The Employment Appeal Tribunal's judgment on holiday pay on Tuesday has drawn a great deal of attention and caused concern amongst employers, but what is the impact?

Until recently, it was perfectly acceptable (and confirmed as such by the Employment Tribunals) for holiday pay to be calculated on the basis of basic pay for contracted working hours only.

And so, if you had a worker with contracted working hours of 39 hours per week who in fact worked compulsory overtime of a further 19 hours per week (taking him to a total of 58 hours' work per week) his holiday pay would based on his pay for 39 hours NOT 58 hours. This sounds reasonable on the face of it. However, it does leave room for manipulation. To take an extreme example, a worker could be given contracted working hours of 1 per week and compulsory overtime of 39 hours per week, he would only be entitled to holiday pay based on 1 hour.

Equally, if you had an employee with a basic salary of £200 per week with the ability to earn regular commission doubling his pay to £400 per week, his holiday pay would be based on his basic salary of £200 not his total take home pay of £400. Again, this allowed room for some manipulation as in some industries sales people will earn a very low basic wage against significant amounts of commission.

The EAT's judgment has highlighted that these practices are no longer acceptable. This follows on from European case law, which we have looked at in our recent seminar (October 2014).

Overtime/ Shift Allowances
The case of Williams v British Airways Plc in the European Court of Justice concluded that holiday pay must correspond with the worker's normal remuneration, which meant that if a worker normally received pay above and beyond their basic pay (e.g. for shift allowances, night work, travel supplements, away from home allowances, overtime, etc.) then this should be factored in to their holiday pay.
Where a worker's normal remuneration varies from week to week, it will be necessary for employers to work out an average of pay over some representative reference period.

Commission
The case of Lock v British Gas Trading Limited was also considered by the European Court of Justice. It was concluded that (as for overtime), commission that is part of the worker's normal remuneration should be included in their holiday pay.

It was held that a worker should be no worse off financially as a result of taking his holiday than if he had continued working. In this case, commission was earned prior to holiday and paid during holiday. Accordingly, the worker was not worse off financially during his holiday, but was worse off financially after his holiday because he had not been able to earn commission whilst on holiday. The ECJ held that this could deter the worker from taking holiday and so commission that could have been earned during holiday should be paid!

How this is to be worked out in practice remains unclear, again the ECJ appeared to envisage that employers would be able to work out an average of pay over some representative reference period.

The difficulty that we now face is establishing what the reference period should be. Employment law legislation provides for a reference period of 12 weeks and is used for calculating a worker's average weekly pay in other scenarios e.g. the calculation of redundancy pay. This could be applied to holiday pay by taking an average of pay in the 12 weeks before the holiday is taken. Alternative legislation dealing with calculating whether a worker has received National Minimum Wage allows for a reference period of 1 month, which again could be applied to holiday pay by taking an average of pay in 1 month before the holiday is taken

However, this could result in an obligation to pay sums that would never have been received if the employee were at work. In many businesses there will be peaks and troughs of activity; an employee taking holiday during a quiet period immediately following a very busy period would earn more on holiday than they would at work.

For the time being, we lack guidance on what the reference period should be. Some businesses would prefer to use a reference period from the same time in the previous year as a better representation of the peaks and troughs of their business. However, this will not suit other businesses whose performance has improved and fallen off over recent years. Business Secretary Vince Cable has said that he will set up a task force as a matter of urgency to determine the impact of these decisions.