AB 692: Preparing for California’s 2026 restrictions on “stay-or-pay” provisions

Any term that violates AB 692 will be void as an unlawful restraint of trade and will give rise to a private right of action with specified remedies. AB 692 represents another step by the California legislature to limit restraints on workers.

Overview

AB 692 (“AB 692” or the “Bill”) will apply only to agreements between employers and workers that are entered into on or after January 1, 2026.

The Bill defines “employer” broadly to cover any entity or person that employs workers, including parent companies, subsidiaries, divisions, affiliates, contractors, hiring parties, and third‑party agents (an “Employer”).¹ AB 692 also defines “worker” broadly to include “[any] natural person who is permitted to work for or on behalf of an employer or business entity, or who is permitted to participate in any other work relationship, job training program, or skills training program” and expressly covers, without limitation, current and prospective employees (each, a “Worker”).²

For agreements signed on or after that date, the Bill bans three broad categories of separation‑triggered terms:

1. Any term that requires a Worker to pay an Employer, training provider, or debt collector for a debt when their employment or engagement ends
2. Any term that allows an Employer or debt collector to start or resume collection of a debt, or to end a pause on collections, because a Worker’s employment or engagement ends
3. Any term that imposes a monetary penalty, fee, or cost on the Worker because their employment or engagement ends (collectively but excluding terms that qualify an exception under AB 692, “Prohibited Terms”)³

AB 692 takes a broad view of “debts” and “penalties, fees, or costs” tied to separation. “Debts” reach any “money, personal property, or their equivalent that is due or owing or alleged to be due or owing from a natural person to another person, including, but not limited to, for employment-related costs, education-related costs, or a consumer financial product or service, regardless of whether the debt is certain, contingent, or incurred voluntarily.”⁴

“Penalties, fees, or costs” are defined to include, without limitation, replacement hire fees, retraining fees, replacement fees, quit fees, reimbursement for immigration or visa-related costs, liquidated damages, lost goodwill, and lost profit.⁵

AB 692 provides limited exceptions under which Worker repayment requirements may be permissible, each with strict conditions. Key exceptions for Employers include:

Unearned or discretionary payments

Certain agreements for receipt of unearned or discretionary payments at the outset of a service relationship that are not tied to specific job performance (such as sign-on bonuses) may lawfully require repayment if:

1. the terms of the repayment obligation are set forth in a separate agreement from the Worker’s service contract
2. the Worker is notified that they have the right to consult an attorney regarding the agreement and provided with a reasonable time period of not less than five business days to obtain advice of counsel prior to executing the agreement
3. the repayment obligation is not subject to interest accrual and is prorated based on the remaining term of any retention period, which cannot exceed two years from the receipt of payment
4. the Worker has an option to defer receipt of the payment until the end of a fully-served retention period without incurring any repayment obligation
5. separation from service prior to the retention period was at the sole election of the Worker, or at the election of the Employer as a result of the Worker’s misconduct.

Certain tuition costs

Repayment of tuition costs may be permitted if the following conditions are met:

1. The tuition relates to a credential that the worker can use elsewhere.
2. The tuition arrangement is offered separate from the Worker’s service contract.
3. The training is not a condition of the Worker’s job.
4. The repayment amount is specified in the Worker’s tuition contract and is capped at the Employer’s actual cost.
5. The Worker’s tuition contract provides for a prorated repayment amount during any retention period that is proportional to the total repayment amount and the length of the retention period and does not require an accelerated payment schedule if the Worker separates from employment or engagement.
6. The Worker’s tuition contract does not require the Worker to repay the Employer if the Worker is terminated by the Employer, except if the service recipient terminates the Worker as a result of the Worker’s misconduct.

The Bill also provides for the following exceptions under which Worker repayment requirements may be permissible:

• Agreements under a loan repayment assistance or loan forgiveness program administered by a federal, state, or local government agency
• Agreements for an apprenticeship program approved by the Division of Apprenticeship Standards
• Agreements relating to the leasing, financing, or purchase of residential real property, including contracts governed by the California Residential Mortgage Lending Act

Under AB 692, Prohibited Terms are void and unenforceable and affected Workers (or their representatives) can sue for injunctive relief, the greater of actual damages or USD5,000 per affected Worker, and reasonable attorneys’ fees and costs.⁶

Key open issues

As AB 692 moves toward its 2026 effective date, several practical and doctrinal questions remain unresolved. As described above, the statute is drafted broadly in many respects, including with regard to the scope of covered agreements and prohibited conduct. The exceptions to AB 692 read more precisely, but it remains to be seen how strictly those exceptions will ultimately be construed and enforced. Uncertainty also persists around the treatment of contracts that were entered into prior to January 1, 2026 but are amended on or following that date.

