AB 1697: California Amends its Recent Restrictions on 'Stay-or-Pay' Employment Contract Terms

California's recent amendment to its employment contract restrictions creates material implications for employers across multiple industries, particularly in financial services and technology sectors reliant on sign-on and retention bonuses. Assembly Bill 1697, signed into law on September 30, 2026, substantially revises the stricter AB 692 framework that took effect on January 1, 2026. The amendment delays full compliance requirements by one year—to January 1, 2027—and crucially renders all litigation filed during the 2026 calendar year "moot," effectively providing employers a litigation reprieve for any alleged violations during that period.

The amendment fundamentally expands the scope of recoverable payments. Under AB 692, employers could only claw back "discretionary or unearned monetary payments" made "at the outset of employment." AB 1697 removes the temporal restriction, permitting clawbacks of discretionary bonuses regardless of when they are disbursed during the employment relationship. These clawbacks remain subject to protective conditions: repayment terms must be documented in agreements separate from employment contracts, workers must receive written notice of their right to consult counsel with at least five business days to do so, repayment amounts cannot accrue interest, amounts must be prorated based on the retention period (capped at two years), and repayment is triggered only upon voluntary separation or worker misconduct.

The amendment introduces targeted industry carveouts, most notably for regulated financial services firms. Securities broker-dealers, insurance producers, investment advisers, and their affiliates registered with the SEC or FINRA or licensed by California may now claw back sign-on and retention bonuses—discretionary payments designed to induce affiliation or maintain client relationships. These employers face the same protective requirements as other discretionary payment clawbacks but gain a competitive advantage: they are permitted to charge interest on repayment obligations, capped at the federal income tax interest rate established by the IRS. This represents a material difference from the general prohibition on interest-bearing clawback agreements.

Two additional carveouts address advanced PTO and government-funded programs. Employers may now recoup advanced PTO payments when workers voluntarily separate, provided the obligation does not exceed 40 hours of accrued PTO and is disclosed separately without interest accrual. Government agencies funding recruitment and retention bonus programs through grants receive a carveout allowing clawbacks that comply with grant requirements and service obligations.

Significant ambiguities persist despite the amendment. The statute does not define "discretionary or unearned payments," creating ongoing interpretive risk for employers. Additionally, the law remains silent on whether it applies exclusively to employees or extends to independent contractors, whether equity-based compensation falls within its scope, and what tax consequences employers face when eliminating repayment obligations. These uncertainties suggest continued litigation risk and potential need for legislative clarification.