Note: This article will be shortly updated with the recent guidance and legislation on holiday pay and entitlement for irregular workers.

What is the annual leave pay reference?

Where an employee's pay varies from week to week or month to month, their annual leave should reflect the pay they would receive if they had been working. This is based on the principle that a worker shouldn't suffer financially by taking annual leave.

This affects not only zero-hour contract employees but also salaried employees who frequently receive commission, bonus, or overtime payments.

Instead of paying annual leave at the rate of their salary, employees should be paid at an average rate calculated using a pay reference period. Previously, the pay reference period was 12 weeks, but from 6 April 2020, HMRC updated their guidance to extend this to 52 weeks. For further information, please refer to HMRC's guidance.

How many weeks are used in the pay reference period?

When an employee takes annual leave, their rate of pay during that leave is calculated based on their average pay in the past 52 paid weeks. This includes regular overtime, regular payments, and contractual payments.

The weekly pay is from Sunday to Saturday, so when the leave is taken, the first week of reference is from the last Saturday before that leave.

If there is a week that was not worked, then that week is excluded, and the reference period is taken back a further week. The reference looks back up to a maximum of 104 weeks.

If there are not 52 weeks of pay to use in the calculation, for example, if they haven't been employed long enough or they have full weeks of absence, the average pay is based on the number of weeks' pay that is available for the calculation. For example, if the employee has only worked 10 weeks in the last 104 weeks, the average is calculated based on 10 weeks' pay.

Important notes about this feature

✅ You must only enter annual leave for the current month or a future month.

✅ You must enter annual leave one calendar month at a time.

For example, instead of adding annual leave from 31 January to 1 February, you should enter it as one day's annual leave on January 31 and one day on February 1.

❌ The holiday rate can't be calculated for annual leave taken in an earlier month.

❌ If you're using an HR integration, annual leaves entered in an earlier month won't be synced to PayFit.

Activating the pay reference period

In PayFit, you can activate the pay reference period for all employees or specific employees. Choose the relevant option below.

For all employees

To set this up:

From the left, choose Company Settings, then Payroll Set-up.
Under the Leaves section, click Edit annual leave, then click Next.
Under the Pay reference period section, toggle on the Would you like to use the pay reference period to calculate annual leave? option.
Click Save.

For specific employees

To do this:

From the employee's record, click the Leaves tab.
In the Annual Leave section, click Customise annual leave policy.
Scroll down to the Calculation section, then toggle on the Use pay reference period calculation option.
Click Save.

Note: If you want to exclude all additional bonus, commission, and overtime payments:

From the employee's record, click the Leaves tab.
Under the Annual leave section, click Pay reference period.
Toggle on the Do not include bonuses, commissions and overtime.... option.
Click Save.

Employees will now be paid annual leave at a rate based on their average pay in the last 52 paid weeks.

Adding weekly pay from your previous software

If you haven't used PayFit for as long as 104 weeks, you may need to import the pay history. This ensures the daily rate calculation is correct from day one. You can do this for all employees or for individual employees.

Note: The options to add previous pay information is only available if you have less than 104 weeks of pay information in PayFit.

Import pre-onboarding weekly pay for multiple employees

To import pre-onboarding pay for all employees:

From the left, choose Company settings, then Payroll set-up.
Under the Leaves section, click Edit annual leave, then click Next.
Under the Pay reference period section, click Add pre-onboarding weekly pay.
Use the template to add the missing weeks and import the completed file into PayFit.

Import pre-onboarding weekly pay for individual employees

From the employee's record, click the Leaves tab.
Under the Annual leave section, click Pay reference period.
Then click Pre-onboarding weekly pay.
Under the Onboarding weekly payments section, add the weekly payments prior to onboarding.

How is the holiday rate calculated?

The calculation for an employee's holiday rate differs depending on how they're paid.

Employees paid an hourly rate

For an employee paid hourly, with a zero-hour contract, a variable shift pattern, or simply paid an hourly rate for their weekly hours, their annual leave can be paid in hours.

Their average hourly rate is calculated using the pay reference period above. The hourly rate is calculated as the total pay for each week divided by the number of hours worked.

Example

The employee works 27 hours in a week. They receive an hourly rate of £14 and a separate commission payment of £500.

Their total pay is (27 hours x £14) + £500 commission = £878.

Their hourly rate is calculated as £878/27 hours = 32.52.

The same calculation is applied to each of the 52 weeks worked prior to the holiday period to get an average hourly rate based on the pay reference period.

Employees paid a monthly or annual salary

For an employee paid a monthly or annual salary, they would usually take their annual leave in days. Therefore, we need to convert the employee's monthly pay to a daily rate.

If the employee receives an annual salary, we divide it by 12 to determine their monthly salary.
Next, we calculate the weekly rate. To do this, we take the monthly pay and divide it by the number of business days in the month. Then, we multiply this by the number of business days in the week. If there are any additional payments, like commission, bonus, or overtime, paid within the week, we add those to the relevant week too.
When the employee takes annual leave, we use the total of up to 52 weeks of pay, divided by the number of weeks used, to calculate the average weekly pay.
The average weekly pay is then divided by the number of business days in the week, to calculate the daily holiday pay rate.

Example

The employee works three days a week and receives a monthly salary of £3000.

In January, they receive their normal monthly salary of £3000, and there are 13 business days in the month. They also receive a commission payment of £500 on 8 January.

The employee's daily rate is first calculated based on 13 business days in the month.

£3000 / 13 business days = £230.77 per day.

Then, to calculate the employee's average weekly pay:

Week commencing 1 January: Weekly pay is £230.77 * three working days = 692.31
Week commencing 8 January: weekly pay is (£230.77 * three working days) + £500 commission = 1192.31.

Reconciling the calculated rate

This page also shows the employee's weekly pay and hours over the previous 52 to 104 weeks (depending on how many weeks were unpaid), so you can reconcile their annual leave daily rate based on their average pay.

Tip: First, you'll need to add the annual leave.

From the employee's record, click the Leaves tab.
Under the Annual Leave section, click Pay reference period.
Under the Annual leave pay this month section, you'll see the total annual leave pay this month and an option to override this if necessary.
You'll also see that for each period of annual leave, it displays the number of days and the calculated daily rate.
To reconcile this value with the Weekly pay recorded on PayFit section, use the 52 weeks of pay prior to the start of the annual leave to calculate the employee's average daily rate

Tip: You can download the weekly pay information to Excel or CSV to make it easier to perform your calculations.

FAQs

How is the daily rate displayed on a payslip?

The daily rate to be paid for annual leave will show on the payslip, and the calculation is based on the average weekly pay for the last 52 weeks, including pre-onboarding figures if you added these.

How do I exclude certain pay items?

Additional pay items are included in the employee's weekly pay as long as the payment is set to be regular. To exclude the pay item, you must deselect the This payment is regular toggle option when setting up a pay item:

What happens if the holiday rate is lower than the employee's usual daily rate?

In some cases, an employee's calculated holiday rate might be lower than the employee's usual daily rate. For example, they've recently had a pay increase.

In this case, paying the calculated holiday rate would result in an underpayment. To prevent this, PayFit pays the employee's current daily rate to ensure they're not negatively impacted by using the average pay reference period calculation method.