Never has sunning yourself in the Caribbean, or being stuck in a traffic jam on the A303, sounded so profitable.  Last year employers paying commission to their employees were faced with unexpected increases to their wage bills. This followed a decision by the ECJ in the case of Lock v British Gas Trading Limited, which held that if a worker is paid commission based on the sales they make, the commission must be included in the holiday pay paid to that worker. 

Lock v British Gas Trading Limited: the background

Mr Lock was employed by British Gas as a sales consultant.  Each month he received his basic salary of £1,222,50 per month, and a variable amount of commission depending upon sales he had achieved.  When he took holiday, he received basic salary for the period he was not working, and any commission owing to him from sales he had previously made.  He argued that, since he was unable to carry out any work during his period of paid annual leave, he was not able to make new sales or follow up potential leads and accordingly, he was not able to generate commission – meaning his overall remuneration was smaller in the months following his holiday.

He brought a claim for outstanding holiday pay in the Leicester Employment Tribunal, which referred the issue to the ECJ. The ECJ held that, if commission is directly linked to work done, it is not an incidental payment and must be taken into account in the calculation of the total annual remuneration. In other words, commission that cannot be earned due to a worker being on holiday must be taken into account. 

As commission is a popular form of remuneration across many sectors including retail and utilities, employers were keen to understand what practical steps needed to be taken to be compliant. 

The key questions for employers concerned what reference period should be used for holiday pay calculations, and whether the decision to include commission in holiday pay calculations was limited to the first four weeks of statutory holiday required by EU law, or the additional 1.6 weeks of statutory holiday under the UK's Working Time Regulations 1988 (WTR) as well. Following the ECJ's decision, the case returned to the Employment Tribunal to decide:

  • whether the UK's WTR can be interpreted to be compliant with the ECJ's decision; and
  • to how much holiday pay Mr Lock was entitled.

The Tribunal has confirmed that the WTR comply with the ECJ's decision in Lock. Regulation 16(3) of the WTR can and should be read so that for the purposes of Regulation 13 a worker with normal working hours whose remuneration includes commission or similar payment shall be deemed to have remuneration which varies with the amount of work done. This purposive approach to the WTR allows it to be consistent with the calculation of a week's pay under Article 7 of Council Directive 2003/88/EC.

The Employment Tribunal also confirmed that the ECJ decision only applies to the first four weeks of EU statutory holiday, and not the remaining 1.6 weeks of statutory holiday to which UK workers are entitled.

It's not over 'til it's over

However, a number of important questions remain unanswered, not least the most important (especially to Mr Lock himself) of how much holiday pay he is owed:

  • the reference period for calculating holiday pay also remains uncertain. A reference period of a year has been suggested, although this could be substituted with a different reference period. Another likely possibility is 12 weeks as this is a reference period used for measuring working time under the Working Time Regulations 1988.
  • British Gas argued that its commission rate was set to take account of holiday periods, and that therefore Mr Lock had suffered no actual loss.  Whilst the practice of "rolled-up" holiday pay (including an element of holiday pay in normal remuneration, rather than paying the correct amount of holiday pay at the time the worker takes his or her leave) is unlawful in the UK, it remains unclear how this rule applies in relation to commission.  

Employment Tribunal decisions do not bind other tribunals, and it is possible that the decision of this tribunal will be appealed to the Employment Appeal Tribunal. Until then, this decision provides only an example of how tribunals may view such cases.

Practical points for employers

Employers should now be clear that commission that could not be earned because an employee was on holiday should now be taken account of in the following pay period. Employers are also secure in applying this rule to the first four weeks of holiday in each holiday year alone. For some employers, it might be possible to annualise payments and pay a pro-rated amount in respect of smaller periods, but changes should not be made without careful consideration of their implications.

Consider how your payroll software can monitor commission earned and the pay to which workers are entitled for each period of holiday. 

Some employers may be considering other alternatives to offering commission or seeking out ways to offset the additional cost to the business. This might include reducing, or more likely not increasing, basic pay or replacing commission with discretionary bonuses linked solely to company performance.

For senior employees, offering equity may also be an alternative but this is an unsuitable reward mechanism for the majority of employees. In some industry sectors, commission remains a key component of pay. Finding a way to incentivise sales employees outside of a commission structure is not a straightforward task. Is it possible, or sensible, to risk upsetting the apple cart to save this additional cost?

What does this mean for pension payments? Pension benefits are usually linked in some way with an employee's pay, and the pension scheme rules say how pay is defined for this purpose and how benefits are calculated during periods of absence such as holidays.  So the impact of this case, if any, will depend on how the pension scheme is worded on these issues, how commission is currently treated in the pension scheme rules and what the UK tribunal will say about how commission should be calculated for the purposes of holiday pay.   Most schemes exclude fluctuating pay such as commission from the pensionable pay definition, but it is worth noting that the minimum rules for automatic enrolment, the new compulsory pension arrangements, do include commission, so that requirements to pay commission during holiday periods will impact on those pension contributions.

For employers worried about historic liabilities, the Government has already announced a limit on back holiday pay claims for two years from the date of presenting the claim, which will apply from 1 July 2015.