Given AB 692’s stated policy objective of minimizing restrictions on Workers, there is a meaningful argument that post‑effective date amendments (particularly those that seek to restate or expand on a Prohibited Term) may be viewed as creating new agreements subject to the Bill’s restrictions.

There is also uncertainty around AB 692’s applicability to common terms regarding the forfeiture of incentive compensation. The Bill does not expressly prohibit the routine forfeiture of incentive compensation at termination, and its apparent focus is on repayment obligations (particularly in light of the definition of “penalties, fees, or costs,” which lists examples for which an affirmative repayment requirement is implicated) and collection activity. Whether the statute will be interpreted broadly to restrict forfeiture remains to be seen.

To the extent forfeiture is covered by AB 692 at all, we expect the most likely application of the statutory prohibition to be to the forfeiture or withholding of vested cash and equity or equity-based awards for which economic value is earned or determined before separation but is lost, withheld, or made contingent because employment ends.

California courts have consistently recognized that unvested incentive compensation that is conditioned on continued employment is considered “unearned” for purposes of state wage laws until applicable service requirements are satisfied.⁷ As such, we anticipate forfeiture will be a limited concern for unvested incentive compensation, including equity or equity-related incentive awards that are subject to service-based vesting.

While the California legislature analyses of the Bill suggest that for Workers who primarily reside and work in California and for controversies related to AB 692 that arise in California, choice-of-law or out-of-state venue provisions generally cannot be used to strip the protections afforded by AB 692 or require out-of-state adjudication, other key questions remain surrounding multistate arrangements.

These questions include which Workers are covered when services are performed partly inside and partly outside of California, and how AB 692 applies to both Workers residing outside of California and performing services within California and remote Workers who reside in California but support non‑California operations. Courts’ treatment of similar issues under California’s employee‑protection statutes will inform, but not definitively resolve, these questions.

AB 692 must also be harmonized with existing federal and state frameworks. Interactions with wage‑payment rules, federal tax and deferred‑compensation regimes (including Section 409A of the Internal Revenue Code), and other worker‑protection statutes may affect how “earned” amounts are evaluated for purposes of the unearned or discretionary payments exception in AB 692.

For example, constructs used to preserve a substantial risk of forfeiture under Section 409A (e.g., the requirement that a worker be employed or engaged on the payment date, despite having satisfied performance metrics applicable to a performance period that has already passed) may nonetheless be viewed for purposes of AB 692 as creating earned compensation that is merely paid later. In that case, the unearned or discretionary payments exception would be unavailable. These cross‑regime frictions are likely to be the subject of dispute.

Finally, there are unsettled issues that are particularly relevant in the context of equity and equity-related compensation programs. Common plan features such as repurchase rights triggered by termination or claw backs tied to post‑termination conduct may implicate AB 692 if they are interpreted to operate as exit‑conditioned “penalties, fees, or costs.”

Practical next steps

Employers should prepare for AB 692’s January 1, 2026 effective date by:

• reviewing their standard form offer letters, employment agreements, bonus and relocation agreements, training-repayment agreements, and any other agreements that may contain claw back language or impose repayment obligations in connection with a termination of employment or engagement, and removing any Prohibited Terms as applied to California employees
• drafting and maintaining AB 692 exception‑compliant template agreements (e.g., tuition cost agreements and unearned or discretionary payment agreements) that are separate from service contracts and incorporate all statutory prerequisites (including required notices and attorney‑review periods, capped and prorated amounts without interest or acceleration, optional deferral where required, and misconduct‑only termination triggers where applicable)
• educating HR personnel, in-house counsel, and managers about the requirements and implications of AB 692
• monitoring any updates, guidance, and case law interpreting AB 692, with a particular focus on guidance on the open issues raised above, and consulting with legal counsel, as needed.

Footnotes

1. Cal. Bus. & Prof. Code § 16608(a).

2. Id.

3. Cal. Bus. & Prof. Code § 16608(b)(1)(A)–(C).

4. Cal. Bus. & Prof. Code § 16608(a).

5. Id.

6. Cal. Lab. Code § 926.

7. Schachter v. Citigroup, Inc., 47 Cal. 4th 610 (Supreme Court of California, 2009).