In theory, calculating holiday pay should be relatively straightforward. However, several tribunal decisions since 2014 mean employers should consider additional factors such as overtime and commission payments when considering an individual’s normal pay.
This has been the case now for some time. However, employment case law is constantly changing, so employers must remain up to date and ensure the law is being applied correctly to avoid costly tribunal claims.
The basic principle when calculating holiday pay is that employees should receive the same pay during annual leave that they would have received had they been at work. Keep reading to learn about holiday entitlement and how to calculate holiday pay!
Holiday entitlement: how much annual leave are employees entitled to?
All employees are entitled to 5.6 weeks (28 days) of annual leave per year. This includes bank holidays. Of these 5.6 weeks, 20 days derive from European law, and eight are provided under UK law. (However, there is a current proposal to combine these elements, as part of the Government’s proposed retained EU employment law reforms).
Part-time employees are entitled to the same holiday on a pro-rata basis. A company can choose when their holiday year starts and ends; many choose to align this with the calendar year in January or the tax year in April.
If an employee joins the company partway through a holiday year, you should calculate their holiday entitlement on a pro-rata basis for the remainder of the year.
How to calculate holiday pay: calculating average pay for variable working patterns
Let’s consider how to calculate holiday pay when it comes to variable hours workers. Full time employees that work regular hours won’t notice a difference in pay, whether they take annual leave or not. A week’s annual leave doesn’t usually change the amount of pay they receive at the end of the month.
However, calculating average pay can become more complex when someone doesn’t work a fixed pattern. This is because they don’t receive the same pay each week.
52 week average approach
But how do you calculate holiday pay in practice? One approach is to look back at a worker’s previous 52 paid weeks (referred to as the reference period). Using this reference period, employers can calculate what that individual should be paid for a week’s leave.
Since 6 April 2020, the reference period for calculating average pay increased from 12 weeks to 52 weeks. This change comes from the Government’s Good Work plan.
Rolled-up holiday pay approach
Another way to approach it is by using rolled-up holiday pay.
On 8 November 2023, the Government announced proposed changes to the process for calculating holiday pay for employees who work irregular hours or have part-year contracts. Effective from 1 January 2024, employers are now able able to use the ‘rolled-up holiday pay’ approach, which was stopped following the outcome of the Harpur Trust v Brazel case. This essentially means that it will be more straight forward for employers to calculate holiday pay. The change allows employers to pay their employees 12.07% of hours worked, instead of calculate an average using the 52 week reference period.
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How to calculate a week’s holiday pay
Regulation 16 of the Working Time Regulations 1998 (SI 1998/1833) requires workers to be paid at the rate of “a week’s pay” for each week of their statutory annual leave. Under the Employment Rights Act 1996, a week’s pay – in simple terms – is how much money an employee would be paid under their current employment contract if they worked their normal working hours for a week.
However, there are several extra considerations for employers due to decisions made by the UK courts and the European Court of Justice (ECJ). These decisions impact the calculation for statutory holiday pay during the four-week entitlement, specifically regarding overtime and commission payments. We’ll discuss these cases in more detail in the next section.
In summary, employees who take annual leave should not lose pay. They should continue to be paid as normal and suffer no disadvantage from taking a holiday. Otherwise, there would be an incentive for employees not to take their full holiday entitlement, and that would undermine the protection of the Working Time Directive.
Employment case law regarding holiday pay calculations
A series of critical cases have outlined which factors of pay should be considered as ‘normal remuneration’ for the purposes of calculating holiday pay. We have summarised the findings from each of the cases below.
Calculating holiday pay for workers who work part of the year in Harpur Trust v Brazel
In Harpur Trust v Brazel, a music teacher who was employed to work term time only argued that the method used to calculate her holiday pay on a pro-rata basis was in breach of legislation. The Supreme Court upheld that employees who work part of the year should be entitled to the same holiday as those that work all year.
This decision will have far-reaching implications for businesses that employ workers who work for part of the year under a permanent or continuous contract with irregular hours, such as zero-hours, term-time only or seasonal workers.
At the time, it meant that employers could not use the percentage method, i.e. 12.07% of hours worked, to calculate holiday pay for variable hours workers. However, following changes in legislation, employers can now in fact use ‘rolled-up holiday pay’ as a way of calculating and paying employees who work irregular hours or have part-year contracts.
Read the background of the case and guidance for employers in our case law summary: Calculation of Holiday Pay: Harpur Trust v Brazel
Including pay linked to the performance of a task in holiday pay calculations in Williams and others v British Airways plc 2011
In Williams and others v British Airways plc [2011] IRLR 948 ECJ, the European Court of Justice (ECJ) held that any part of pay linked to the performance of tasks required by a worker should be included in the calculation. This decision meant that an allowance for the time spent flying should be considered when calculating pilots’ holiday pay.
Including commission in holiday pay calculations in Lock v British Gas Trading Ltd
In Lock v British Gas Trading Ltd [2014] IRLR 648 ECJ, the ECJ held that holiday pay should include a payment representing the commission the worker would have earned if they had not taken annual leave.
