UK Employment Law Coffee Break | Holiday pay: Supreme Court provides clarification for employers in ruling on unlawful deduction of wages claims

Supreme Court rules on a 'series' of underpayments for unlawful deduction of wages claims

The Supreme Court has handed down an important decision clarifying certain aspects of entitlement to paid holiday pay following an appeal from a decision of the Northern Ireland Court of Appeal (NICA).

It was accepted by the relevant employers in this case that the claimants had been underpaid for the four weeks holiday under the Northern Ireland Working Time regulations (NI WTR) having only received basic pay for such leave rather than "normal remuneration" in line with case law from the Court of Justice of the European Union (CJEU). However, the parties disputed to what extent these historic underpayments could be claimed as an unlawful deduction of wages claim under the Employment Rights Order (NI ERO).

While the case centred around the statutory provisions in Northern Ireland, in its decision the Supreme Court expressly considered the parallel legislation in the Employment Rights Act 1996 which applies to employers in England, Wales and Scotland. It noted that there was no suggestion that "the material parts of these provisions should be interpreted differently from each other"; the decision therefore has implications for all employers across the United Kingdom.  

Time limit for bringing an unlawful deductions of wages claim

The advantage to the claimants of bringing a statutory unlawful deductions of wages claim under the NI ERO is that it provides a distinct exception to the usual three month time limit for bringing a claim from the alleged underpayment, by permitting a claim for underpayments arising from a series of payments, provided that the complaint is made before the end of three months from the day of payment of the wages from which the last in the series of deductions was made (our emphasis).

This was termed by the Supreme Court as the "Series Extension", the broad purpose of which "is to provide a measure of protection against the operation of the short limitation period for a worker who suffers repeated deductions from his or her wages with the consequence that he or she is paid too little, not just on one occasion, but on a series of occasions".  

The Supreme Court noted that "an important general purpose of the legislation… is to give workers a measure of protection from exploitation… it's among other things, to protect vulnerable workers from being paid too little for the work that they do".

The Series Extension in the statutory unlawful deduction provisions in the NI ERO contrasts with a claim under the NI WTR which, in general, restricts a claim to only those underpayments in the three month window before the claim was presented.  

What constitutes a 'series' is a question of fact

The Supreme Court noted that what constitutes a series is a question of fact, "series, being an ordinary word with no particular legal meaning" and which in this context involves two particular matters: "first, a sufficient similarity of subject matter, such that each deduction was factually linked to the next in the same way as it was linked to its predecessor; and secondly, a sufficient degree of repetition".

This was in line with the approach adopted by the Employment Appeal Tribunal (EAT) in England and Wales in the Bear Scotland case, which considered whether there was a series of holiday underpayments for the purposes of the statutory unlawful deduction provisions in the Employment Rights Act 1996.

Here, the NICA was right to find that "each unlawful deduction in relation to holiday pay was factually linked to its predecessor by the common fault or unifying vice that holiday pay was calculated by reference to basic pay rather than normal pay".

Do two unlawful underpayments separated by a gap of more than three months or the making of a lawful payment end a series?

The EAT in the Bear Scotland decision, however, went on to find that a series of unlawful underpayments would end where a gap between two unlawful underpayments exceeded three months.

Its reasoning for this was that jurisdiction for a tribunal to hear a statutory deduction of wages claim would be lost unless a claim was brought within three months of the deduction or the last of a series of deductions being made (or it was not reasonably practicable for the complaint to be presented within the three month period) and "jurisdiction could not be regained simply because another non-payment, occurring more than three months late, could be characterised as having such similar features that it formed part of the same series"; jurisdiction to consider a complaint would have "been extinguished by the passage of time".

The Supreme Court found this reasoning was in error; instead it was necessary to have regard to the purpose of the unlawful deduction provisions referred to above and to interpret the language of the statutory provisions "so far as possible, in the way which best gives effect to that purpose".  

