Introduction

Can a brokerage hold its brokers liable to compensate it for the loss caused by the clients introduced by the brokers? In Black Marble Securities Limited v Lee Yan Chi [2023] HKCFI 1084, the Court of First Instance (“Court”) ruled that such compensation arrangement is not problematic per se, so long as the compensation is not paid out of the brokers’ salary and commission income in breach of s. 32(1) of the Employment Ordinance (Cap. 57) (“EO”).

Background

The plaintiff, Black Marble Securities Limited (“Black Marble”), was at all material times a Hong Kong company engaging in securities dealing. It employed the defendant, Ms Lee Yan Chi (“Ms Lee”), as a broker with a fixed monthly salary and commission income pursuant to two employment agreements dated August and December 2015 (collectively “Employment Agreement”). Black Marble and Ms Lee also separately entered into a Broker Cooperation Agreement dated 31 August 2015 (“Broker Agreement”), which Ms Lee alleged to be back-dated and was actually signed in August 2016. Under the Broker Agreement, Ms Lee would be personally liable to the loss caused to Black Marble due to the breach of responsibility or rules by Ms Lee’s clients (“Compensation Clause”). Ms Lee also claimed that at the time the Broker Agreement was signed, she entered into an oral agreement with Black Marble to the effect that any compensation payable to Black Marble under the Compensation Clause would be paid through deduction of her wages (“Oral Agreement”).

In July 2016, in breach of their client agreements with Black Marble, two clients of Ms Lee failed to settle their margin accounts. Ms Lee subsequently executed two undertakings agreeing to “freeze” part of her salary and commission to set-off the arrears owed by her clients, until they were fully paid by them (“Undertakings”). Black Marble withheld around HK$320,000 from Ms Lee’s salary and commission income, while a total amount of around HK$3 million was still owed by Ms Lee’s clients as at March 2020. Black Marble sued against Ms Lee for the amount outstanding when their employment relationship was terminated.

Issues

Ms Lee argued that the Oral Agreement supplemented the Broker Agreement, and rendered the Compensation Clause void for violation of s.32(1) of the EO.  In short, subject to certain exceptions (such as absence from work), s.32(1) provides that no deductions shall be made by an employer from the wages of his employee or from any other sum due to the employee otherwise than in accordance with the EO.

Black Marble denied the presence of the Oral Agreement. Even though Black Marble withheld part of Ms Lee’s salary and commission income, it merely “retained”, rather than “deducted” the amount pursuant to the Compensation Clause and the Undertakings. Alternatively, Black Marble argued that they had two relationships with Ms Lee: (1) Ms Lee was an employee of Black Marble pursuant to the Employment Agreement, and (2) she was also an independent contractor of Black Marble pursuant to the Broker Agreement. As the Broker Agreement is not part of the terms of her employment, the Oral Agreement purported to supplement it shall not be bound by the EO.

Decisions

Effect of the Oral Agreement

The key argument of Ms Lee was the Oral Agreement amounted to a deduction of her salary and commission income in breach of s. 32(1) of the EO. On the facts of the case, the Court found that the Oral Agreement was not made on the same occasion as the Broker Agreement, and was not made as a supplement to, or as part of, the Broker Agreement, but on a separate occasion shortly thereafter. Besides, no consideration was given for entering into the Oral Agreement. Hence, it was not a binding agreement with any effect. The Oral Agreement therefore did not affect the operation of the Broker Agreement.

The Court also pointed out that Black Marble’s retention of Ms Lee salary and commission income in the sum of around HK$320,000 was not in itself problematic in the absence of the Oral Agreement, which was not objected by Ms Lee. In the absence of the basis to challenge the validity of the Compensation Clause, any challenge to the withholding of Ms Lee’s salary and commission income made little practical difference to the overall outcome given Black Marble’s claim for set-off.

Was Ms Lee an employee or independent contractor?

Black Marble submitted that the Compensation Clause placed substantial degree of risk on the broker employed by Black Marble, and hence a broker thereunder was an independent contractor. The Court accepted that there were features of the Broker Agreement which suggested that, considering the Broker Agreement on its own, a broker thereunder was an independent contractor. However, there was another agreement between the parties constituted by the Employment Agreement. Ms Lee cannot be both an independent contractor and an employee in respect of the same duties at the same time. Applying the modern approach and considering the nature of Ms Lee’s duties, the degree of control of Black Marble over Ms Lee and the degree of reward and risk in both the Employment Agreement and the Broker Agreement, the Court ruled that Ms Lee was an employee of Black Marble. However given the Court’s ruling regarding the Oral Agreement, the relationship between Black Marble and Ms Lee has little effect on the validity of the Compensation Clause.

Penalty clause

As an alternative argument, Ms Lee submitted that the Compensation Clause was a penalty clause in nature, as it was a secondary obligation that imposed a detriment on the contract breaker that was out of all proportions to any legitimate interest of the innocent party in the enforcement of the primary obligation (Law Ting Pong Secondary School v Chen Wai Wah [2021] 3 HKLRD 185)(Know more about the case here). Ms Lee argued that the clause in the Broker Agreement requiring a client to make the necessary deposit amounted to a primary obligation to her as a broker, while the Compensation Clause, which held her personally liable for the loss incurred by her client’s failure to make payments, created a secondary obligation upon her breach to perform her primary obligation.

The Court did not agree that a primary obligation had been created under the Broker Agreement as it did not suggest an obligation on the part of the broker to ensure that the client made the necessary deposit, though it was prudent for a broker to do so in view of the Compensation Clause. As such, no secondary obligation had been created on part of Ms Lee which rendered the Compensation Clause a penalty.

Key takeaways

While it may not be problematic for an employer to hold employees liable to its loss caused by clients, employers should be cautious not to charge compensation by way of deduction of wages in breach of s. 32(1) of the EO. Personal undertakings and deduction of salary payable to an independent contractor, however, will not be bound by the EO. When in doubt, it is advisable for employers to seek legal opinions.