Last reviewed 17 January 2018

In this article, Stuart Chamberlain provides an update on paid annual leave, which has proved to be an uncertain area of employment law.

Introduction

The Working Time Regulations 1998 (WTR) implement the European Working Time Directive 2003/88/EC (WTD) into UK law. The WTR, a notoriously complex area of employment law, provides a range of statutory entitlements including restrictions on the maximum number of hours that a worker can be forced to work each week, weekly and daily rest periods, restrictions on night working and arrangements for paid annual leave. These regulations apply to workers as well as employees (the terms in this article are therefore interchangeable), to temporary and casual workers and to agency workers — but not to the genuinely self-employed.

This article provides an update on paid annual leave, which has proved to be an uncertain area of employment law. It focuses on a number of issues relating to annual leave that have produced the extensive case law, examining judgments from the UK and from the European Court (now known as the Court of Justice of the European Union (CJEU)), including the most recent decision on holiday pay in King v The Sash Window Workshop.

Lord Justice Mummery spoke for many — and reflected their exasperation — when he stated in his judgment in NHS Leeds v Lerner [2015] IRLR 825 that:

“… the unfolding law on annual leave is not in a complete state, which must be great disappointment to those hooked on the hopeless quest for completeness”.

As a result, the rules on paid annual leave have changed substantially since the WTR came into force in 1998. This article aims to provide a more complete picture.

Issues covered

The issues relating to paid annual leave covered here are as follows.

  • The calculation of holiday pay: covering the arrangements for part-time workers and, in particular, the difficulties that arise when workers receive additional payments, such as overtime or commission, on top of their “normal” pay.

  • The relationship between sickness and annual leave: the legal position when a worker goes on sick leave immediately before, or during, annual leave and whether such leave can be carried over into a new leave year.

  • The new rules for carry over in other situations following the CJEU’s decision in King v The Sash Window Workshop, and their implications for employers.

  • The legality of rolled-up holiday pay: this is a convenient device whereby workers with irregular hours can have an element of forthcoming holiday pay inserted into their pay.

  • Mention is made of the arrangements for maternity leave and other “family friendly” rights.

This article explains this considerable body of EU and UK case law relating to annual leave and provides practical guidance for employers on these issues.

A “purposive” approach

The WTD lays down minimum health and safety requirements for the organisation of working time.

In Marleasing SA v La Comercial Internacional de Alimentacion [1990] CJEU C-106/89, the European Court held that national courts must consider the whole body of rules of national law and interpret them, so far as possible, in the light of the wording and purpose of the directive in order to achieve an outcome consistent with the objective pursued by the directive. The WTR, therefore, has to be interpreted broadly and in conformity with the WTD so as to achieve the stated purpose of improving the health and safety of workers; indeed, as if the UK Parliament intended the WTR fully to implement this WTD.

The UK courts and tribunals are required, therefore, to give this “purposive approach” in interpreting national law. There have been a number of examples of this in respect of the WTR, notably in Bear Scotland Ltd v Fulton and others 2014 UKEAT 0047/13/0411, where the EAT (Langstaff P sitting alone) held that Article 7 of the WTD should be interpreted so as to include payments for overtime which a worker is required to work but which an employer is not obliged to offer as being within the concept of “normal remuneration”. Further, he took the view the national legislation (the WTR) could be interpreted so as to fall within that interpretation by reading additional words into the regulations.

It is only if the provisions of national law cannot be interpreted purposively, and are therefore totally incompatible with the WTD, that national law can be allowed to take precedence.

Basic entitlement to annual leave — a summary

The key points with regard to paid annual leave in the UK are as follows.

  • The Working Time Regulations (WTR) implement the Working Time Directive 2003/88/EC (WTD) into UK law.

  • The WTD provides a minimum of four weeks’ (20 days’) paid holiday while the WTR provides more; from 1 April 2009 UK workers are entitled to 5.6 weeks’ (28 days’) paid holiday (“statutory holiday”) each holiday year. (It is important to remember that, in the extensive case law that this issue has generated, the first four weeks of annual leave granted under the WTD is subject to EU law; the additional 1.6 weeks of additional annual granted under the WTR is not.)

  • No qualifying period of employment is necessary for this entitlement.

  • The holiday year is set out in a “relevant agreement” (such as a contract of employment, staff handbook or collective agreement) between worker/employee and employer.

  • Part-time workers will be entitled to a pro rata amount of holiday leave — see section on Calculation of Holiday Pay below.