The Supreme Court noted that while the purpose of the unlawful deduction provisions "protecting potentially vulnerable workers is not uncontrolled… to assume that a gap of more than three months between an act of which complaint is made and any acts which preceded it will necessarily extinguish the claimant's ability to recover in respect of the earlier acts" would ignore the purpose of the Series Extension. Instead, to give proper effect to the purpose of the scheme, while there must be a relevant act or failure to act which has occurred within that the three month period, the complaint is "not necessarily confined to that act or failure" where it is shown to be the latest in a series of deductions "all of which are relevantly connected with each other… they are all comprised in one series, which for this purpose is "in time'".

The Supreme Court also agreed with the finding of the NICA that the series was not broken or brought to an end by "any correct and lawful payment of holiday pay in so far as that payment came about (in common with the other payments in the series) by virtue of the application of the common fault or vice" that holiday pay was calculated by reference to basic pay rather than normal pay. Each payment was still linked to its predecessor by that common fault or vice.

Identifying a series for the purposes of an unlawful deductions claim

The Supreme Court rounded up its conclusions on the legal framework with helpful practical considerations for employers:

• When answering the question whether the alleged underpayments form a series, all relevant circumstances must be taken into account, including in relation to the deduction in issue; their similarities and differences; their frequency, size and impact; how they can be made and applied; what links them together; and relevant circumstances.
• Although it may be a relevant factor, a "contiguous sequence of deductions of a particular kind" is not a requirement of a series – but that is not to say that deductions which do not follow each other in time necessarily constitute a series. Nor does it mean that a series of unlawful deductions remains intact when it is interrupted by a lawful payment. All will depend on the nature and the reason for the deductions and how any lawful payment has anything to do with them.
• It is helpful and important to identify the fault which is said to underpin the alleged series of unlawful deductions. Here, the series was a series of deductions in relation to holiday pay with each unlawful deduction said to be "factually liked to its predecessor by the common fault or unifying vice that holiday pay was calculated by reference to basic pay rather than normal pay". Identifying the alleged series as a series of deductions in relation to holiday pay meant the lawful payments while the claimant were working between holiday periods "did not of themselves interrupt the series". Likewise the series was not broken or brought to an end by any correct and lawful payment of holiday pay, in so far as that payment came about by virtue of the application of the common fault or vice that holiday pay was calculated by reference to basic pay rather than normal pay – each payment was still linked to its predecessor.
• It did not matter that the interval between the unlawful deductions in the series was from time to time in excess of three months; "these intervals of three months did not in and of themselves and as a matter of law break the series or bring it to an end".  

No requirement for annual leave to be taken in a particular sequence

An issue which has historically added complexity to claims for underpaid holiday pay is whether or not holiday entitlement derived from different sources (that is, the four weeks required by the European Union Working Time Directive, additional statutory leave required by domestic working time regulations and any enhanced leave provided for by the employer under the employment contract) will be deemed to be taken in a holiday year in a particular order.   

While the Supreme Court noted that the "significance of this issue is considerably diminished" by its conclusion that a series of deductions or underpayments does not come to an end as a matter of law simply because it has been interrupted by a lawful payment or that a series is necessarily broken where there is an interval of more than three months between deductions or underpayments, it was satisfied that the NICA had come to the right conclusion that a worker "is entitled to enjoy leave from whichever legal source it may be derived and that there is no requirement as a matter of law that the leave derived from different sources must be taken in a particular order".

The ultimate source of the entitlement to leave, whether it be in EU or purely domestic law, has no bearing on the importance of that leave to workers who are likely to look at their annual leave entitlement as a composite whole; "indeed, for an employer to subsequently contend that a worker was taking leave from a particular entitlement at a particular time and so argue that the series of deductions they suffered was interrupted and brought to an end, would be to deny them sums which they ought to have been paid and looking forward, antithetical to the purpose of the entitlement to paid leave, which is to ensure that they take the holidays they need to maintain their health and wellbeing". 

The Supreme Court noted that in so far as it is not practicable to distinguish between different types of leave then "all the leave to which the worker is entitled must form part of single, composite pot". It did not offer any further thoughts on those circumstances where it would be practicable to distinguish between the different types of leave.  

