Holiday pay is often a tricky issue for employers and one which seems to be changing constantly. In the light of several new cases discussing holiday pay which have been reported over the summer and in the last couple of weeks, we take the opportunity to round up the legal developments, and set out five things employers should know before deciding how much holiday pay an employee may be entitled to on termination of their employment.

1.  Was the worker on long-term sick leave? Holidays accrue during sickness absence

This concept caused a lot of debate in the courts, right up to ECJ level and back again. Now it has been clear for a number of years, thanks to the ECJ case of Stringer and others v HMRC, that workers on sick leave continue to accrue annual leave. Further, if they are unable to take that holiday because they are on sick leave then they must be allowed to take it on their return to work. In the same case, the House of Lords (now the Supreme Court) made clear that there was nothing in the UK legislation to prevent workers from taking holiday during a period of sickness absence.

Note that these principles only apply to ‘Directive-based’ annual leave, i.e. the minimum four weeks required under European legislation. The case did not state that workers would be entitled to accrue anything over and above this during a period of sickness absence, and indeed the very recent EAT case of Sood Enterprises v Healy indicates that employers need only allow employees to accrue this ‘Directive-based’ annual leave during sickness absences (provided they do not have any contractual entitlement to accrue more leave during sickness absence, of course).      

Employers should: be careful to include periods of sickness absence when calculating the amount of holiday a worker is entitled to on termination, at least in relation to ‘Directive-based’ annual leave entitlements.

2.  Workers may be entitled to carry over holiday to the next holiday year

The decisions in Stringer did not answer the question as to what the position would be if a worker did not take his accrued holiday whilst on sick leave, and then did not return to work until the next holiday year. Carrying over holiday into the next holiday year is not permitted under the Working Time Regulations 1998 (the “WTR”). Would the worker nevertheless be able to carry such holiday over into the next holiday year? 

This was discussed further in the case of Pereda v Madrid Movilidad, where the ECJ held that if a worker is ill during a pre-arranged period of holiday, that worker is entitled to rearrange that holiday, even if this means carrying over into the next holiday year. The UK Court of Appeal then considered the issue in NHS Leeds v Larner, and held that Mrs Larner, who had been on long-term sickness absence for the whole holiday year, was entitled to carry over her holiday into the next holiday year, even though she had not requested to take the holiday during her sickness absence. 

Employers should: be wary of not allowing a worker on sick leave to carry over at least their basic ‘Directive-based’ holiday into the next holiday year, even if internal policies prohibit this. (Again, note that the position is different in respect of any contractual ‘enhanced’ holiday the worker is entitled to, and it has even been found to be different in respect of any holiday over and above the European minimum of 4 weeks, including the WTR minimum of 5.6 weeks. Employers can prohibit carry-over of such holiday without infringing EU law, as was shown in the recent EAT case of Sood Enterprises v Healy.)

3.  Workers who are ill whilst on holiday are entitled to rearrange that holiday

 The ECJ cases of Pereda (above) and Asociación Nacional de Grandes Empresas de Distribución (ANGED) v Federación de Asociaciones Sindicales show that workers who fall sick either during or prior to a pre-arranged holiday must be able to take the holiday they ‘missed out on’ at another time. 

This might cause concern for employers who suspect employees of falsely claiming they were ill whilst on holiday. Such employers might note that the WTR do allow employers to specify when their workers must take holiday, and this could, in theory at least, include requiring workers to take holiday during any period of sickness absence. 

However, since these two European cases, employers should be wary of using the WTR to ‘force’ employees to take their holiday whilst sick. It was held that holidays are designed to be a period of “relaxation and leisure”, whilst sick leave is designed to enable the worker to recover from an illness. Although we have no UK case on this point yet, it is likely that the UK Tribunals would seek to interpret the provisions of the WTR in light of these decisions, and employers in the meantime should consider taking other measures to prevent workers from abusing the system and claiming to be ill when on holiday – such as requiring doctor’s certificates even for short absences, refining their internal policies surrounding when contractual sick pay will be paid, and ensuring sickness absence is always closely monitored.

Employers should: ensure the position is clear at the time the employee is sick as to whether he will be allowed to rearrange his holiday. Clear policies, which set out exactly what a worker must do if he wishes to rearrange his holiday if he falls sick, are key.

4.  Paying for holiday – no token amounts!

 Regulation 14 of the WTR provides that a worker is entitled to be paid for any accrued but untaken holiday on termination of his employment. Such holiday pay will be calculated by reference to the worker’s usual remuneration, unless there is a ‘relevant agreement’ in force which sets out a different amount. A ‘relevant agreement’ will include a contract of employment.

Back in 2001, Witley & District Men’s Club tried to argue that an agreement stating that the worker would not be entitled to any payment for accrued holiday if he was dismissed for dishonesty fulfilled the requirements of Regulation 14 and could therefore be enforced (Witley & District Men’s Club v Mackay). The EAT gave short shrift to that argument, holding that the wording of the WTR clearly requires that some payment is made to the employee – an agreement specifying that no sum would be paid on termination is a contravention of the WTR and is therefore void.

An astute employer might try to turn such a case to its advantage – perhaps by including a provision in employment contracts stating that a token sum (rather than nothing) would be paid in respect of any accrued annual leave which has not been taken at termination. This is what Edinburgh Woollen Mill Ltd tried to achieve recently – Ms Podlasiak’s employment contract with the company stated that she would only be entitled to £1 in respect of accrued but untaken holiday as at the date of termination. An Employment Tribunal held this summer, however, that this was also void: payments within relevant agreements will only be enforceable for the purposes of Regulation 14 WTR if they are equivalent to the actual holiday pay which would have been due. This is only a first instance case and so not binding, but employers should be aware that the Tribunal sought to implement European law in coming to this decision.

Employers should: avoid agreements which replace actual holiday pay with a token amount, and instead calculate payment by reference to actual remuneration. 

 5.  Overtime payments and holiday – how much should you pay?

 As discussed above, any payment in respect of accrued but untaken holiday on termination must be calculated by reference to the worker’s usual rate of salary. The question becomes more complicated, therefore, when that worker undertakes overtime – should those overtime payments be included in the calculation for outstanding holiday pay?

In 2011, the ECJ considered this point in the case of Williams v British Airways plc, holding that it will not be sufficient to base the calculation of holiday pay on basic salary alone – payments over and above the basic salary should also be included where they are "intrinsically linked to the performance of the tasks which [the worker] is required to carry out under his contract of employment and in respect of which a monetary amount, included in the calculation of his total remuneration, is provided".   This would seem to include any overtime payments which form part of the worker’s “normal remuneration” (e.g. because they are contractual, or because the worker is always required to do them as a matter of practice).

The recent case of Neal v Freightliner has considered this point further. In a judgment in July this year, an Employment Tribunal held that even voluntary overtime must be taken into account when calculating holiday pay if it is "intrinsically linked” to the performance of the worker’s contractual duties. The fact that overtime is voluntary does not necessarily preclude it from being “intrinsically linked” to the worker’s duties.

This latest case is also a first-instance decision and is therefore not binding. It is currently being appealed but, unless and until we have some guidance from the higher courts, employers are advised to consider seriously the risks of not including regular voluntary overtime in any calculation for outstanding holiday pay.

Employers should: consider including certain overtime within the calculation of holiday pay payable on termination. Employers who are concerned that employees will increase their hours significantly during a period of notice (thus artificially increasing their remuneration for the purposes of the holiday pay calculation)should ensure that internal policies are in place to legitimately control the amount of overtime an employee can undertake.