A year doesn’t seem to go by without new controversy surrounding the provision of holidays to workers.

After the debacle of holidays and long term sickness absence, we now have new European and UK case law that has created huge headaches for employers about the way in which holiday pay is calculated.

What a mess!

How has Holiday Pay previously been calculated?

Before we look at the latest developments it is necessary to re-cap the historic position on calculating holiday pay.

The European Directive that guides the UK on all matters relating to holidays doesn’t actually dictate how employers in the UK are to calculate holiday pay. Europe left that for the UK Government to determine. The UK Government decided to use tried and tested methods to deal with this; they referred employers to the rules on calculating a week’s pay in the Employment Rights Act 1996 which is used for various other pay calculations, such as redundancy pay.

The Employment Rights Act says that a worker who has normal working hours receives their pay for those hours worked. A worker who has variable hours or no normal working hours receives average pay, averaged over 12 weeks prior to the calculation date. These same rules were therefore to be used when calculating pay for a period of holiday.

Crucially, these rules were interpreted in such a way that meant only basic pay was to be taken into account when calculating holiday pay. They were not interpreted to include any other elements of pay such as commission or bonus.

That has now been challenged.

New case law

Firstly the case of Williams and other pilots vs British Airways before the European courts found that a “flying supplement” received by pilots in addition to their basic pay which increased the more they flew, was to be included within the calculation of their holiday pay as it was “intrinsically linked” to the performance of their duties.

This then lead to a further challenge to Holiday Pay calculation in Lock v British Gas. Mr Lock, an energy salesman for British Gas, had his pay made up of 60% sales commission. When he took holiday he obviously didn’t generate any new sales and so in the period after the holiday he suffered a reduced income due to a lack of commission.

Lock argued this was contrary to the European Directive on Holidays and the European courts agreed. They referred to the ruling in the British Airways case, confirming commission was intrinsically linked to performance, and added that removing commission from the calculation of Mr Lock’s holiday pay acted as a deterrent to him taking holiday. It was ruled commission should therefore be factored into his holiday pay calculations and sent the Judgment back to the UK courts to decide upon Mr Lock’s compensation.

This ruling has paved the way for a landmark decision in the case of Bear Scotland v Fulton & Others.

The UK courts are yet to decide upon Mr Lock’s case, but a UK ruling was made very recently in Fulton as the courts were aware of the guidance handed down by Europe from the cases of Williams and Lock.

On this occasion, Fulton argued that non-guaranteed overtime should be taken into account for holiday pay purposes. Using the new European guidelines, the UK court agreed, having ramifications for the majority of UK employers. The present position is therefore that holiday pay should now take into account regular overtime worked by an employee, as well as, most likely, other elements of pay.

Perhaps the greater concern for employers was not whether holiday pay is to increase in the future, but whether employees could sue for back-pay on the basis of mis-calculated holiday pay.

There is better news in this respect as the UK courts have limited the extent of back pay claims in a lot of circumstnces. If there is a break of more than three months between successive underpayments of holiday pay then this will break the chain for the purposes of an unlawful deductions of wages claim and will be limited to the holiday pay owed at date of the break in the chain.

There are more complexities to the latest judgment however, including how much of the annual holiday entitlement offered to employees is subject to these new rules, and therefore specific advice is necessary to take into account the full ramifications of the judgment for your business.

It should also be noted that permission has been granted to allow the Judgment of Fulton to be appealed. The holiday pay saga is therefore likely to be a long running one, and obligations placed upon employers could still continue to change significantly.

The Future

Employers will no doubt feel they have had the rug pulled from underneath them following the latest judgments on holiday pay. Having seemingly acted lawfully over the past two decades or so, employers are now faced with potential back pay claims and difficult decisions on how to manage their payroll going forward.

It seems clear that changes will have to be made to the way in which holiday pay is calculated and paid to workers in the UK however. Exactly what those changes will be is still uncertain given the vast amount of case law still to be determined on this issue and pending appeals on cases that have already been reported.

The potential ramifications for both public and private sector employers are huge and therefore the UK Government will have a role to play in limiting the damage this could cause. They have in fact already set up a taskforce to consult on the judgment handed down in Fulton.

Despite the current uncertainty surrounding holiday pay, we can help you to plan ahead by providing specific advice tailored to your industry and workforce on the basis of what is known to date and the likely outcomes to be seen on holiday pay in due course.

To speak to one of our Employment Law experts please call 01226 210000 for a no obligation discussion on the issue that affects you.

Ben McFeely

Employment Solicitor

November 2014