Employment Rights Bill: Time to get holiday pay arrangements in order!

Members will be aware that over the last decade, the legal landscape surrounding holiday pay has been ever-evolving. With the implementation of the Employment Rights Bill looming, the “wait and see” approach is not recommended. Now is the time to ensure your holiday pay practices are correct and in line with current legislation. In this members brief, we will outline the key changes to holiday pay and why, more than ever, it is important to ensure your business is compliant.

Holiday pay considerations

Is your business calculating holiday pay correctly?

Following a string of case law through the courts, it was confirmed that “normal remuneration” could include elements such as:

• Payments that relate to seniority, length of service or professional qualifications;
• Commission;
• Incentive bonuses;
• Overtime pay including shift premiums, whether compulsory or voluntary, guaranteed or non-guaranteed, where they are regularly;
• Performance bonuses;
• Standby and on call payments.

The principles established by case law were reinforced by domestic law following the ER Regulations 2023 whereby the Working Time Regulations 1998 (WTR) were amended to provide that ‘a weeks pay’ for the purposes of calculating holiday pay should include:

• Payments, including commission payments, intrinsically linked to the performance of task 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.
• Payments, such as overtime payments, which have been regularly paid to a worker in the 52 weeks preceding the calculation date.

In light of these developments, the current position is that employers must calculate holiday pay for those with irregular hours by finding the average weekly pay from the last 52 week period, inclusive of any elements listed above. This applies to the first 20 days of holiday entitlement (formally known as Regulation 13 leave).

The confusing position around composite holidays

Historically, some employers treated the first 20 days of annual leave differently from the remainder of an employee’s holiday entitlement. For example, they might have paid the first 20 days to include overtime or other variable pay, while paying any additional leave at basic salary only. The rationale for this approach was that the first 20 days derive from European law — the Working Time Directive — and therefore attracted specific rules, whereas the additional leave did not.

For administrative simplicity, however, many employers chose to apply the same, more generous pay rules across the entire annual leave entitlement.

This approach was called into question by the Supreme Court’s decision in Chief Constable of the Police Service of Northern Ireland v Agnew [2023]. The Court confirmed that each day of annual leave must be viewed as a composite pot, made up proportionately of:

• Regulation 13 leave (the first 20 days under the Working Time Directive)
• Regulation 13A leave (the additional 8 days under UK law)
• Any contractual leave provided by the employer in addition to the above

This ruling created practical challenges for employers who had previously applied different pay rules to the first 20 days of leave. In response, many employers have since opted to clarify the order in which leave is deemed to be taken within their employment contracts, ensuring consistency and legal compliance.

Rolled up holiday pay

‘Rolled- up’ holiday pay refers to the practice of not offering paid periods of holiday but instead having the basic rate of pay be inclusive of holiday pay. Based on 5.6 weeks of leave per year, employees would receive 12.07% on top of their hourly wage.

This practice was made unlawful following the decision by the European Court of Justice in Robsin-Steele v PD Retail Services and other cases 2006. The ruling clarified that ‘rolled up’ holiday pay was contrary to Article 7 of the WTD. However, it included a caveat that any sums already paid to a worker under a rolled-up holiday pay scheme could be set off against the holiday pay due to the worker, provided that the arrangements were transparent and outlined in addition to pay for work. The UK Government response to the ruling confirmed that UK companies allowed the offsetting principle, but only for a short period whilst arrangements were made to remove the practice completely.

On 1 January 2024, the ER Regulation 2024 allowed rolled-up holiday pay to be paid where a worker has “irregular hours” or is a “part-year worker”. Legal advice is advised to ensure that workers fit the legal definitions of both “irregular hours” or “part-year” workers.

Why is this important now?

The Fair Work Agency

The implementation of the Employment Rights Bill (ERB) introduces new challenges which will heighten the risks of paying incorrect holiday pay. In addition, provisions within the ERB make it more difficult for employers to change contractual holiday pay schemes.

The ERB will establish the Fair Work Agency, proposed to launch in April 2026 (FWA). The FWA will have strong powers to investigate and take action against employers who are found to be incompliant with employment legislation. The powers of the FWA are expansive, however, some key powers are below:

• The power to inspect workplaces and require employers to provide documentation which shows they are compliant with employment legislation;
• Issue a Notice of Underpayment in respect of any employee found to be underpaid – this includes holiday pay. This will involve repayment of underpaid sums to all applicable workers for the 6 year period before the date of the notice.
• In addition, the FWA can impose a penalty to the value of 200% of the sum outlined in the Notice of Underpayment, per worker. A discount may be given if the employer pays within 14 days.

The creation of the FWA undoubtedly heightens the risks for employers who are not paying holiday pay correctly. With investigatory powers and the ability to both enforce payment and issue a penalty, it is important to ensure that practices are compliant with the law in advance.

Developing case law

Claims for unlawful deductions of wages are subject to a two-year backstop. In practical terms, this means that where an employer is found to have made an unlawful deduction from wages, calculation of the repayment is capped at the previous 2 year period. This substantially cuts down the value and risk of a historic holiday pay claim.

This position is now being threatened as a result of the decision made in the employment tribunal case, Afshar v Addison Lee Ltd 2020. It was held in this case that the two-year backstop on deductions from wages was ultra vires (unlawful) and therefore of no effect. This is a first tier tribunal decision and so is not binding on other courts and tribunals. However, the case has been appealed to the Employment Appeal Tribunal (EAT). If the EAT agrees with this position, it will become binding and claims for arrears of holiday pay could go back many years. The case has not yet been listed but the HR and Legal team at Scot Eng will continue to monitor its progress.

What can we do now?

It is advised that members review their practices and procedures to ensure that they are compliant with the law. Member companies who subscribe to Scottish Engineering’s Integrated Support & Advice service can benefit from reviews of this nature.

Particular caution should be exercised around holiday pay considering the evolving legislative framework over recent years. If your business is not paying the correct amount of holiday pay, you should take steps to rectify it as soon as possible. The best solution will be dependent on your specific business and so legal advice is advised to reduce as much risk as possible. The risk of claims being higher-value, coupled with increased regulatory power, means it is more important than ever to get pay right.