A recent spate of holiday pay cases have gone before the courts and tribunals – leaving some employers confused about how to calculate holiday pay. However the situation is not as complicated as it seems and case law has provided useful guidance on how to approach holiday pay, writes Aida Smajlovic, employment solicitor at Gelbergs Solicitors.
The Working Time Regulations 1998 (“WTR 1998”), which implemented the Working Time Directive (2003/88/EC) (“WTD”), contain the main statutory framework governing holiday pay and leave entitlements. Under the WTR 1998 each worker is entitled to 5.6 weeks’ annual leave each year, pro-rated for part time workers. The entitlement is made up of:
The right under the WTD to 4 weeks’ annual leave;
A further 1.6 weeks’ leave for the 8 public holidays in the UK.
A worker is entitled to be paid in respect of any period of annual leave to which he is entitled under, at the rate of a week’s pay in respect of each week of leave (Regulation 16 WTR 1996).
So, this all seems pretty straightforward right? Well, not really. The rules on how to calculate a week’s pay are governed by ss. 221-224 Employment Rights Act 1996 (“ERA 1996”), with different rules for those with ‘normal working hours’, and those with ‘no normal working hours’.
For a worker with no normal working hours, a week’s pay is calculated as an average of all remuneration (including overtime and commission) earned in the preceding 12 weeks (s.224 ERA 1996). No account is to taken of a week in which no remuneration was payable.
For those with normal working hours, a week’s pay is calculated with reference to their normal hours of work. This would be basic salary and any guaranteed and compulsory overtime, but would not include bonuses, commission, non-guaranteed overtime payments etc. even where overtime was worked regularly.
Where the remuneration for a worker on normal hours varies, then a week’s pay is calculated by reference to the average of what was payable to the worker over the previous 12 weeks. If the pay varies according to the amount of work done, then commission and bonus could be included in the calculation of a week’s pay.
However, where the pay varies because of some other reason and not because of the amount of work done (for example, because the worker reached their target) then it is not included in the calculation. As regards overtime, this would only be included if it was compulsory and guaranteed (Bamsey v Albon Engineering and Manufacturing plc  IRLR 457).
It is evident from the above that those working normal hours, or with varying pay for normal hours, were losing out financially when taking leave, since the calculation of a week’s pay did not include all their earnings, but instead only basic pay and guaranteed and compulsory overtime.
The implication of this was that if a worker was financially worse off when taking holiday, they may be deterred from taking the leave altogether, which would defeat the purpose of an entitlement to paid leave and the intention of the WTD. After all the WTD was intended as a health and safety measure, to ensure workers were receiving adequate rest.
Moreover, the WTD required that workers receive “normal remuneration” during their WTD leave (the first four weeks of the 5.6 week leave entitlement under WTR 1998). This made for a confusing state of affairs, since it was arguable that normal remuneration included commission, non-guaranteed overtime etc. Yet the method of calculating a week’s pay for a worker with normal hours under the ERA 1996 excluded these payments.
How can you solve the problem?
Needless to say, various legal challenges ensued both in the domestic courts and the ECJ, for example:
Williams and others v British Airways plc  IRLR 948
This was a case brought by pilots against British Airways (BA), concerning the manner in which their holiday pay was calculated. When working, the pilots were entitled under contract to basic pay plus a flying pay supplement and a time away from base allowance. During periods of statutory leave, BA paid the pilots only their basic pay, on the basis of the above mentioned ‘normal working hours’ rules.
The case went to the Supreme Court, who referred the matter to the ECJ for guidance. The ECJ gave guidance stating that the supplementary payments should be included in the calculation of holiday pay, provided that they are intrinsically linked to the performance of tasks which a worker is contractually obliged to carry out (in this case the payments were linked to the pilots flying), and so must be taken into account when calculating holiday pay.
Lock v British Gas Trading Ltd and others  IRLR 648
Mr Lock received a basic salary plus commission based on the sales he achieved. His commission made up approximately 60% of his overall remuneration and it was paid a few weeks or months after the conclusion of a sale. During a period of annual leave, Mr Lock was paid his basic salary plus the commission that fell due during that period. The holiday pay did not include his commission, it was simply the case that the commission became due to be paid during that period.