  • Holiday pay can only be paid in lieu at the termination of employment, when the worker is entitled to pay from any leave that has accrued but not been taken — but see section on Rolled-up Holiday Pay below.

  • When calculating paid annual leave, the principles of calculation are the same whether the employment is continuing or has terminated.

  • Employers can offer additional contractual holiday which will not be subject to the WTR rules.

Calculation of holiday pay

Holiday pay: the present law

The law governing holiday pay is contained within the Working Time Regulations 1998 (WTR) — derived from a European Working Time Directive (WTD) — and the Employment Rights Act 1996 (ERA). The WTD requires Member States to make provision within domestic legislation for a minimum of four weeks’ paid annual leave. The WTR refers to the calculation of what amounts to a week’s pay for the purposes of holiday pay to the ERA. In 2009 the UK increased the minimum holiday entitlement by 1.6 weeks giving workers in the UK an entitlement to 5.6 weeks.

In most cases, a week’s pay is the contractual remuneration due to an employee for working their normal working hours in a week. Special rules apply, however, to employees who do not have a normal working week. If an employee does not work normal hours, then the method for determining a week’s pay is to calculate a 12-week average immediately before the leave.

Note: To date, the courts and tribunals have declined to make any finding on whether 12 weeks is an appropriate reference period.

Public and bank holidays

Public holidays generally include Bank Holidays (when banks are closed for business under the banking Financial Dealings Act 1971), holidays by royal proclamation (eg the Queen’s Jubilee celebrations in 2002) and common law holidays (eg Christmas Day and Good Friday). There are normally eight bank holidays a year.

Some of these holidays are common to the whole of the UK; others are only applicable to England and Wales, to Scotland or to Northern Ireland.

There is no statutory entitlement to paid leave for public and bank holidays. Any right to time off for such holidays will depend on contractual terms.

Calculation of part-timer’s entitlement to annual leave

One of the most bewildering tasks for employers is the calculation of part-time annual leave entitlements. Part-time workers are protected from being treated less favourably than equivalent full-time workers just because they are part time — a part-time worker is obviously someone who works fewer hours than a full-time worker.

As indicated above, all workers are legally entitled to 5.6 weeks’ (28 days’) paid annual leave — known as statutory annual leave entitlement. An employer can include bank holidays as part of this statutory leave. Part-timers are entitled to annual leave pro rata to a full-time employee’s entitlement. This is based on their working week. The following formula can be used to calculate holiday entitlement.

This produces the following examples of annual leave entitlement for part-time workers.

Part-timer’s working week

Statutory annual entitlement

One day a week or equivalent (eg two half days)

5.6 days (5.6 x 1 = 5.6)

One-and-a-half days

8.4 days (5.6 x 1.5 = 8.4)

Two days

11.2 days (5.6 x 2 = 11.2)

Two-and-a-half days (half a week)

14 days (5.6 x 2.5 = 14)

Three days

16.8 days (5.6 x 3 = 16.8)

Four days

22.4 days (5.6 x 4 = 22.4)

Note: An employer cannot “round down” the leave. For example, as shown above, the leave entitlement of someone who works three days a week will be “rounded up” from 16.8 to 17 days.

Statutory provision is capped at 28 days — even if a worker works six or seven days per week.

Part-timers and bank holidays

A further problem may arise if the part-time worker is entitled to bank holidays off in addition to their annual leave entitlement scheduled to work on a Monday — four of the bank holidays fall on a Monday. This can create a sense of injustice among the affected workers. The entitlement in this situation can be expressed as follows.

  • A full-time worker has 25 days’ annual leave plus eight bank holidays; total 33 days or 6.6 weeks.

  • A part-time employee working three days a week would be entitled to 6.6 x 3 = 19.8 days (and rounded up to 20 days).

Calculation of holiday pay: variable elements

Difficulty arises when an employee with normal working hours receives additional payments on top of their normal pay. In these cases a week’s pay is more difficult to determine.

The relevant case law on these additional payments and the elements that should be included in the calculation of “normal pay” are analysed below.

The European Court sets the test

In British Airways plc v Williams [2012] IRLR 1014 the CJEU sets out a fundamental principle: that any variable pay, provided it is “intrinsically linked” to a worker’s contract, should be included in the holiday pay calculation. Many employers only pay basic rate for holiday pay but the principle expounded by the European Court is likely to apply to any variable pay, including overtime, commission, allowances and bonuses, as can be seen from the following judgments.

