An overview of holiday pay and overtime
As you may be aware, in the recent case of Dudley Metropolitan Borough Council v Willetts and others, the Employment Appeal Tribunal (EAT) has clarified the law on voluntary overtime and holiday pay (an issue which had not been decided by previous landmark cases). In light of this, we have set out a brief summary of the current law and have provided practical advice on the calculation of holiday pay.
THE CURRENT LAW
The Working Time Directive (WTD) is implemented into UK law by the Working Time Regulations (WTR 1998). Article 7 of the WTD provides that member states shall take measures necessary to ensure that workers have the right to take at least four weeks’ paid annual leave (which for a full-time worker amounts to 20 days’ annual leave), whereas the WTR 1998 provides workers with 5.6 weeks’ paid annual leave (the equivalent to 28 days’ leave for full-time workers).
The amount a worker should receive as payment for this leave has caused much debate in recent times. Whilst the legislation provides that a worker should receive a week’s pay for each week of leave, there is some confusion over what this actually means. This is particularly problematic for workers whose pay varies (either because they have worked overtime or they have earned commission). In this kind of scenario is the employee entitled to the equivalent of a week’s basic salary i.e. without the additional benefits of overtime and commission etc. or are they entitled to a figure which includes these additional elements?
WHAT WE KNOW SO FAR:
Given the uncertainty around the amount of a week’s pay, there has been a significant amount of case law developed in this area. At present it appears that the following payments need to be included when calculating holiday pay:
- Compulsory overtime
- Guaranteed overtime
- Results-based commission
- Non-guaranteed overtime (if it so frequent that it can be rendered ‘normal’)
Following the recent case of Dudley Metropolitan Borough Council v Willetts and others this has been increased to include:
- Voluntary overtime (if worked for a sufficient period of time on a regular basis)
- Out-of-hours standby pay
- Call-out payments
- Mileage allowances (if usually treated as a taxable benefit)
It is important to remember that the kind of payments above are just those which have been tested in the Court and Tribunal system – there are many more salary variations which may be considered to be “intrinsically linked” to the worker’s performance and may thus also have to be included within any holiday pay calculations.
With so many different emoluments to consider, there is inevitably a practical problem in calculating holiday pay correctly. Even if we accept the bullet points above as being an exhaustive list of what ought to be included within a “week’s pay”, there are inevitably issues with working out what to pay workers when they take holiday (given that what they are paid will undoubtedly vary from week to week).
In respect of the actual calculations to be used when trying to work out how much a worker is entitled to when they take annual leave, there are two schools of thought.
The first is derived from statute and from case law and suggests that a week’s pay should be calculated as an average of all remuneration earned by the worker in 12 working weeks before the holiday. Whilst this calculation method may be administratively cumbersome it is, at least, relatively simple (assuming of course that care is taken to ensure that all figures included within that 12-week period are part of the workers ‘normal’ remuneration and thus to be included in the calculations for holiday pay).
The second option seeks to combat what is perceived to be potential unfairness in the 12-week calculation method described above. The theory is that using the 12-week method to calculate holiday pay may unfairly skew the amount of holiday pay to be paid. For example, a person employed in the retail sector may be offered frequent over time in winter months, such that the 12-week calculation period would mean that they are afforded more holiday pay if they were to take their entitlement early in the following calendar year, than they would be if they took their holiday entitlement later in the year.
The suggestion is that employers pay their workers holiday pay by reference to their basic salary alone (i.e. without the additional remuneration listed in the bullet points above). The employers must then, at the end of the holiday year, calculate what the employee actually earned over the course of the entire year (assuming those earnings fall into the categories listed in the bullet points above) so as to enable them to work out the difference between that figure and the workers’ basic salary entitlement. The difference must then be divided by 52 before being multiplied by the number of week’s holiday the worker had taken in the previous year. The total amount must then be paid to the worker as a lump sum.
AS A WORKED EXAMPLE:
Wayne the worker earns a basic salary of £20,000 gross per annum, although he is entitled to paid voluntary overtime. He does not benefit from any other payments. Wayne took 4 weeks’ holiday in the previous holiday year, for which he was paid the equivalent of his basic salary.
Wayne’s total earnings in the last holiday year amounted to £23,120 (as throughout the course of the year he had taken advantage of the paid voluntary overtime on a regular basis).
To calculate the lump sum payment to which he is entitled his employer should use the following calculation.
£23,120 - £20,000 = £3,120
£3,120 ÷ 52 = £60
£60 x 4 = £240
The employer, therefore, owes Wayne £240 in respect of unpaid holiday pay, which they should provide to him in one lump sum payment (subject to tax and national insurance contributions).
Whilst this method of calculation may not skew the payments to be made in the same way as the other calculation method, the natural consequence is that the lump sum payment will be used in the calculation of future holiday pay calculations unless it is consciously subtracted from the total earnings calculation.
Whilst this note provides some options for calculating holiday pay it does not address any other issues such as:
- Whether this applies to the 4-week entitlement included within the WTD or the full 5.6-week entitlement permitted by the WTR;
- How to calculate the payment of holiday for those who start part way through the holiday year;
- How to calculate the payment of holiday for those who leave employment part way through the holiday year; and
- How the workers’ contractual terms may influence all of the above.