You can read our full breakdown on the Lock v Bristish gas case here: Holiday pay and commission
Including regular overtime in holiday pay calculations in case law
Following the EAT’s decision in Bear Scotland Ltd and others v Fulton and others; Hertel (UK) Ltd v Woods and others; Amec Group Ltd v Law and others [2015] IRLR 15 EAT, a week’s pay must include regular overtime employees are required to work, even if the company is not contractually obliged to offer a minimum number of overtime hours.
In East of England Ambulance Service NHS Trust v Flowers and others [2019] IRLR 798 CA, the Court of Appeal confirmed that this also applies to voluntary overtime. For example, where voluntary overtime is paid and is part of a regular pattern of work, to amount to ‘normal remuneration’.
Greater potential liabilities associated with undercalculating and underpaying holiday
In Chief Constable of Northern Ireland Police v Agnew, the Supreme Court held that a 3 month gap between underpayments, nor making a correct payment, would mean that earlier claims should be rejected and this would be for the tribunals to determine. As a result, employers may be liable to back pay underpaid holiday for a claim for the last deduction, plus all deductions of a similar type, regardless of whether the break between underpayments is longer than 3 months.
Do these findings apply to the full 5.6 weeks entitlement?
In short, yes, they do. As of 4th October 2023, the Supreme Court held in respect of the Chief Constable of Northern Ireland Police v Agnew case that employers cannot claim the first 4 weeks of holiday as EU leave and the remaining 1.6 weeks as UK leave. Instead, it should all be considered to be from the same ‘pot’.
What should holiday pay include?
In light of the rulings in the above cases, we can determine that normal remuneration may include:
- Guaranteed overtime – overtime that is guaranteed according to the contract of employment.
- Non guaranteed overtime – regular overtime that workers are required to work, even where the company is not contractually obliged to offer a minimum of overtime hours.
- Voluntary overtime – overtime employers are not required to offer and individuals are not required to work.
- Bonus payments – additional payments including attendance bonuses and productivity bonuses, for instance where employees meet or exceed targets.
- Commission payments – Payments that are made to individuals on selling a certain amount of goods or services, which would have been earned during a period of annual leave.
- Flying allowances – pilots flying time should be included.
- Travelling-time allowances – there should be an allowance for time spent travelling if this is linked to the performance of normal duties.
Claims for holiday pay underpayments
A number of organisations have been required to review their approaches to holiday pay. This is due to the 2014 rulings and the decisions within the courts following these. In many cases, employees have been entitled to claim back pay.
There are currently some factors to consider when looking at whether an employee can claim for an underpayment. This includes:
- Limitation period – there is a period for bringing claims for underpaid holiday and this is 3 months. Therefore an employee has 3 months from the last underpayment to raise a claim.
- Series of deductions – However, as a result of the Supreme Court decision in relation to Chief Constable of the Police Service of Northern Ireland v Agnew, a series of deductions will no longer be broken if a gap of 3 months or more exists between deductions. Therefore, gaps between deductions are essentially irrelevant. Series of deductions can now be linked, despite being broken by periods of time, when considering all relevant circumstances, such as their frequency, size and impact.
- Backdating claims – despite the gap between series of deductions being disregarded, there is still a backstop in place in the UK to prevent employees from claiming for unlawful deductions for the duration of their tenure. Employees can backdate claims for up to 2 years, after this, even if an employee had been underpaid beyond this, they could not claim it back.
Do these limits comply with EU law?
There may be doubt going forwards as to whether the above limits can be applied. There is an argument that to limit claims for backpay to two years is not compatible with EU law. In addition to this, the 3 month gap between underpayments is open to challenge.
In Chief Constable of Northern Ireland Police v Agnew, the Court of Appeal in Northern Ireland held that a 3 month gap between underpayments, nor making a correct payment, would mean that earlier claims can be rejected and this would be for the tribunals to determine. The Court also found that employers cannot claim the first 4 weeks of holiday as EU leave and the remaining 1.6 weeks as UK leave. Instead, it should all be considered as a whole.
Whilst this decision isn’t binding directly in England, Wales or Scotland, it could provide an incentive to challenge the limits set out above. If this were the case, and a successful challenge was made, claims for underpayments could go back as far as the workers start date or to 1998.
How to calculate holiday pay correctly and your next steps
Since the 2014 ruling, many companies have had to review their methods of calculating holiday pay. In many cases, companies have been required to make back payments to staff. If you haven’t done so already, you should be taking steps to ensure that your company’s approach to holiday pay is lawful.
If you are concerned, then it’s sensible to take steps to address these concerns. Firstly, review how much pay your employees are receiving during their holiday. This should be reflective of their normal remuneration.
Where holiday pay does not reflect normal pay, you should determine the correct amount of pay that should have been paid. Then, we recommend seeking advice on how best to approach the situation regarding potential back payments.
As employment case law is constantly evolving, employers are advised to stay updated on changes. We’ll continue to update this guide on calculating holiday pay. Sign up to our newsletter to receive the updates.
How we can help
If you’d like to talk to one of our team of People Partners about how to calculate holiday pay in your business, we’d love to hear from you. Give us a call or email office@fitzgeraldhr.co.uk