Commission payments

In Lock v British Gas Trading Limited [2014] IRLR 648 the Court of Justice of the European Union (CJEU) held that for employees with normal working hours, commission payments which are intrinsically linked to the performance of a task should be taken into account when determining a week’s pay for holiday pay purposes. The intention of the WTD is not to deter employees from taking leave.

This point has been followed consistently by the UK courts since the decision in 2014. Indeed, in 2017 the Supreme Court refused British Gas permission to appeal further. The issue on the inclusion of commission in holiday pay is now settled.

Overtime

Compulsory or guaranteed overtime is included in the calculation of the ERA 1996. The courts and tribunals have ruled on two other broad categories of overtime — non-guaranteed and voluntary — and held that all should be included in the calculation of holiday pay.

Non-guaranteed overtime

In this situation the employer is not required to supply overtime but the workers must accept it if it is offered. In Bear Scotland v Fulton [2014] UKEAT/016/14 the EAT held that there was a direct link between the payment and the work that the worker/employee was required to do. Further, as the definition of a week’s pay under the ERA 1996 did not comply with the WTD’s requirement for “normal remuneration”, the WTR has to be interpreted in such a way so as to be compatible with the WTD — the so-called “purposive” interpretation.

Voluntary overtime

This category covers overtime that the worker/employee is free to accept or refuse. The position had been more uncertain. However, in Patterson v Castlereagh Borough Council [2015] NICA 47 the Northern Ireland Court of Appeal found that there was no reason in principle why voluntary overtime should not be included in calculating holiday pay.

In Dudley Metropolitan Borough Council v Willet [2017] UKEAT/0334/17 the EAT held that regular, long-running voluntary overtime should be included in the calculation of holiday pay if it was paid with sufficient regularity to amount to “normal remuneration” and was “intrinsically linked” to the work required under the contract. In its judgment in Willet the EAT did state, significantly, that the absence of an “intrinsic” link between the payment and the performance of the tasks (the test as required in Williams above) will not automatically exclude a payment from counting towards the calculation of holiday pay.

Of course, the outcome of this case does not always mean that all voluntary overtime will be considered “normal remuneration” for the purposes of the calculation of holiday pay; much will depend on the facts of the case and whether the worker was performing tasks required under the employment contract.

However, the initiative clearly rests with the inclusion, rather than the exclusion, of the different varieties of overtime in the calculation. The safest approach now for the employer must be to include overtime in the calculation rather than wait and see the outcome of further judicial rulings. This approach would certainly reduce the administrative burden.

Performance-related bonuses

In May Gurney Limited v Adshead [2006] UKEAT/0150/06 it was decided that a variable bonus, which was paid if the worker met targets, should be included in the calculation. Since the bonus varied with the amount of work done, the employees’ statutory holiday pay for a week should be calculated by averaging out their pay over a 12-week period.

Attendance allowances

The May Gurney Limited v Adshead case also found that the amount of a normal week’s pay is the amount of pay that a worker would receive after completing a week’s work. Since a fixed attendance allowance would be part of that pay, it should also be included in the worker’s statutory holiday pay.

Conclusions on “variable elements”

The case law set out above makes it clear that commission, overtime and regular bonuses should be included in the calculation of a worker’s holiday pay. Discretionary and one-off bonuses remain a grey area.

Sickness while on holiday

The right to carry over annual leave

The starting point for this long-running saga is HM Commissioners of Inland Revenue v Stringer (formerly known as Ainsworth) [2005] IRLR 465 when the European Court, and subsequently the House of Lords, held that paid holiday continues to accrue throughout any period of sick leave. Further, if a worker does not take a holiday during such sick leave and was unable, because of the sickness, to take the holiday before the end of the period, then the statutory holiday must be carried forward into the next holiday year. Any national legislation that provides otherwise is precluded by the WTD.

In Pereda v Madrid Movlidad SA [2009] IRLR 959 the European Court found that, where a worker is unable to take pre-arranged statutory annual leave because of sickness absence before the leave begins, the worker has the option of taking the leave at a different time, even if that necessitates a carry over into a new leave year. This was reinforced by another European Court decision in Asociación Nacional de Grandes Empresas de Distribución v Federación de Asociaciones Sindicales [2012] that, if a worker is sick during a period of statutory holiday, they are entitled to take leave at a later date, including carrying it over to a new leave year.