Addressing the calculation of underpaid holiday pay

The Supreme Court confirmed that how any underpaid holiday pay should be calculated was a matter "best left to the tribunal" – what constitutes normal remuneration and the appropriate reference period in any given case is a question of fact.

Here, "essentially for pragmatic reasons", the NICA encouraged the parties to agree a method for calculating pay based on a 12 month reference period.

The Supreme Court also noted that it had "no doubt that the [NICA] was right" that the underpayments should be calculated by reference to the claimant's working days rather than calendar days (where they are not the same) in the applicable reference period. Dividing the number of working days in the four weeks' leave period provided for by the EU WTD (20) by the number of calendar days in the reference period (365) did not compare like with like.  

What does this mean for employers?

The Supreme Court's decision provides helpful clarification for employers after years of uncertainty and speculation around the EAT's reasoning in Bear Scotland.

As well as upholding the decision of the NICA, the outcome reflects the "strong provisional view" previously expressed by the Court of Appeal (CA) on this issue in the Pimlico Plumbers case; the period during which a claim can be brought is three months from the date the last payment was made but "this three month limit does not restrict or qualify the meaning of a series of deductions".

As is evident, the Supreme Court decision potentially significantly extends those underpayments which may form a "series" for an unlawful deduction of wages claim from the position set out in Bear Scotland. It noted that while "the sums involved in any particular claim may not be great…", the decision "may have a bearing on thousands of claims each year and so have a cumulative impact which is very significant indeed".

Employers should note that while the case here centred on the gap between underpayments of holiday pay, the Supreme Court stated, "many of the same points emerge on consideration of other forms of wage from which deductions may be made on more than one occasion, and where the intervals between deductions may be irregular and largely out of the worker's control".

The Supreme Court gave the example of a worker who suffers from an ailment and may have no control over when he or she falls sick and needs to take sick pay, but the employer on the other hand routinely makes unauthorised deductions from those payments and on some occasions the interval between such payments may be less than three months and on others it may be more. A worker claiming commission "may be in much the same position" with commission payable at irregular points in the year, for example, when a particular result is achieved – meaning that in some instances a series of underpayments would be broken given the gap between payments, whereas where payments were more frequent, it would not but "without any sufficient justification" for the different outcomes.

If Bear Scotland was followed, the Supreme Court noted that "it is not difficult to imagine similarly harsh and arbitrary results from the application of the interpretation for which the appellants contend to, for example, overtime payments, bonuses, bank holiday pay and to unlawful deductions applied to wages on account of cash shortages or stock deficiencies".

Employers in England and Wales do, however, still benefit from the "two-year backstop" introduced in 2015, essentially limiting unlawful deduction claims from extending back more than two years. This backstop is not reflected in the NI ERO.

This decision comes against the backdrop of the recent Pimlico Plumbers case (see above) where the Court of Appeal determined that the claimant, who had originally been engaged as a self-employed contractor but successfully argued that he was a worker, could claim unpaid holiday entitlement due to him under the WTR for the whole of that period (back to when the WTR came into force), rather than being limited to the three month window for bringing a WTR claim for unpaid holiday. The CA reached its decision on the basis that the claimant had been denied the right to take holiday for the whole of that period (rather than there was an underpayment of a specific period of WTR holiday taken). The two year backstop does not apply to the WTR so would not limit a claim where these circumstances arise.

We are closely following the recent consultation on holiday pay, which the government launched in May this year and which closed on 7 July. Part of this consultation proposes the merger of the current four weeks leave derived from the EU WTR and the 1.6 weeks of statutory holiday entitlement provided under the Working Time Regulations into one and which may address the Supreme Court's comments around leave from different sources being treated as "part of [a] single, composite pot".

What should businesses do now?

This is complex, and the extent to which organisations are at risk of claims and what they can do to minimise further claims, will depend on the details of their relationships with relevant workers. If you think your organisation may be affected you should take legal advice about this, including the extent to which you need to adjust engagement models to minimise claims and the extent to which you may need to make provision for contingent liabilities in this area (for example in an M&A situation).

If you would like to discuss the implications of this decision for your business, please speak to your usual Osborne Clarke contact or partner, Kevin Barrow.