Holiday pay:  Cost of holiday pay claims could rise after a ruling that a "series of deductions" is not ended by a gap of more than three months 

In a decision likely to affect the outcome of future UK holiday pay cases, the Court of Appeal in Northern Ireland has ruled that a "series of deductions" in an unlawful deductions from wages claim will not necessarily be broken by gaps of more than three months between underpayments.  Whilst decisions in Northern Ireland are not binding in the English courts, they are persuasive, so this decision will be relevant authority in any future appeals regarding holiday back pay (Chief Constable of the Police Service of Northern Ireland and others v Agnew, 2019)

Background

Under Article 7 of the Working Time Directive (WTD), EU Member States must ensure that workers have the right to paid annual leave. The WTD is implemented into UK law by the Working Time Regulations 1998 (WTR) and the Working Time Regulations (Northern Ireland) 1998 (as amended) (WTR NI).  The WTR or WTR NI both provide workers with 5.6 weeks' annual leave, of which 4 weeks' is derived from the WTD.   

Workers are entitled to be paid at the rate of a "week's pay" for each week of leave, calculated in accordance with sections 221 to 224 of the Employment Rights Act 1996 (ERA). For workers with normal working hours, a "week's pay" includes basic salary, but excludes payments for commission and overtime.  In Northern Ireland, the Employment Rights (Northern Ireland) Order 1996 (ERO) is written in the same terms as the ERA.

Although the WTD does not specify how statutory holiday pay should be calculated, European case law has indicated that the UK's approach to calculating holiday pay is insufficient, on the basis that workers are entitled to receive their "normal pay" for the WTD days of leave. In 2014, in Bear Scotland Ltd v Fulton and Baxter, Hertel (UK) Ltd v Wood and others, Amec Group Limited v Law and others (Bear Scotland), the Employment Appeal Tribunal (EAT) held that:

• Payments made in respect of overtime that an employee was obliged to work, but the employer was not obliged to offer, must be included in the calculation of holiday pay;
• The WTR (and, by analogy, the WTR NI) were capable of being interpreted so as to give effect to this requirement; 
• Employees could only bring claims for unlawful deductions from wages in respect of a "series" of underpayments where the gap between the deductions was 3 months or less (the 3-month rule).

The 3-month rule was an important aspect of the Bear Scotland decision since it severely limited the ability to bring claims for historical underpayments. This is because the case-law on the need for holiday pay to equate to normal pay is designed to give effect to the WTD leave only (i.e. 4 weeks per year). It does not govern the additional 8 days' leave provided by the WTR / WTR NI. What this means is that workers are only entitled to "normal pay" for the WTD days of leave. In Bear Scotland and the subsequent case of Willetts & others v Dudley Metropolitan Borough Council, EAT (2017) (Willetts), the EAT held that these 4 weeks will be deemed to be taken before the WTR leave. The upshot of this is that historical liabilities will often fall away towards the end of the holiday year because a 3-month gap is likely to occur in the period between the 20th WTD leave day in one holiday year and the 1st WTD leave day of the next holiday year.

Although the EAT in Bear Scotland granted permission to appeal the 3-month rule, none of the parties chose to do so. However, when the same case later returned to the Scottish Employment Tribunal, the claimants subsequently argued that the 3-month rule might not be binding, was wrongly decided or only created a strong presumption rather than a binding rule. Both the Scottish Employment Tribunal and the Scottish EAT upheld the UK EAT’s interpretation, holding that the only way that a new EAT could reach a different decision on this point would be if an established exception applied. This meant that the 3-month rule became a binding precedent which would be followed by Employment Tribunals and the EAT in the future (save where an exception applies permitting departure, which seemed unlikely). 

Facts

Between 2015 and 2016, claims were issued on behalf of 3,380 police officers and 264 civilian employees employed by the Police Service of Northern Ireland (PSNI) who had only received basic pay during their holidays. The claims amounted to an estimated underpayment of approximately £30 million, but the PSNI relied on the 3-month rule established in Bear Scotland to argue that the underpayments amounted to only approximately £300,000.

However, the Northern Ireland Industrial Tribunal (NIIT) upheld the claims, considering that the EAT had been wrong to find that a gap of three months or more would automatically break a "series of deductions" for the purposes of a holiday pay claim. The PSNI appealed, and the case was referred to the Court of Appeal in Northern Ireland (NICA).