No request for carry over is required

The European Court judgments mentioned in the previous section were followed by the Court of Appeal in NHS Leeds v Larner [2012] IRLR 825 when it held that a worker does not have to request to carry over annual leave, and by the EAT in Fraser v South West London St George’s Mental Health Trust [2012] IRLR 100, when it held that the maxim “Use it, or lose it” is inconsistent with EU law where the reason for the worker losing “it” (the leave) is sickness.

Amount of leave that can be carried over

The EAT provided further certainty in this area of law by ruling in Sood Enterprises Ltd v Healy [2012] IRLR 865 that the amount of annual leave that could be carried over into a new leave year is the four weeks granted by EU law; the additional 1.6 weeks under UK law will not carry over unless this is permitted by a relevant agreement.

How long can leave be carried over?

In a case involving a German collective agreement, the CJEU held in KHS AG v Schulte [2012] IRLR 156 that there is no unlimited carry over and that, in this instance, only 15 months was permissible. Reference was also made in the judgment to 18 months. In Plumb v Duncan Print Group [2015] UKEAT/0071/15 the EAT subsequently ruled that the carry over period was limited to 18 months from the end of the leave year in which the statutory holiday accrued.

Conclusions on sickness and annual leave

The position with regard to the effect of sickness on the taking of annual leave can be summarised as follows.

  • Statutory holiday entitlement accrues while an individual is off sick.

  • Any statutory holiday entitlement (ie the EU four weeks’ entitlement) that is not used because of sickness can be carried over into the next leave year for up to 18 months.

  • If a worker is ill just before taking holiday, or during the holiday, they can take it as sick leave instead.

Employers are reminded, therefore, to check their sickness reporting policy and procedures to clarify how and when a worker/employee should report such illness and what medical evidence is required from the individual.

Further uncertainty: King v Sash Windows

This apparently settled position on the carry over of untaken holiday pay was thrown into further uncertainty in November 2017 by the CJEU’s decision in King v The Sash Window Workshop Ltd (Case C-214/16). Mr King was a salesman for 13 years with Sash Windows. Both parties mistakenly believed he was self-employed. He took some time off in that period but it was unpaid. He was dismissed when he reached the age of 65. At the employment tribunal he claimed successfully that he had been a worker and not self-employed and, therefore, that he should have received full statutory paid holiday entitlement.

When the case reached the Court of Appeal it referred the case to the CJEU. The European Court held that Mr King was entitled to paid leave and he was able to carry it over from year to year indefinitely. He had been prevented from exercising his rights under EU law. The right to paid annual leave for workers accrues and carries over without limitation and those that are denied the right to take paid annual leave are entitled to bring claims in respect of all accrued but untaken leave. As a result, Mr King was entitled to 13 years’ worth of holiday pay.

The case now returns to the Court of Appeal, which will ascertain if the decision is compatible with the WTR and decide the compensation that can be awarded in such cases.

Note: The ruling only applies to the four weeks (20 days) of EU leave — not the additional 1.6 weeks granted under UK law.

Implications of the CJEU’s judgment

The decision has potentially serious implications for employers as follows.

  • In its judgment the European Court (CJEU) distinguished Mr King’s situation (termination of employment) from those dealing with annual leave and sickness as described in previous sections.

  • This decision goes further than any previous judgment of the CJEU; potential claims are not limited by national law — ie the two years of the 2014 Regulations — see the next point.

  • The European Court ruled that the employer who fails to grant the paid holiday should not be able to benefit from the limits on how much can be carried over — thus throwing into doubt the EAT’s decision in Plumb v Duncan Print (see above) and the effect of the Deduction from Wages (Limitation) Regulations 2014. The CJEU’s judgment also seems to cast doubt on the EAT’s decision in Bear Scotland v Fulton (also see above) — that tribunals may not award back pay beyond a three-month break in unpaid EU leave.

  • It stated categorically that businesses who engage individuals, even mistakenly, on a self-employed basis and these individuals later turn out to be “workers” have to face the (financial) consequences.

Mr King was successful in his claim because he was wrongly classified as “self-employed” when he was actually a “worker” and therefore entitled to rights under the WTR. Against the backdrop of UK courts and tribunals finding that “self-employed” contractors were actually “workers” and entitled to rights under the WTR (the Uber, Pimlico Plumbers and CitySprint cases) this will be of concern to employers who engage individuals on a self-employed basis but who could now be deemed to be workers for employment law purposes. These employers could find themselves facing substantial holiday claims for up to 20 years.

