Calculating Holiday Pay: An Employer’s Guide

Starting point:

Working Time Regulations 1998 (WTR)

• Most workers (including employees) are entitled to at least 5.6 weeks of paid annual leave (equivalent to 28 days for a Full Time Employee).

• Regulation 13 leave is 4 weeks or 20 working days for a FTE.

• Regulation 13A leave is 1.6 weeks or 8 days and covers the eight public holidays in England and Wales. This may change if additional national holidays are introduced within a leave year.

The current legal position:

Employment Rights (Amendment, Revocation and Transitional Provision) Regulations 2023

• These came into force on 1st January 2024.
• The key amendment has been to Regulation 16 of the WTR which has been updated to include specific payments within the definition of a ‘week’s pay’ for the purpose of calculating holiday pay.
• A week’s pay under Regulation 16(3ZA) now includes:

- Payments, including commission payments, intrinsically linked to the performance of tasks which a worker is obliged under their contract to carry out.

- Payments for professional or personal status relating to length of service, seniority or professional qualifications.

- Other payments, such as overtime payments, which have been regularly paid to a worker in the 52 weeks preceding the calculation date.

• To the extent that this type of payment is not already included in the calculation of a week’s pay, this is included by calculating the average weekly amount of this payment payable in the relevant period and adding it to the amount of a week’s pay (regulation 16(3ZB)). The ‘relevant period’ is:

- For workers who have been employed for less than 52 complete weeks, the number of complete weeks for which they have been employed (regulation 16(3ZD)(a));

- For all other workers, 52 weeks ending with the last complete week before the holiday (unless the holiday starts on the last day of a week, in which case it is 52 weeks ending with that week) (regulation 16(3ZD)(b));

- Weeks in which the worker was on sick leave or statutory leave, or for which no remuneration was payable, are discounted and earlier weeks added into the relevant period to bring the total up to 52 weeks or as close to 52 as possible, but going no more than 104 complete weeks before the calculation date (regulation 16(3ZE)-(3ZG)).

However, this amended definition does not apply to the 1.6 weeks’ Regulation 13A holiday which continues to be subject to a less comprehensive definition of a week’s pay.

• As a result, some employers have attempted to clarify with their workforce, either in contractual provisions or non-contractual policies, that regulation 13 holiday would be taken first in any leave year, followed by regulation 13A holiday. The purpose is to ensure that if there is any dispute over holiday pay, it is clear which statutory right is applicable to the period of leave in question.

Scope of payments covered by regulation 16(3ZA)

Payments are EITHER intrinsically linked to the performance of tasks under the contract OR regularly paid to the worker in the previous 52 weeks. There is no need for these payments to have been both intrinsically linked to the work and regularly paid to form part of holiday pay. Dudley Metropolitan Borough Council v Willetts [2018] ICR 31 (EAT).

Annual bonuses

One area of uncertainty has always been the extent to which an annual bonus (whether for individual or company performance or a combination of factors) should be included in the holiday pay calculation.

It has previously been argued that an annual bonus that is only paid once in each 52 week period cannot be said to be regularly paid in the 52 weeks prior to the holiday, as ‘regularly’ implies more than once in that period. However, as regulation 16(3ZA) does not require a payment to be both regularly paid and intrinsically linked to tasks required to be performed under the contract, an annual bonus would qualify to the extent that it was intrinsically linked to tasks performed under the contract even if it was not regularly paid.

Prior to the 2023 regulations coming into force, these legal questions were answered by analysing the caselaw pre-1st January 2024, which still provides helpful guidance.

Various ECJ and domestic cases including Lock v British Gas Trading, Bear Scotland Ltd v Fulton and East of England Ambulance Service NHS Trust v Flowers held that normal remuneration could include the following:

• Commission payments
• Incentive bonuses
• Productivity or performance bonuses

In particular, the relevant principles to be applied were:

• Normal remuneration was pay which was ‘normally received’ which was easy to identify where there was a settled pattern of work, or an average was taken;
• There would often be an intrinsic or direct link between the payment claimed and the work to be carried out and elements of pay that were sufficiently regular should be included.
• Following the EAT’s decision in Bear Scotland and the Court of Appeal’s decision in Lock, holiday pay derived from the Working Time Directive should be calculated in accordance with the tests laid down in the ECJ case law, whereby holiday pay was based on pay that was normally received which should include:

1. Payments linked intrinsically to the performance of tasks under the worker’s contract.
2. Payments relating to the worker’s professional and personal status.
3. An amount to reflect the contractual results-based commission a worker ordinarily received.

In relation to productivity or performance bonuses, an Employment Tribunal held in the case of Wood and others v Hertel (UK) Ltd and another ET/2603803/12 that employees were entitled to argue that an incentive bonus arrangement was part of normal pay. The test whether the payment was ‘intrinsically linked’ to the performance of tasks the workers were required to perform did not require it to be exclusively so. Therefore a bonus that depended on team rather than individual performance was potentially within scope. This decision was not appealed.

Annual bonuses, as already alluded to above, were a notorious grey area because some commentators said that provided the bonus received was unaffected by the taking of holiday, the worker would already have received the relevant bonus payment for the holiday period. Conversely, where bonuses were linked to performance, there was a risk that a worker who took less holiday may perform better and achieve a higher bonus. In that case, the principles set out in Lock would be engaged and the holiday pay would include bonus.

Practical approaches

Possible approaches that a business may take in light of the changes effected by the 2023 regulations where Regulation 16(3ZA) applies, are as follows:

1. Paying all holiday pay at the ‘enhanced rate’;
2. Paying the first 4 weeks’ holiday in any holiday year at the enhanced rate and then paying basic pay for the remainder;
3. Pro-rating the enhancement on the basis that each day of holiday is partly Regulation 13 and partly Regulation 13A holiday.

The first option is clearly the safe approach that avoids the risk of breach even though it is at greater cost to the business (who could perhaps take this into account when setting salary and bonus levels for their staff).

Additionally, a business may also consider linking the payment of bonus to the performance of the business rather than the individual to avoid the annual leave being included in the holiday pay calculation.

How to get in contact

Our specialist employment solicitors are available to guide you through this complex area and advise you swiftly and decisively when problems arise.

For further information please feel free to contact Rachel Lester, Head of Employment, on +44 (0)7394 802375 and at Rachel.Lester@ilaw.co.uk.

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