Arizona Federal Court Scrutinizes Reversionary Clauses in FLSA Class Action Settlements

The federal district court in Arizona recently confirmed that employers need a compelling reason to include reversionary clauses in wage-and-hour class action settlements. 

In Kostov v. Maricopa County Special Health Care District, the District Court for the District of Arizona considered a motion to approve a $525,000 settlement in a Fair Labor Standards Act (FLSA) collective action involving 735 plaintiffs who alleged underpayment of wages due to “automatic meal deductions.” The parties reached a settlement following extensive and contentious discovery, including 24 depositions, after which plaintiffs acknowledged a substantial risk of losing if the case proceeded to trial. 

The proposed settlement fund was to be distributed pro rata to class members after deductions for attorneys’ fees, costs, and service awards. Plaintiffs estimated that, after these deductions, class members would receive between 37% and 59% of their potential recovery, depending on the applicable statute of limitations. The agreement also included a reversionary clause: any settlement checks not cashed within 180 days would be void, and the unclaimed funds would revert to the defendant.

While the court found the overall settlement fair and reasonable, it flagged the reversionary clause as problematic. Although not outright prohibited, the court noted that such clauses require a specific and compelling justification to be approved and ordered the parties to provide supplemental briefing explaining why a reversionary clause is appropriate. The court cautioned the parties that if there was no compelling explanation for the clause and it remained in the settlement, the settlement was unlikely to be approved.

Although other courts in the Ninth Circuit have recognized that reversionary clauses are strongly disfavored, this is the clearest statement to date from the district court in Arizona. The court’s opinion in Kostov is a reminder to parties in wage-and-hour class actions in Arizona that settlement agreements must be carefully drafted.

Employers facing wage-and-hour class actions in Arizona should consult experienced counsel.