Key Points:

Do you pay over the award? Now is the time to review your employment contracts.

As part of its four-yearly review of modern awards, the Fair Work Commission Full Bench has ruled that the standard absorption or offset clause in modern awards will be removed (4 yearly review of modern awards [2015] FWCFB 6656).

While the clause was never originally intended to provide a means of annualising entitlements under the award, it has over the years often been utilised as an implicit acceptance of an ability to offset.

This decision is an important reminder to employers that this clause cannot be relied upon and they must document any offset arrangements if making over-award payments.

"All-inclusive" rates and employments contracts

Employers will often pay employees over the minimum award rates. For administrative ease, it is common to pay an "all-inclusive" rate which is intended to compensate the employee for all award entitlements in relation to their work, such as minimum wages, overtime, penalty rates and leave loading.

However, this intention is not always clearly articulated in the employment contract or other documentation.

This creates risks, as the common law principles do not allow an employer to meet its obligations by offsetting award entitlements against over-award payments, unless there is specific agreement with the employee about what the over-award payments are compensating the employee for.

This means that, if a payment is made to satisfy a particular award obligation (for example, payment for ordinary hours of work), the excess cannot be set off against a claim for a different award obligation (for example, overtime), unless the employer has stated prior to the payment that the excess is paid to satisfy any entitlement to overtime.

Without this clear acknowledgment, the risk remains that the offset is not authorised, and the additional entitlements (intending to be offset) remain outstanding and are potentially required to be paid at the higher base salary.

What is the effect of the standard modern award absorption clause?

Modern awards have included a standard absorption clause since their creation in 2010:

"The monetary obligations imposed on employers by this award may be absorbed into over-award payments. Nothing in this award requires an employer to maintain or increase any over-award payment."

In the past, there has been conflicting views as to the legal effect of the clause, and whether the clause operating in isolation allowed employers to offset in the absence of agreement with the employee.

The former Fair Work Australia concluded that the clause had a narrow transitional purpose only, which gave employers the right to absorb any monetary obligations that increased as a result of the implementation of modern awards against existing over-award payments, and did not require them to increase any such payments.

Full Bench rules absorption clause will be removed

In its recent decision, the Full Bench reaffirmed that view and ruled that, as the clause had served its transitional purpose, it can no longer be included in modern awards.

Importantly, in response to Australian Industry Group submissions that the clause should remain to ensure award terms do not operate as a barrier to offsetting arrangements, the Bench said it was not persuaded there were any such barriers.

The Bench said that:

"Modern awards are part of the minimum safety net of terms and conditions established by the Act. It is not the function of such a minimum safety net to regulate the interaction between minimum award entitlements and over-award payments. Such matters are adequately dealt with by the common law principles of set-off to which we have referred and should be left to individual employers and employees to determine."

The importance of documenting award offset arrangements

The Full Bench's comments are an important reminder of the ability to use an offsetting arrangement if employers pay over the minimum award rates. However, it is crucial to carefully document those arrangements through a well drafted offset clause in an employment contract.

If this is not clearly documented, the employer will not be able to lawfully offset and will be at risk of:

  • underpayment claims, which can be brought for a period of six years;
  • prosecution by the Fair Work Ombudsman for award non-compliance and resultant penalties; and/or
    industrial disputes.

What should employers do about award compliance and their offsetting arrangements?

If employers have concerns about award compliance and their offsetting arrangements, it is important that they take action immediately and review their documentation.

To develop an effective offset arrangement, employers need to:

  • consider which award entitlements they want to "roll up" and which entitlements they want to pay separately, as and when they arise;
  • clearly articulate this in the offset clause;
  • ensure the over-award payments are sufficient to compensate the employee for the entitlements they are rolling up, and monitor this on an ongoing basis;
  • remember that not all conditions can be offset and have in place a system to ensure compliance with those clauses eg. non-monetary entitlements, leave provisions, rostering and hours of work.