Error handling in toBlocking()

You can't do that, you will need to wrap it with try/catch block, toBlocking() transform the Observable to BlockingObservable which is not exactly reactive block, more like fancy collection, it's now lack the power of composing Observables, operators, controlling the thread/parallelism, and the basic construct of async API, which has error handling built in, (onError())

That what the docs stated about BlockingObservable:

It can be useful for testing and demo purposes, but is generally inappropriate for production applications (if you think you need to use a BlockingObservable this is usually a sign that you should rethink your design).

So, what is the point to act with blocking observable? if you can't change the interface to Observable, then you probably missing all the point of using Rx and Observable, which is (at ideal) to abstract out every event based operation in the system, and then being able to use the power of Operators/Composition/Async management and construct event streams in your system.
If you just wrap some API operation with Observable and then return it back to non-reactive world, then the consumer of the API can't enjoy all the aforementioned benefits of Rx.
So, I think you should reconsider what is the purpose of doing that, and what is your final goal, you can consider replacing to Reactive approach in few places in your system for start.

We have another option to handler error by using variant method to handle error as onErrorReturn ...

public List<Employee> getEmployees() {
    return repository.getEmployees().onErrorReturn{
       //Do something 
       //Then return value in case error happened
    }.toBlocking().single(); 
}