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Calculating holiday pay – the latest instalment

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The case will return to the Employment Tribunal for a further hearing later in the year which will determine, amongst other things, the appropriate reference period to be used in the calculation of holiday pay. This will be of important practical application for employers as the correct reference period to get to the calculation is still not clear.

Mr Lock brought an unlawful deduction from wages claim for failure to take his commission into account when calculating holiday pay. When he took holiday Lock received basic pay on days he took holiday together with commission earned from previous weeks. However, he could not earn commission whilst on holiday because he wasn’t working which impacted on his pay at a later date and meant he suffered an overall reduction in pay as a result of taking holiday.

Lock’s case was referred to the European Court of Justice (ECJ) which decided that commission payments should be taken into account when calculating pay for the four weeks’ annual leave under the Working Time Directive (WTR). The case was referred back to the Tribunal which decided it could overcome the present incompatibility between EU and UK law by adding wording into the WTR which provides for commission (if part of normal remuneration) to be included in holiday pay calculations.

What does this mean for employers? The Tribunal’s decision does not come as a surprise and confirms that employers must include incorporate commission payments in the calculation of holiday pay. Of comfort to employers is that from 1 July 2015 a two year cap on backdated claims will take effect.

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In terms of what employers should do next, one option is to wait to see how the case law develops whilst accumulating a fund for future payments as it’s no longer a question of “if” these payments have to be made; they do. The question is more one of how to calculate the amount because it is still not certain what reference period should be used to calculate how much actually to pay in the pay runs after holiday to ensure consistency of earnings and to prevent a dip in earnings immediately after holiday. 

Although the Tribunal’s decision suggests a 12 week reference period is correct, the Advocate General had suggested that a 12 month reference period might be more appropriate.

Also this decision does not address what employers should do if their commission scheme already takes into account periods of annual leave and ensures that employees are compensated for this. Would there still be a requirement to include commission in holiday pay in such circumstances? We would suspect not but this issue will still need to be considered by a Tribunal before we have a definitive answer on the point.

Alternatively, employers may prefer to make adjustments to holiday pay now drawing a line under the issue and ensuring that commission elements are included in holiday pay going forward. 

Before doing so, employers should satisfy themselves that the commission can genuinely be described as “normal remuneration”. To be “normal remuneration” it will be pay which is connected to tasks which are part of the employee’s contractual role and the payments will have been made over a sufficient period of time to justify being described as “normally received”. 

A further consideration for employers deciding to adjust their approach now is whether to include such payments just in respect of the four weeks leave under the WTD or to adjust pay schemes for the full 5.6 weeks granted under the UK WTR. The latter approach whilst more costly, will be less of an administrative burden. Employers who do decide to adjust their schemes now will limit their exposure to back dated claims because employees who fail to bring a claim within three months of the last “deduction” will lose their right to claim altogether. 

Finally, employers paying now should reserve their right to change their approach in the future so that if the law does develop, then flexibility over approach has been retained.

Emma Hamnett is a partner at Clarke Willmott.

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