According to the Court of Justice of the European Union (CJEU), commission should be taken into account when calculating holiday pay (see Lock v British Gas). At the end of July, the Employment Appeal Tribunal will consider whether voluntary and/or regular overtime and emergency call-out payments, should also be taken into account when calculating holiday pay (see Neal v Freightliner). 

If employers do not include commission and overtime payments in holiday pay, they could find themselves facing claims from both current and former employees. It is not clear how far back such claims will span as they can be brought under three main categories:

• under the Working Time Regulations 1998 (WTR) - claims must be brought within three months of the date on which the holiday pay should have been paid

• under the Employment Rights Act 1996 (ERA) as claims for unlawful deductions from wages (see HMRC v Stringer). These should be brought within three months of the last in the series of deductions, and may include deductions going back to the start of employment (or to 1998 and the introduction of the WTR, whichever is later) if holiday pay has always been calculated in the same way

• as a breach of contract claim, which must be brought within six years of when the breach occurred. It is possible that claims under this heading may be allowed to go back as far as 1998.

Under the European working time directive, workers should not suffer a detriment for taking holiday. In the Lock case, the CJEU said national courts should focus on the average commission earned over a representative reference period. Unfortunately it provided no further guidance on this calculation. Under the ERA, the reference period for averaging purposes is 12 weeks. The Advocate General's opinion in Lock indicated a 12-month period may be appropriate (although the opinion is not binding on courts). This leaves the position on how commission should be included in holiday pay unclear.

In these circumstances there is no ‘one size fits all’ answer for businesses. Employers should carry out a risk assessment of their potential liability over holiday pay, so they can take an informed decision regarding their next steps. Once organisations have a clear picture of how holiday pay is currently calculated (and, ideally, historically too) they will be in a better position to assess the legal and financial risks involved in continuing as they are.

They should look at current payroll systems, pay and commission schemes, bonuses, allowances and the circumstances under which these are paid. They should review employment contracts and staff handbooks, and past grievances and tribunal claims relating to holiday pay. They also need to factor in custom and practice (arrangements established over the years on how holiday pay is calculated, but not documented in formal policies and procedures).

Depending on the outcome of this risk assessment, organisations may decide to:

• do nothing, on the basis that the risks are minimal and can be addressed on a case by case basis when necessary, or when further guidance on the method of calculation is given by the courts

• vary the calculation method for future holiday pay while dealing with historic liabilities on a case by case basis; or take a head on approach to historic liabilities through compensation payments offered under settlement agreements

• adopt a proactive approach where the scale of the problem is potentially large, and a raft of claims is expected, and voluntarily put in place a mechanism for swift and amicable resolution of complaints. Where exposure is high, organisations could consider setting up a contingency fund.

There are pros and cons involved with adopting either a proactive or “play it by ear” approach. In order to mitigate future liability, the method for calculating holiday pay would need to be amended now so as to break the chain of incorrect payments and try to prevent claims for a series of unlawful deductions in future. 

On the other hand, adopting a proactive stance is likely to highlight the issue for employees, especially in a unionized environment. It also risks using an incorrect method of calculation, given the correct approach is still up for debate. In addition, such proactive action would not be guaranteed to avoid potential breach of contract claims in respect of provisions in employment contracts which state that the WTR has been incorporated. 

However, there is no doubt that a risk assessment at this stage should help businesses take an informed and commercial stance on how they are going to address the question of holiday pay calculation in the future.

Louise Randall is an employment law specialist at Shoosmiths