News and Updates

Lock on holiday pay

On 7 October 2016, the Court of Appeal released its judgment in the case of Lock v British Gas Trading Limited.  Lock is part of a series of cases attempting to determine the correct basis for calculation of holiday pay for periods of statutory minimum holiday, i.e. the 4 working weeks of annual holiday derived from the Working Time Directive (“the WTD”).  The particular issue in Lock is results-based commission.

What is the problem?

The WTD states that “every worker is entitled to paid annual leave of at least four weeks…”  It does not specify any amount or method of calculation of the pay that should be received.  However, the European Court of Justice has stated on various occasions that workers should receive “normal remuneration” for the 4 week period and should not be indirectly discouraged from taking holiday, as it is measure to protect workers’ health.  

In domestic law, under the Working Time Regulations 1998 (“WTRs”) and the Employment Rights Act 1996 (“ERA”), for the purposes of calculating holiday pay for the 4 week minimum period, there are 4 categories of worker, to whom different calculations apply:

1.       Workers with normal working hours whose remuneration varies with the amount of work done within those hours, such as piece workers whose pay is based on output.

2.       Workers with normal working hours whose pay varies from week to week depending on the times or days on which they work, such as shift workers.

3.       Workers who have no normal working hours such as some agency workers (depending on their particular assignment) or workers on a zero hours contract.

4.       Workers who have normal working hours and whose remuneration does not vary with the amount of work done or the times or days on which they work.  This is the category that would cover the majority of employees.  In particular for the purposes of this article, historically it covered salaried employees who are paid sales commission as the variable element of commission was not created as a result of changes in the amount of work done, but by the success of the work done.

For the first 3 categories of worker, holiday pay is calculated using a complicated statutorily prescribed system of averages of weekly hours and/or hourly or weekly pay over a period of 12 complete weeks prior to the calculation date, being the first day of the period of holiday.  A week for these purposes runs from Sunday to Saturday and weeks in which no remuneration is earned are ignored.

For the fourth category of worker, their holiday pay is based on the amount payable under their contract of employment, as it is in force on the calculation date.  Historically the calculation was based on basic salary, with bonuses, allowances and commission being excluded.

The domestic law method of calculating holiday pay does not however, always produce a result which equates to either average remuneration, or “normal remuneration”, according to the ECJ.  It has repeatedly stated that holiday pay should put workers in a position which is comparable to the position they are in during periods of work so they are not discouraged from taking holiday.

It has also said that remuneration that is linked intrinsically to the performance of tasks which a worker is contractually required to perform must necessarily be taken into account when calculating holiday pay as it is part of normal remuneration.  That can obviously include more than just basic salary.

Contentious areas which have arisen in case law over the last 10 years have been:

  • in relation to “normal working hours” and determining which type of calculation is applicable: whether overtime hours and pay should be included and if so, what types, as overtime can be compulsory and guaranteed, compulsory and not guaranteed or voluntary.
  • in relation to “normal remuneration”, particularly in relation to workers with normal working hours: whether payments beyond basic salary such as supplementary allowances or commission should be included.

In this article, the Court of Appeal judgment in Lock and therefore only the issue of commission is under consideration.

Is commission to be included in holiday pay calculations?

The specific question posed in Lock is whether the holiday pay of an employee with normal working hours whose remuneration does not vary with the amount of work done during such hours should be calculated solely be reference to basic pay or should include an element referable to the amount of results-based commission he normally earned. 

The short answer is yes.

Mr Lock took a period of holiday from 19 December 2011 to 3 January 2012 for which he was paid sums comparable to normal remuneration as he received commission payments in that period for earlier transactions, but his holiday pay was based on salary only.  The objection that the ECJ had to this was that Mr Lock suffered a disadvantage after his holiday by way of reduced commission as a consequence of not generating sales during his holiday.  Therefore, he would be theoretically deterred from taking holiday. In Mr Lock’s case that deterrent was significant as his commission comprised 60% of his remuneration.

Having determined that commission should be considered as normal remuneration, the question then becomes, how should holiday pay be calculated when the WTRs and ERA contain a conflicting method of calculation, i.e. one which excludes commission from the holiday pay of an employee with normal working hours whose remuneration does not vary with the amount of work done.

How is holiday pay calculated when a worker receives commission?

According to the tribunal as confirmed by the Court of Appeal in Lock, because the WTD requires holiday pay to be based on normal remuneration, the WTRs have to be interpreted in a way which allows that to happen.

