In an article first published by Lexis Nexis on 26 November 2014, Rachel Mathieson of Druces LLP’s Employment team considers employers’ options as to holiday pay.

What should be included when calculating holiday pay?

The Working Time Directive 2003/88/EC, art 7 (WTD) leaves member states to determine how a worker’s holiday pay should be calculated. However guidance has been given by the European Court of Justice (ECJ) in Robinson-Steele v RD Retail Service Ltd: C-131/04 [2006] All ER (D) 238 (Mar) where it was held that ‘paid annual leave’ in WTD, art 7 means that holiday pay should reflect ‘normal remuneration’.

Under the Working Time Regulations 1998, SI 1998/1833 (WTR 1998) workers are entitled to be paid ‘in re-spect of any period of annual leave to which they are entitled’ at a rate of one week’s pay for each week of leave.

If a worker’s remuneration varies then the amount of one week’s pay is averaged over a 12 week rolling period. However, it should be noted if an employee is sick for an entire week during that 12 week period that week should be ignored and the employer should go back to the 13th week.

Should allowances be taken into account when calculating holiday pay?

The ECJ held in the recent case of Williams and others v British Airways plc: C-155/10 [2011] All ER (D) 65 (Sep) that the holiday pay rate for pilots should not be limited to their basic wage but instead must relate to ‘normal remuneration’.

On top of their basic salary, pilots receive a ‘flying pay supplement’ and a ‘time away from base allowance’ when not on UK soil. The employer had not taken these additional payments into account when calculating their holiday pay and the pilots successfully claimed this was unfair. As the flying pay supplement was inherently linked to the job that the pilots were obliged to perform under their contract it was held that this should be included in the calculation. However, the court noted that payments which are intended only to cover occasional or supplementary costs arising at the time of carrying out a worker’s contractual duties such as the ‘time away from base allowance’ do not need to be included in the calculation.

The court further clarified that the purpose of holiday pay is to put workers in a financial position equivalent to the financial position they are in during periods of work.

Although this case related to the Aviation Directive 2000/79/EC rather than the WTD the ECJ confirmed that the same principles apply to both.

Should commission be taken into account when calculating holiday pay?

In the case of Lock v British Gas Trading Ltd: C-539/12 [2014] All ER (D) 190 (May) it was held that where a worker’s remuneration includes commission which is calculated in relation to sales achieved then this should be taken into account when calculating holiday pay.

If commission was not taken into account then a worker could be financially worse off during annual leave and therefore it must be included in the calculation. The court emphasised that no employee should be financially worse off for being on annual leave as this could act as a deterrent from taking holiday which is at cross purposes with the WTD’s intentions.

Should voluntary overtime be taken into account when calculating holiday pay?

Historically, overtime has only been included in the holiday pay calculation if it is compulsory as well as guaranteed. However recent cases in the tribunal have indicated otherwise.

The tribunal held in the case of Neal v Freightliner that overtime should be included. Unfortunately the case settled outside of court before reaching the Employment Appeal Tribunal (EAT) and therefore no binding decision was made.

The position though has finally been confirmed by the EAT in the following three cases Bear Scotland Ltd v Fulton and Baxter; Hertel (UK) Ltd v Wood and others; Amec Group Ltd v Law and others UKEATS/0047/13/BI, [2014] All ER (D) 22 (Nov).

The EAT has confirmed that workers are entitled to be paid ‘normal remuneration’ for their minimum four-week (does not include the eight bank holidays) holiday entitlement under EU law, which includes non-guaranteed overtime–that is, overtime which the employer is not obliged to provide but which must be un-dertaken by the worker if requested.

The EAT also decided that the relevant provisions of UK law set out in WTR 1998 can be interpreted to be in line with EU law on this issue. As a result, workers who work non-guaranteed overtime are entitled to have their overtime pay factored into their holiday pay.

The judgment also limits the scope for workers to pursue historic claims for arrears of holiday pay. The EAT decided that claims alleging underpayment of holiday pay will be time barred if there was a break of at least three months between successive underpayments. A gap of more than three months means there can be no ‘series of deductions’ from holiday pay, so tribunals will not have jurisdiction to hear such claims.

Further, the EAT said that workers cannot retrospectively designate whether or not a holiday was part of their four-week minimum EU entitlement, so as to enable them to bring a claim within three months of the last in a ‘series’ of relevant deductions when they would otherwise be out of time.

It has been stated that there is a possibility of an appeal to the Court of Appeal (by the employers) against this interpretation of the WTR 1998, although the EAT has expressed the view that it would not have a rea-sonable prospect of success. In addition, the parts of the EAT’s judgment restricting the scope for retro-spective claims is also likely to be appealed (by the employees), so it seems that it is going to be sometime before this matter is going to be conclusively resolved.

Is an employee entitled to sick pay for sickness during annual leave?

If a worker becomes sick while on holiday then the days that they were sick do not count towards their annual leave allowance.

An employee who has been on long-term sick leave can claim accrued holiday pay. It has recently been decided in the EAT in the case of Sood Enterprises Ltd v Healey UKEATS/0015/12/BI that while employers are required to allow employees to carry over the four weeks’ annual leave provided for under the WTD if they have been unable to take this due to sickness, employers are not required to allow employees to carry over the additional eight days annual leave provided for under the WTR 1998. It was held that this was up to agreement between the parties.

On termination of employment a worker is entitled to full payment of any accrued untaken holiday. This ap-plies even on the death of an employee which was recently found in the case of Gülay Bollacke v K+K Klaas & Kock BV & Co K in Germany where the employer was held liable to pay 140.5 days of accrued but untaken holiday due to a long period of sick leave.

The level of pay for this period would be based on what the employee earned before they went on long term sick.

What should employers do now?

Employees who have not been paid the correct holiday pay can bring a backdated claim. In the civil courts a claim for breach of contract has a six year limitation period. An unlawful deductions claim brought in the Employment Tribunal can date back to 1998 in certain limited circumstances.

Therefore if employers expect they are not paying the correct amount of holiday pay they have several op-tions moving forwards.

Employers could settle potential backpay claims now. John Lewis recently did this paying out approximately £40m to its staff when they realised they had not been using the 12 week reference period for calculating holiday pay.

The advantages for employers in this is that this would boost the morale in the workforce and it also prevents the chance of future litigation and thus there are no ongoing contingent liabilities. The clear disadvantage is the cost of doing this which many employers would be unable to meet.

Employers could consider deferring payment of commission and overtime until paid annual leave is taken. Practically, this would involve the employer only providing commission once the employee has returned from a two week holiday for example. The advantage of this approach is that the employer could try to argue that entitlement did not arise in the 12 week reference period. The disadvantages would be that the employer would have to change current employment contracts in place and tribunals may treat the payment as contingent and therefore include it in calculations.

Employers could decide to pay overtime and commission going forward. This approach ignores what has happened up until now and moving forward the advantage of boosting the workforce morale. There is also the advantage that once three months have lapsed employees are out of time to bring a claim in the tribunal for unlawful deduction dating back to 1998. The disadvantage is that there is still a risk of litigation in the civil courts which means employees could still claim going back six years.

Employers could also consider reducing overtime and commission entitlements going forward on a pro-rata basis. This would maintain that the amount of holiday pay does not change. However, the employer would need to have a contractual right to do this as usually commission plans are reviewed annually. Additionally workers are likely to be very unhappy about this change and it may trigger claims for back pay and also for constructive dismissal.

If you require further information about holiday pay, please contact Rachel Mathieson.

This note is not intended to be taken as legal advice. It constitutes guidance only. It reflects the law as at 26 November 2014. 

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