Certain voluntary overtime payments should be included in the calculation of holiday pay, due to a landmark Employment Appeal Tribunal (EAT) decision on 4 November. Millions of workers could now have their holiday pay recalculated to take this into account.
This is the EAT decision in Bear Scotland v Fulton and related appeals, which is a further development for UK employers when calculating holiday pay. An important issue that has been scrutinised recently by the European Court of Justice (ECJ).
We explain what this means for employers.
How much paid holiday are UK workers allowed?
Under EU law (the Working Time Directive) workers are allowed 4 weeks of paid holiday. This European legislation is enacted in the UK by way of our national legislation, the Working Time Regulations 1998.
The UK has chosen to require employers to give workers more than the 4 weeks minimum paid holiday entitlement. Instead, UK full-time workers must be given 5.6 weeks of holiday (or 28 days) and part-time workers receive a pro rata amount of holiday.
How should holiday pay be calculated?
This is the big issue for employers. There have been a number of recent UK cases on this question that have been considered by the European Court of Justice (ECJ) and Employment Appeal Tribunal (EAT).
In the UK, holiday pay has been calculated under a complicated statutory regime using a “week’s pay”, which for many is based on basic salary and excludes variable payments such as voluntary overtime and commission. Employers calculating holiday pay like this have, until recently, been considered to be acting fairly and in line with the law. But, this position has been changing and challenged as not being in line with the Working Time Directive.
The recent EAT case has ruled that some non-guaranteed overtime payments should be included in the calculation of holiday pay. This could have exposed employers to significant ongoing costs and major retrospective liabilities in relation to holiday pay, if workers are able to make historic claims.
This case follows recent ECJ judgments that have redefined holiday pay. The principle of these new cases has been that holiday pay entitlement should not be limited to basic salary, but must be comparable with workers’ “normal remuneration”. This includes payments “intrinsically linked” to the tasks a worker carries out under their contract of employment. Furthermore, that in taking holiday, workers should not be put at a financial disadvantage by receiving less pay (i.e. at basic rate only) during their statutory annual leave. The implication of these cases being that previously excluded payments should be included in the calculation of holiday pay, such as bonuses, overtime, commission, shift allowances and travel allowances.
The notable ECJ case of Lock v British Gas Trading Ltd, required commission payments to be taken into account when calculating holiday pay. This judgment found that an element of commission pay should be included in holiday pay to take into account commissions on sales that could not be achieved while a worker is on holiday. We are currently waiting for guidance from the UK courts on how this payment should be calculated.
Why is the Bear Scotland and related appeals case significant for employers?
This EAT case is significant because it confirms the UK courts are interpreting UK law in line with the recent ECJ judgments on holiday pay. This case decided that certain types of overtime should now be included in holiday pay, which is likely to be significant for many employers.
This EAT judgment in this case considered non-guaranteed overtime (where an employer is not obliged to offer overtime, but a worker is required to work if offered). This type of overtime should now be part of the calculation for holiday pay.
However, this case still leaves it open to argument whether voluntary overtime (i.e. overtime an employer can choose to offer, but a worker does not have to work) should be included for holiday pay purposes. It is useful for employers that the Employment Judge in this case carefully differentiated between the two terms of “non-guaranteed overtime” and “voluntary overtime.” Also, that reference was made to voluntary overtime being included as part of “normal pay”, only if a regular pattern of taking it had developed over a sufficient period of time to justify the label of “normal pay”. So, at best it seems voluntary overtime should be included in holiday pay only on a case specific basis.
This case also decided that other allowances paid to workers, which were directly linked to their work and not just expenses should be included in holiday pay (in this case, an allowance for travelling beyond a certain radius and payments for time spent travelling).
Retrospective liability
The crucial question that employers have been asking is what is their backdated liability for claims of what would now be seen as incorrectly calculated holiday pay. (This would be where the types of overtime and allowances outlined above have not been included in holiday pay. But, would also be relevant in related cases where other variable payments, such as commission, have not been taken into account).
There had been much speculation that this liability might go back to when the Working Time Regulations were implemented in 1998 or when an individual started working for an employer, if after that date.
However, in the case of Bear Scotland and related appeals, the EAT significantly limited the extent to which workers can claim back-dated holiday pay. It held that workers cannot use each underpayment of holiday pay as part of a claim for a series of deductions (or underpayments) where there has been a gap of more than three months between each underpayment. Also, there is generally a time limit of three months on claims from the last/only underpayment.
This means employers will have to review each case individually to decide if a worker is due any underpaid holiday pay. It is important to note it is the payment dates that count for working out the time limits of claims, not the dates when the holiday was taken.
Employers’ retrospective liability for holiday pay claims, has been further limited by the EAT judgment suggesting that the inclusion of non-guaranteed overtime in holiday only affects the first 4 weeks of paid holiday entitlement a worker might take. Therefore reflecting the European Working Time Directive minimum entitlement of 4 weeks of paid holiday, rather than the greater UK entitlement of 5.6 weeks.
In practical terms, this additional restriction would mean that claims for holiday pay will generally be prevented from the point at which there is more than a three month gap between the first 4 weeks of annual holiday entitlement taken by a worker.
The overall effect of these restrictions on employer liability is that in most cases the claims for holiday pay will be limited to the current holiday year or the potential claim will be out of time already. It is likely to be the exception where a worker has a claim for backdated holiday pay stretching back over a number of years.
What should employers be doing now?
The EAT judgment in the Bear Scotland case has been widely reported and some of your staff may be assessing the value of potential claims. You may find that workers start asking you about holiday pay, if they have not done so already. It is not an issue that employers can ignore.
Compliance from now on
There has been a binding EAT decision on the calculation of holiday pay and overtime. This means employers should now include non-guaranteed overtime when calculating holiday pay. No doubt this will lead to additional expense and administrative burden for many employers.
We understand that there will be an appeal on this EAT decision, which means the position for employers on this issue could be uncertain for some time. In the meantime, employers could continue to pay employees less than the correct amount of holiday pay until we have more clarity, but we advise against this.
Unfortunately, the EAT decision does not give any guidance on how to calculate statutory holiday pay to take account of non-guaranteed overtime and allowances. So, we still do not know what a fully compliant approach to calculating holiday pay looks like. But, if your staff are likely to receive less than their normal take home pay during periods of annual leave, legal advice should be taken on how to best meet your legal obligations to workers and avoid holiday pay claims.
Practical steps for employers to take now:
• Review the variable payments that you make to staff, e.g. voluntary overtime, non-voluntary overtime, commission, shift allowances, travel allowances and other premiums in pay.
• Carrying out an audit of the workforce demographic and look at holiday patterns – this will help identify how long potential liabilities might go back for.
• Where required by the new case law change your calculation of holiday pay to include non-guaranteed overtime and allowances. Consider including other variable payments to avoid liability with developing case law.
• Consider if you are likely to have any claims and if you will negotiate your level of liability with your staff and settle the issue now. Significant historic claims going back a number of years are likely to be rare at the moment. But, there could be an appeal against the current limitations on liability.
• Remember that paid holiday is important to staff. If you receive a grievance, deal with it appropriately. A grievance could escalate in your workforce, leading to a significant cost for you.
• Seek legal advice if this is an issue for you and if you receive a claim for backdated holiday pay.
Laura McFadyen is a Partner in the employment law team at Stephens Scown solicitors. She is independently recognised as a Leading Individual by Chambers & Partners 2014, a national guide to the legal profession. You can contact Laura by phoning 01392 210700 emailing employment@stephens-scown.co.uk