Calculating holiday pay is proving to be a hot topic at the moment, with recent employment tribunal and European Court decisions hitting the headlines.
We answer the questions employers are grappling with as a result of these decisions.
How much holiday are workers entitled to?
Under the Working Time Regulations 1998 (WTR) workers are entitled to a statutory minimum of 5.6 weeks' (28 days') paid holiday a year. This is a more generous entitlement than the 4 weeks provided for in the Working Time Directive (Directive) from which we get the WTR. This is important since the principles coming from the European cases only apply to the 4 week period.
How is holiday pay currently calculated?
The WTR adopt the concept of 'a week's pay' which is used to calculate weekly pay for various purposes such as statutory redundancy pay. Calculation of a week's pay depends on the working pattern. Workers can be divided into four categories. Depending on which category the worker falls into will determine what elements of their pay should be included in the calculation of holiday pay as follows:
- Those with normal working hours whose pay does not vary - holiday pay is the same as pay for working normal working hours
- Those with normal working hours whose pay varies with the amount of work done - holiday pay is calculated by multiplying the hourly rate of pay averaged over the last 12 week period by weekly normal working hours. Overtime hours are included as part of normal working hours but only at the normal rate of pay whereas shift allowance is included in calculating the hourly rate of pay
- Those with normal working hours whose pay varies with the time when work is done - holiday pay calculated as in the point above
- Those who do not have normal working hours - holiday pay is an average of all sums earned in the previous 12 working weeks including all overtime and commission
What is the current position on including commission in holiday pay calculations?
The European Court has recently held that payments linked to the tasks that the worker might be required to carry out under his contract must be taken into account when calculating holiday pay, and this can include commission. Therefore, where workers earn basic pay and commission in the normal course of their work, both elements should be taken into account in calculating holiday pay, but only in respect of the 4 weeks' holiday granted by the Directive.
However, how this is to be achieved in practice is not clear. The most sensible solution seems to be to average commission over a 12 month period to be paid on a monthly basis. However, there is no guarantee such an approach will be sufficient and we will need further guidance from the courts on this.
Is this the same for overtime?
At the moment, overtime pay does not count towards the calculation of holiday pay unless it is compulsory and guaranteed. However, this position is currently being challenged and a decision of the Employment Appeal Tribunal (EAT) is imminent. In light of the European Court's recent decisions it is very likely that overtime which is 'intrinsically linked' to the duties a worker is required to carry out under his contract should be included, again at least in respect of the 4 weeks' holiday under the Directive.
What is meant by 'intrinsically linked'?
Whilst the courts use the phrase 'intrinsically linked to the performance of the worker's task' they have not provided clear guidance as to what this means. In practice we must consider whether the specific actions of the worker contribute to the pay they received during the relevant pay period. The courts are looking to protect workers from earning a lower salary in the pay period during which holiday falls and, where relevant, in the pay periods that follow. For example, workers who receive variable premiums are likely to be entitled to receive those premiums even though they have not carried out any shifts whilst on holiday. Such premiums are likely to be considered intrinsically linked to the performance of the task.
How about other contractual payments?
Where the payment is not intrinsically linked to the work being carried out, it is likely that it will not need to be considered for annual leave purposes. Therefore annual bonuses and other one off payments are likely to remain outside of the equation. However whilst we do not yet have certainty it is entirely possible that other contractual payments such as acting up allowances will need to be taken into account when calculating holiday pay in the event that the EAT delivers the expected outcome in relation to overtime pay.
Should we wait and see how the law develops before making any changes to our current practice?
Holiday pay claims can be brought in the employment tribunal as an unlawful deduction of wages claim within three months of the last in the series of deductions. This potentially means that workers can claim there has been a series of deductions extending over multiple years, potentially going as far back as 1998 when the WTR were introduced. Employers who pay commission or overtime but do not include it within holiday pay calculations may want to change their holiday pay calculations now if they can (ie where they do not have to run such a change by any trade union representative body first) so as to put an end to the potential series of deductions. This means that workers would have to bring any claim within three months from the change being made or else would lose the ability to do so.
However, with the current uncertainty over how commission and overtime is actually to be included in the calculations, any change could prove insufficient or unnecessary in the future but the employer would be bound to continue with it. In addition, any change could highlight the legacy of underpayments to workers, especially those in a unionised environment. It will therefore be up to each employer to decide which is the most prudent approach given the specific circumstances of their business.
Our view is that the EAT will be bound by earlier European cases and therefore the method of calculating holiday pay will change meaning a certain increase in costs to employers.