Court of Appeal Overturns Employment Court’s Decision on Discretionary Bonuses in Holiday Pay

The Court of Appeal has overturned the decision of the Full Court of the Employment Court about when employer bonuses are included within holiday pay. The key is whether the employer is contractually bound to pay the bonus.

Legislative Context

Gross earnings are used to calculate a number of holiday entitlements in the Holidays Act 2003 (the HA03).  The most obvious is average earnings for annual holidays, but it is also used for ordinary weekly pay, average daily pay for public holidays, alternative holidays, sick leave, bereavement leave and family violence leave, the 8% for a closedown, and calculating holiday pay on termination. 

Relevant to the bonus question gross earnings is defined in s 14 of the HA03 as:

14  Meaning of gross earnings

In this Act, unless the context otherwise requires, gross earnings, in relation to an employee for the period during which the earnings are being assessed,—

(a) means all payments that the employer is required to pay to the employee under the employee’s employment agreement, including, for example…

(iv) productivity or incentive-based payments (including commission)…

(b) excludes any payments that the employer is not bound, by the terms of the employee’s employment agreement, to pay the employee, for example—

(i) any discretionary payments…

Employment Court’s Decision

Metropolitan sent letters to certain employees in 2016 and in 2017 inviting them to participate in the Schemes.  The letters said that the Schemes “will be aligned to the achievement of three key deliverable targets”.  These targets only related to the overall performance of the business, not the employee’s personal performance.

The letters said that Metropolitan “may choose to make, or not make, payments under the Scheme at its discretion”. The discretionary nature of the Schemes are referred to throughout the letters.  Where the employees signed the letters, there was an express acknowledgement that said payment under the scheme “… is completely discretionary and [Metropolitan] can at its sole discretion decide not [to] make any payment under this scheme, or amend, revoke or discontinue this Scheme at any time. …”.

Metropolitan argued that payments made under the Schemes were not part of gross earnings for the purpose of calculating average weekly earnings because it “is not required to pay any moneys under the STI Schemes as they are discretionary”.  Metropolitan was not bound to make any payment.

The Employment Court disagreed with Metropolitan and found that the “scheme of s 14 is to capture all remuneration for an employee’s job”.  It concluded that the Schemes were captured as productivity or incentive-based payments and were not excluded as discretionary payments. 

Court of Appeal’s Decision

The question on appeal was:

Did the Employment Court err in law by concluding that payments made by the appellant from its short term incentive bonus schemes were “payments that the employer is required to pay to the employee under the employee’s employment agreement” and therefore fell within the definition of “gross earnings” under s 14 of the Holidays Act 2003?

The Court of Appeal answered ‘Yes’.

The Court of Appeal found that the Employment Court had erred “because it overlooked that the key element of the definition of gross earnings is that the payment at issue must be one that the employer is contractually bound to pay.  Conversely the definition of discretionary payment is a payment the employer is not contractually bound to pay”.

It also pointed out, contrary to the Employment Court findings, that “gross earnings” does not include “all employment related remuneration for the job”.

It said:

Metropolitan did more than just label its scheme discretionary. It included an express term that even if all of the conditions were met, it retained the discretion not to make any payment. It would of course be under an obligation to exercise that discretion fairly and reasonably, and a failure to do so could be grounds for a personal grievance, but in our view being neither guaranteed nor conditional the payment would still retain the character of a discretionary payment for the purposes of the Holidays Act.

What Does this Mean for Employers?

The Holidays Act Taskforce has proposed a new definition for “gross earnings” in the Holidays Act to mean all cash payments received, except direct reimbursements for costs incurred.  However, we expected it will be some time for the new legislation to come into force (a bill is expected sometime in 2022).  Until then, employers must continue to meet their obligations under the HA03.

If an employer is considering implementing a discretionary bonus scheme that excludes payments made under it from gross earnings, it is clear from the Court of Appeal’s decision that the drafting and structure is crucial.  Payments under the scheme must be discretionary rather than just the amount paid.

If an employer already has a discretionary bonus scheme in place, the employer will need to assess the scheme’s drafting and structure to determine whether it has bound itself to a contractual obligation to make payments under its scheme.  If so, those payments will be part of gross earnings for the purposes of calculating average weekly earnings.

In either scenario, we strongly suggest seeking legal advice.

If you have any questions about the Holidays Act 2003,  please get in touch with our Employment Law Team or your usual contact at Hesketh Henry.

Note: Also published in Legalwise Insights.

Disclaimer:  The information contained in this article is current at the date of publishing and is of a general nature.  It should be used as a guide only and not as a substitute for obtaining legal advice.  Specific legal advice should be sought where required.

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