NICA decision

In June 2019, NICA upheld the NIIT's previous decision, and, in doing so, contradicted the EAT's previous decisions in Bear Scotland and Willetts. The most significant aspects on appeal were: 

1. The meaning of a "series of deductions"

In Bear Scotland, the EAT decided that a "series of deductions" must have a sufficient factual and temporal link. This meant that there must be a sufficient similarity of subject matter, but also that there must be a sufficient frequency of repetition. In the EAT's view, this meant that there could not be a gap of more than 3 months in order for the deductions to form part of the same "series".  

In this case, NICA concluded that whether there is a "series of deductions" is a question of fact to be decided in each individual case and is not ended, as a matter of law, by a gap of more than 3 months between unlawful deductions, nor by a lawful payment. In coming to this decision, NICA noted that:

• a three-month gap breaking a series of deductions leads to 'arbitrary and unfair' results;
• there is nothing in the ERO which expressly imposes a limit on the gaps between particular deductions making up a series;
• as a matter of the proper construction of the ERO, a "series" is not broken by a gap of three months or more;
• the factual link in these cases is the common fault of paying basic pay as holiday pay, regardless of any consideration of overtime or allowances, but that a "series" is not broken by a lawful payment of holiday pay if the lawful payment comes about by virtue of the common fault of unifying or central vice that holiday pay was calculated by reference to basic pay rather than "normal" pay.

NICA's decision means that a having gap on grounds such as illness, family leave, or even just where the worker chooses not to take holiday for a period may not necessarily break the "series of deductions". Also, employers who occasionally pay the correct payment in a series of payments may not break the "series of deductions".

2. Is annual leave taken in a particular sequence?

NICA found that a worker has an entitlement to all leave from whatever source and there is no requirement that annual leave from different sources is taken in a particular order. NICA agreed with the NIIT that:

"…the only sustainable interpretation is that days of annual leave awarded on whatever basis form part of a composite whole. Any individual leave days taken from that pot are not possible of being allocated between one category or another. Each day's annual leave therefore must be treated as a fraction of the composite whole".   

Unhelpfully for employers, NICA's decision means that the ability to argue that a series of underpayments has been broken by a period of properly paid WTR or WTR NI leave is now severely limited, because every day of annual leave will attract a fraction of enhanced WTD rights.

3. Identifying the appropriate reference period

NICA found that a fixing a defined reference period for the purpose of calculating holiday pay (such as the default reference period of 12 weeks) was incorrect, because the appropriate reference period will be fact sensitive in each case. In this particular case, NICA encouraged the parties to agree a pragmatic, administration friendly method for calculating and paying "normal pay" based on averages taken over a rolling 12-month period immediately preceding the period of leave.

Comment 

After Bear Scotland, many employers adjusted how they calculated and paid holiday pay, although a small proportion were still waiting to see whether any aspects of any of the most recent decisions were appealed before making final amendments to practices and procedures. In fact, many employers found that they only had a limited historical liability due to the existence of (a) the 3-month rule; and (b) the overall 2-year back stop limitation on such claims introduced in July 2015 under the Deduction from Wages (Limitation) Regulations 2014 (2014 Regulations). The 2014 Regulations also clarified that claims for holiday back pay can only be brought in the Employment Tribunal (with a 3-month limitation period from the last in a "series of deductions") and not the civil courts (where there is a 6 year limitation period). However, the 2014 Regulations do not apply in Northern Ireland.

Whilst NICA's decision is not binding outside of Northern Ireland, it will be persuasive authority in the event that any holiday pay case is appealed. So, although the 3-month rule in Bear Scotland remains good law in England, Wales and Scotland for now, this latest development means that it is more likely to be successfully challenged in the future, thus potentially increasing the value of any underpaid holiday pay (due to the likelihood that a "series of deductions" would extend further back in time). However, any claims would still be limited by the 2-year backstop under the 2014 Regulations.  

For employers in Northern Ireland, where NICA's decision is binding and where the 2014 Regulations do not apply, NICA's decision is likely to have a more immediate and significant financial impact given that removing the 3-month rule increases the chances of historical liability for underpaid holiday pay stretching back as far as 1998 when WTR NI came into force.  

For now, employers with any ongoing holiday pay claims (or with potential exposure to future claims, such as if not currently including overtime or other regular payments in the calculation of holiday pay) should re-evaluate their defence to assess the extent to which it relies on a gap in any "series of deductions", and, if necessary, explore ways to mitigate the potential impact of this decision.

Chief Constable of the Police Service of Northern Ireland and Alexander Agnew [2019] NICA 32