On 4 November 2014, the Employment Appeal Tribunal (EAT) delivered a Judgment on how holiday pay should be calculated which will have a significant effect on many employers – Bear Scotland & Others v Fulton & Others.

The key points of the Judgment are as follows: 

1)         Workers are entitled to be paid a sum of money to reflect normal non-guaranteed overtime as part of their annual leave payments.

 2)         That applies only to the basic 4 weeks’ leave granted under the Working Time Directive, not the additional 1.6 weeks under Regulation 13A of the Working Time Regulations (WTR) which was introduced in 2007.

 3)         Claims for arrears of holiday pay will be out of time if there has been a break of more than 3 months between successive underpayments.  

The Judgment will probably be appealed, and the Secretary of State has set up a Task Force to discuss how to limit the impact on business.

Background

The WTR was introduced in 1998 by the UK government to give effect to the Working Time Directive which required all member states in the EU to introduce a minimum entitlement to 4 weeks’ paid leave (the WTD allowance).  The WTR specified that a worker must receive a week’s pay for a week’s holiday.  It did not define how to calculate a week’s pay. 

The Employment Rights Act 1996 defines a week’s pay by reference to employees who work normal working hours and employees who have no normal working hours.  Many employers have interpreted these provisions to exclude variable payments such as commission and overtime. 

In 2007, the WTR was amended so that all workers were entitled to an additional 1.6 weeks’ paid leave over above the WTD allowance of 4 weeks.  This meant that the total paid leave allowance increased to 5.6 weeks’ each year (28 days for an employee working 5 days a week).

Recent European Court of Justice (ECJ) decisions have defined the calculation of holiday pay as remuneration that is linked intrinsically to the performance of tasks which an employee is contractually obliged to do.  This means that any element of remuneration which is “intrinsic” to the performance of the job should be taken into account or holiday pay calculations.  This would include overtime and commission. 

The EAT Judgment

The Judge agreed with the ECJ interpretation of holiday pay and decided that normal non-guaranteed overtime (which was the nature of the overtime arrangements in these cases) should be taken into account when calculating holiday pay for the WTD 4 weeks’ holiday pay allowance.

What about occasional or purely voluntary overtime? The EAT did not deal with this as the Judgment was confined to the overtime arrangements in the cases (non-guaranteed overtime), but the test is likely to be whether such overtime is intrinsic to the performance of the job. If so, the answer is probably yes; if it is not, the answer is probably no – but this will become clearer over time.

Clearly this Judgment will not affect salaried employees who are required to work beyond contracted hours with no overtime entitlement.

Limit on liability

There is an important limit on liability for historic holiday pay. Any employee would have to claim unlawful deduction from pay, and rely on a series of deductions, the most recent of which would have to have been within 3 months of the date he issued his claim.  If a period of 3 months had elapsed since the most recent deduction (underpayment of holiday pay) his claim would be out of time. If a period of 3 months had elapsed between any deductions, the series of deductions would be broken, and the employee could not claim for any deductions before that break in the series of deductions.  There is always the caveat that an employee can try to convince the Tribunal that it was not reasonably practicable to make such a claim earlier, but this is difficult to establish.

It should be remembered that the EAT decision only applies to the WTD allowance (4 weeks), and not to the Regulation 13A extra 1.6 weeks (8 days) or any contractual extra holiday allowance.  Therefore, it will be possible to argue that the most recent holiday taken was either Regulation 13A or contractual extra (and not the WTD allowance), which was paid at the correct rate (without overtime), which might mean that any underpayment/unlawful deduction was more than 3 months ago.  Combining this argument with natural delays between holiday being taken and periods during which employees are not entitled to take holiday in accordance with company policies, is likely to be a significant factor in limiting the liability.

What should employers do?

Employers need to decide whether to change the way holiday pay is calculated (in respect of the WTD allowance), or await for the outcome of the appeal and/or any new legislation. 

Clearly if the new method of calculation is implemented, any potential claim for historic unlawful deductions will be broken after 3 months of the new arrangements.

Employers need to decide whether the new method of calculation would apply to all holiday pay, or just the WTD allowance. 

Before making a decision, it would be prudent for employers to conduct a risk benefit analysis – working out how many employees the new method of calculation potentially applies to (excluding those who are salaried and not entitled to overtime, and possibly those on zero hours contracts who simply work the hours offered and do not have overtime arrangements). Identify whether each variable pay component could be deemed “intrinsic” and therefore should be included in the calculation of the WTD allowance. 

If an employer decides not to change the method of payment it would be wise to budget for potential future claims. 

Bear in mind that any employees who issue claims at this stage will have to pay a Tribunal fee, go through ACAS early conciliation, and will almost certainly have their claims stayed pending the outcome of the Appeal from the recent EAT decision.

It might be sensible to reduce levels of overtime.

Our overall advice is to avoid any panic or knee jerk reactions, undertake a risk/benefit analysis to work out the potential size of the problem or impact on your business, and watch this space.

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