Upon returning to work Mr Lock received less income because he had lost out on sales (and therefore commission) during the period he was on leave. He brought a claim for breach of WTR 1998 and succeeded. British Gas appealed, arguing that the WTD could not be interpreted so as to include commission as normal pay when calculating holiday pay. In February 2016 the Court of Appeal upheld Mr Lock’s case and found that commission should be included when calculating holiday pay. In 2017 the Supreme Court refused permission to British Gas for a further appeal.
Bear Scotland Ltd v Fulton and others UKEATS/0047/13
In this case, the EAT considered the issue of non-guaranteed overtime and certain travel-related allowances when calculating statutory holiday pay, in the light of the decisions in Williams and Lock. It found that non-guaranteed (rather than voluntary) overtime should be included when calculating holiday pay provided that there is an intrinsic or direct link between the payment claimed and the work a worker is required to carry out. Where overtime is required, meaning it is not voluntary, then it would be incorrect to hold that the resulting overtime pay was not intrinsically or directly linked to the work.
Brettle v Dudley Metropolitan Borough Council ET/1300537/16
This case concerned the issue of voluntary overtime, something which was not dealt with definitively by the Bear Scotland case. In Brettle, council workers worked voluntary overtime every 4-5 weeks, and argued that overtime payments should have been included when calculating their statutory holiday pay. The employment tribunal agreed, on the basis that working overtime one in every 4-5 weeks was considered regular enough for these purposes.
What can employers take from this?
Employers should ensure that they are calculating statutory holiday pay correctly for workers with normal working hours. This means the holiday pay for the leave entitlement derived from WTR (4 weeks of the 5.6 week entitlement) should include not only basic pay but also:
Commission (Lock v British Gas Trading Ltd and others);
Non-guaranteed overtime (Bear Scotland Ltd v Fulton and another);
Voluntary overtime – provided it was worked permanently and regularly enough so that it formed part of the worker’s normal remuneration (Brettle v Dudley Metropolitan Borough Council);
Allowances – provided they are linked intrinsically to the performance of tasks which a worker is contractually required to perform (Williams and others v British Airways plc);
Standby and emergency call-out payments (Fulton and another v Bear Scotland Ltd).
The position is relatively unchanged for workers with no normal working hours, since s.224 ERA 1996 already took the “normal remuneration” approach and included commission and overtime.
It is important to note that the changes to the holiday pay calculation only apply to the WTD element of a worker’s holiday entitlement (4 weeks), and the remaining 1.6 weeks would be calculated in the normal way applying ss.221-224 ERA 1996.
While many employers were initially concerned that the rulings would result in millions of pounds paid out in backdated holiday pay, this concern was somewhat alleviated by the Deduction from Wages (Limitation) Regulations 2014 (SI 2014/3322) which imposed a cap of two years on retrospective unlawful deduction from wages claims presented after 1 July 2015, including claims for holiday pay.
Employers should also be aware that a claim for underpaid holiday pay must be brought within 3 months of the deduction/underpayment. Where there are a ‘series of deductions’, the claim must be presented within 3 months of the last deduction. However, where three months or more has passed between each underpayment, this would break the series of deductions and limit how far back the worker can go when claiming unpaid holiday pay (Bear Scotland Ltd v Fulton and another).
If you are an employer that offers overtime, commission and allowances, you should review your calculation of holiday pay immediately to ensure that it is compliant with current law. It is worthwhile investing in professional advice now, to protect yourself and your business from problems and costly litigation further down the line.
There are various options available to employers, including:
Consider your working practices and the manner in which overtime and commission are offered and arranged;
Review working patterns and/or contracts, and amend if necessary;
Update payroll software to reduce the risk of mistakes/underpayment;
Consider using cheaper options to cover overtime e.g. agency or bank staff, automation, outsourcing etc.
Be mindful of limitation periods and what may break a series of deductions.