must pay for it.

• In a nutshell, you can calculate the amount for PTO payout by multiplying the unused PTO with their daily/hourly rate and deducting taxes.

• Offering unlimited PTO may pose risks in countries where PTO payout is mandatory — since unlimited PTO doesn’t award the employees with any PTO payout.

• PTO rollover may be capped or limited, but the time rolled over is to be treated as regular PTO.