The way in which the tribunal achieved this was to state that in so far as holiday pay calculations were concerned, the ERA was interpreted as having an additional section, whereby a worker whose remuneration includes commission or similar payment (although this may be restricted according to the Court of Appeal, to contractual results-based commission) shall be deemed to have remuneration which varies with the amount of work done.  The Court of Appeal has supported the tribunal’s judgment.

The effect is that instead of his holiday pay calculation being based on salary only, Mr Lock’s pay should have been calculated based on an average of his remuneration including commission over the 12 complete weeks prior to the first day of his holiday (ignoring weeks when no remuneration was earned), the specific calculation method being set out in section 221(3) of the ERA.

Is this the end of the matter?

Not necessarily.  Appeal to the Supreme Court is possible although it is hard to see how it could come to a different conclusion.

There are practical difficulties with the outcome of the case.  Other scenarios can now be envisaged whereby the calculation of holiday pay in commission situations as determined by the Court of Appeal could produce results that are severely unfavourable to an employer.  For example, if an employee receives a results-based commission once per year and then takes holiday within the next 12 weeks, their holiday pay for that period would be disproportionately high. 

It has been suggested in commentary that if a reasonable representation of “normal remuneration” is to be obtained, the period over which holiday pay should be calculated and averaged is 12 months.  However, for that suggestion to be made into a requirement, it would have to be the subject of legislation.

The Court of Appeal specifically stated in its judgment that it was confined to Mr Lock’s case and not intended to answer questions regarding other scenarios.  That does not however prevent the judgment being referred to in other cases.  It seems likely that further cases will arise questioning whether other types of remuneration should or should not be included in holiday pay.

Bonuses are a prime area for debate.  Are they intrinsically linked to performance?  It is likely to depend on the facts as they can be contractual or discretionary and based on company or individual performance or have no performance-related basis at all.

Risks arising from Lock?

There is a risk of claims being made by workers in respect of historic underpayment in the calculation of their holiday pay.  Whilst that risk has existed since 2006 when the ECJ first asserted that holiday pay should reflect “normal remuneration”, it currently the position that such claims are likely to be successful where the employee is in receipt of results-based commission. 

Such claims could be made in variety of different ways, depending on the facts.  They could be made under the WTRs, or under unlawful deductions from wages provisions or as a breach of contract claim. 

Breach of contract is the least likely given that the WTRs do not confer contractual rights and it is unlikely that a contract of employment would specify that holiday pay would include commission.  Even if is specified that an employee would receive “normal remuneration” during holiday, that does not import the meaning of normal remuneration as per the ECJ.  It should be construed as normal remuneration as it has been understood in the workplace.

A claim under the WTRs and/or the law relating to unlawful deductions is more likely, but would face some difficulties in terms of limitation periods. 

In addition, the government introduced a two-year "backstop" period on most unlawful deductions from wages claims which is applicable to claims brought after 1 July 2015.  Tribunals cannot consider deductions where the relevant date of payment was more than two years before the date of presentation of the complaint. That limitation does not apply if the claim is made under the WTRs.

In most cases a claim brought for historic under payment of holiday pay is not likely to have a high value.

What should employers be doing in response to Lock?

Employers should be considering their holiday pay contract terms, policies and calculation methods.  It should consider whether to change them where employees receive results-based commission.  How it makes those changes will depend on its individual commission structure.

By way of illustration only, where an employer pays commission on an annual basis, whilst Lock and current legislation require that holiday pay be calculated by averaging remuneration over the 12 weeks prior to the taking of the holiday, the employer may choose to calculate over the prior 12 months instead to ensure that employees do not receive a windfall if taking holiday immediately after a commission payment. 

Whilst this is unlawful according to Lock, the theoretical claim that would result would be for the difference between the holiday pay as calculated by the employer and the holiday pay as calculated according to Lock, therefore a reduced sum.  Furthermore, a calculation of holiday pay by averaging over the 12 months prior to the taking of holiday, whilst not consistent with Lock and the ERA, would be consistent with the Advocate General’s opinion given in December 2013 as to a representative period for “normal remuneration”.  Theoretically the employer could argue that although the calculation did not accord with the WTRs, it did accord with the WTD and that the WTRs should not be interpreted to give a result which is more favourable than the WTD requires.

There may be other ways of trying to minimise potential liability and if affected by Lock, employers should take specific advice on the options available to them.

For further information on the issues raised in this article, please contact us on 020 7925 8080 or by email at info@spencer-wyatt.com.

+44 (0)20 7925 8080 info@spencer-wyatt.com