Important decision on how you calculate holiday pay
Last week, the Employment Appeals Tribunal published a decision on the calculation of holiday pay that made headline news (http://www.bbc.co.uk/news/business-29896810). The case, Bear Scotland and others, has confirmed that workers are entitled to be paid normal remuneration for their holiday and for four weeks of that holiday, normal remuneration includes non-guaranteed overtime. Unite claimed that ‘this ruling not only secures justice for our members who were short changed, but means employers have got to get their house in order’ and the Institute of Directors called it ‘a time bomb which could have a hugely detrimental impact on businesses up and down the country’. The government was quick to call a task force to assess the possible impact of the decision. What does the decision mean for you?
What is remuneration?
Basic pay or basic salary is the payment employees receive in return for work, typically paid weekly or monthly. In many employers, the basic pay is only one aspect of remuneration. There are many other remuneration mechanisms to reward specific aspects of the way the work is carried out, for example:
- Overtime is paid for those who work extra hours;
- On call allowances are awarded for those who agree to be ready for work at short notice;
- Shift allowances are awarded for working less convenient shifts;
- Commission rewards sales performance;
- Bonuses encourage loyalty and performance.
What is the purpose of holiday?
This may also seem like an obvious question but it goes to the root of the issue. According to the EU, the purpose of holiday is to allow a period of rest for the health of each worker. Under the EU Working Time Directive, holiday is considered as essential to the health of any worker and holiday pay is there to ensure that workers do take a rest. The minimum rest under the EU Directive is four weeks.
The EU Directive is implemented in the UK, through the Working Time Regulations. The UK took the decision to grant an extra 1.6 weeks additional holiday to rectify anomalies with the way in which bank holidays were addressed by employers. To make things easier, the statutory holiday entitlement in the UK is now 5.6 weeks inclusive of bank holidays. Despite this, the Bear case is only about the minimum four week rest period required by the EU Directive.
What is holiday pay?
This seems like another obvious question but the Bear case (which was joined with another two cases) was about a conflict on how holiday pay is calculated. The EU Directive does not give any guidance as to how the holiday pay should be assessed.
The UK Regulations calculate holiday pay in line with the rules on a week’s pay set out in the Employment Rights Act 1996. In this Act, for those working irregular hours, holiday pay is to be calculated as an average of their weekly remuneration (including overtime pay, bonuses and commission) calculated over a 12-week reference period. However, holiday pay for employees who have normal working hours is based on basic pay only, excluding other payments such as commission, bonuses and overtime.
There have been a number of cases over the past few years in the European Court of Justice (ECJ), challenging whether the UK Regulations have implemented the EU Directive properly. The root of most of these cases is to test whether the UK holiday pay system deters an employee from taking a holiday. For example, the ECJ have stopped the practice of rolled up holiday pay, i.e. paying workers a flat rate inclusive of holiday pay because the worker is less likely to take a rest if payment is not made at the time when he or she takes time off. Earlier this year the ECJ decided that commission and bonuses should also be included in holiday calculation. In the case of Lock v British Gas Trading Ltd it held that holiday pay under the Directive cannot be calculated based on basic salary alone where a worker’s remuneration includes commission determined with reference to sales achieved. In this case commission made for 60% of the remuneration. Lock has been remitted back to the Employment Tribunals in the UK and is expected to be heard next year.
In essence, all these decisions find that money paid to reward an employee going the extra mile should be taken into account when the employee is resting.
The Bear Case: Non Guaranteed overtime to be included in holiday pay
In the Bear case, the argument was about whether non-guaranteed overtime should be taken into account when calculating holiday pay for the EU four weeks’ holiday entitlement. The EAT decided that it should.
Non-guaranteed overtime is where the employer is not obliged to offer overtime, but when it does, the employee is obliged to work it.
Guaranteed overtime, where the employee is paid for the overtime regardless of whether they are needed to work it is already included in holiday pay under UK law.
Voluntary overtime is where the employer is not obliged to offer overtime and the employee is not obliged to do it. We are still expecting a decision from the higher courts on voluntary overtime but it is difficult to see why it should not be.
The EAT found a get out clause
Probably conscious that the risk of retrospective claims could seriously hinder the economy, the EAT considerably limited the scope of its decision.
A significant aspect of the Bear case is the limit on historic claims. Non-payment of holiday pay is an unauthorised deduction from wage which must be brought within three months of the deduction or the last in a series of deductions. The last in a series of deductions could potentially go as far back as 1998, which is when the Regulations were introduced. However, the ET decided that a gap of more than three months between two deductions would interrupt the series of deductions thereby limiting the potential claims.
This part of the judgement will almost certainly be appealed.
So, if there is a gap of more than three months from one holiday to the next, the deduction link is broken. As the Bear decision only covers the EU holiday entitlement of four weeks and not the extra 1.6 weeks, which could legitimately be paid at the basic salary rate, we also think that it is likely that each year, the series of deductions will naturally break.
The next big decision: Lock back to the UK courts
The cost of overtime for employers is likely to be small in comparison to the cost of commissions for sales people. In the case of Lock where the commission accounts for 60% of the salary the increase in the wage bill would be approximately 5%. Looking at the way the cases have been developing, we think that it is likely that the Lock case will go the same way.
How you deal with variable pay in your contracts is going to be crucial. Do you pay overtime or commission?
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