Rolled-up holiday pay

One of the first issues on holiday pay to hit the courts and tribunals was that of rolled-up holiday pay.

The WTR states that a worker’s “normal remuneration” should be calculated using a 12-week reference period immediately preceding any holiday dates. This can be rather complicated, especially in respect of those workers whose pay fluctuates throughout the year — for example, seasonal workers and others on irregular hours. Some employers came up with a solution — rolled-up holiday pay. These workers’ weekly payments would include an element of holiday pay — though not yet taken. No additional payment would then need to be made when the workers actually took their leave.

The ECJ’s judgment

The ECJ ruled in Robinson-Steele v RD Retail Services Ltd [2006] IRLR 386 that the practice of rolled-up holiday pay was unlawful and should be discontinued. It was contrary to the WTD, as this was essentially a health and safety measure to ensure that workers took their statutory holidays. However, the ECJ then went on to state that if schemes for rolled-up holiday pay were “transparent and comprehensible” then they could be set off against the holiday entitlement.

British Government states its position

In 2008 the Government eventually responded to the ECJ’s judgment. Guidance was amended to state that rolled-up holiday pay was unlawful and that employers should renegotiate contracts with rolled-up holiday pay so that payment for statutory holiday leave is made when the holiday is taken. But employers in the process of changing their pay arrangements may still use rolled-up holiday pay if the payments are “transparent and comprehensible”. The rolled-up holiday pay can be offset against what has eventually to be paid.

In Lyddon v Englefield Brickwork [2007] UKEAT/0301/07 the EAT had confirmed that this was the legal position in the UK. The EAT held that rolled-up holiday payments could be set off against Mr Lyddon’s right to statutory holiday pay because the payments were contractual, and met the criteria of transparency and comprehensibility as set out in Robinson-Steele. The contract satisfactorily identified the sums referable to the holiday period.

Conclusions on rolled-up pay

Rolled-up holiday pay is contrary to the WTD but remains in use in the UK because it is effective and convenient, for example, for paying agency workers. The Government may not encourage the practice but it has not yet amended the WTR to comply with the European Court’s ruling in Robinson-Steele in 2006.

More recently, the 2017 Taylor Review of Modern Working Practices has suggested that “dependent contractors” (the renaming it suggests for “worker” employment status) should be given the opportunity to receive rolled-up holiday pay. It is doubtful if any provisions of the WTR will be changed before Brexit comes into being.

Maternity, adoption and shared parental leave

Workers continue to accrue holiday entitlements during maternity leave. But annual leave may not be taken during maternity, adoption or shared parental leave. In Merino Gomez v Continental Industrias del Caucho SA [2004] IRLR 407 the European Court confirmed that a worker is entitled to take annual leave at a time other than her maternity leave. This will mean employers agreeing to the carrying over of untaken annual leave into the next leave year.

It is suggested that these principles apply to all other “family friendly” periods of leave.

Practical advice to employers

  • Review policies and procedures relating to annual leave (both statutory and contractual) to ensure that they comply with this advice and the implications of the relevant case law — include elements relating to overtime, commission and allowances.

  • Audit the risk of litigation and potential levels of compensation.

  • In the light of the King v Sash Window decision, check that individuals are correctly labelled and work as “self-employed”. If they are in fact “workers” (and thus entitled to rights under the WTR), this could prove potentially very expensive. This is particularly significant for employers operating in the gig economy. They could be vulnerable to claims for annual leave going back a long way. If necessary, take legal advice.

  • Keep a weather eye open for the Court of Appeal’s judgment on these issues in 2018.

  • The position over holiday pay may improve for employers after the UK leaves the EU. There is considerable argument about the status of the European Court in the new legal landscape after Brexit — and any transition period.

Conclusions

As a result of the decisions of the European Court outlined here, it is clear that the WTR no longer reflects accurately the legal position. The UK courts have been required to adopt a “purposive approach” in their interpretation of the legislation — usually by adding words to the WTR.

It has been intimated in some quarters that parts of the WTR (especially those relating to the pro-workers’ decisions on the calculation of holiday pay) will be amended after the eventual completion of the Brexit — that the WTR will become more “employer friendly”. This remains to be seen.

A measure of uncertainty in interpreting the regulations therefore remains. The saga of holiday is not yet over.