PHI and holiday pay – Souter v Royal College of Nursing Scotland

by Laurie Anstis on November 15, 2010

Last week’s Practical Law Company employment law round-up drew my attention to an interesting judgment from the Edinburgh employment tribunal. The case of Souter –v- Royal College of Nursing Scotland was the first case I had seen that dealt with the difficult question of what holiday pay someone may be entitled to if they are also receiving benefits under a permanent health insurance policy.

Permanent health insurance (PHI), sometimes known as salary continuation or long-term disability insurance, is an insurance benefit designed to cover a proportion of an individual’s salary if they are unable to work through ill health. The exact details vary between policies, but a typical policy might be designed to pay 75% of an individual’s salary until retirement.

Since the case of Stringer, it has been understood that, in principle, someone who is off work sick is just as entitled to holiday as someone who is at work. The entitlement to holiday under the Working Time Directive arises by virtue of someone’s status as a worker, without any requirement for them actually having to do any work.

While this has been an easy general proposition to state, deciding what it actually means in individual cases has been fraught with difficulty. There have been particular difficulties in deciding how this relates to PHI. If the insurance is paying, say, 75% of the employee’s salary then what (if any) additional entitlement to holiday or holiday pay do they have?

Since Stringer it has become common for employees and their representatives to argue that they accrue holiday while they are off sick, and that in the case of long-term sickness absence, this accrued holiday has been carried over from year to year to be taken when they return to work or (more commonly) paid out as holiday pay on the end of their employment.

In the Souter case, the Claimant had been off work for eight years, receiving payments under a PHI policy. She was eventually dismissed, and claimed on her dismissal to be entitled to accrued holiday pay. She brought a claim under the unlawful deductions from wages provisions of the Employment Rights Act 1996, saying that the failure to make payments of holiday pay to her over the years she was off work amounted to a continuing series of deductions from her wages.

The tribunal found against her on three grounds:

1. Time limits

In this case, on her dismissal the employer had actually paid accrued holiday pay, but only in respect of her final year of work, and not in respect of the previous years for which she was claiming.

The tribunal endorsed the reasoning of the tribunal in Khan v Martin McColl that this payment in respect of the final year brought to an end any “series of deductions”. The tribunal found that the time for bringing her claim ran from the end of the previous holiday year, that she had not brought her claim within the permitted three months and refused to exercise its discretion to permit a claim to be brought late.

2. Regulation 13(9) of the Working Time Regulations

Although the Stringer judgment in the ECJ seemed to suggest that employees could carry forward holiday, and possibly then receive pay in respect of accrued holiday for the duration of their absence on termination of their employment, the UK implementation of the Working Time Directive (the Working Time Regulations 1998) only permits holiday to be taken in the year it accrues.

The tribunal found that as the Royal College of Nursing was a purely private sector employer, it was not bound by the wider EU concepts relating to holiday and could rely on the more restrictive UK approach contained in reg 13 (9), which did not permit holiday to be carried forward from one holiday year to the next.

3. How much holiday pay would be due?

The tribunal went on to consider how much holiday pay would have been due in any event, and said (paras 42, 44 and 45 of the judgment):

“The reality is that, from November 2002, Mrs Souter has been paid at the PHI rate. The tribunal have no doubt at all that there was an effective variation in her contract of employment. The effective variation was that the payment she was to be paid was the amount to which she was entitled to in terms of the PHI. If she had taken annual leave in any one of the PHI years, she had been paid the full amount of PHI for that full year …

Miss McLynn [solicitor for the Respondent] submits that, in this case, Mrs Souter who was on PHI had had her contract permanently varied to provide a lower salary, on the basis that there was a permanent arrangement that the employee would not be able to come back to work. The Claimant had been paid her full entitlement of salary in each year of her employment and her position is no different from an employee who has been at work and has received a full salary for a whole year. Such an employee would have no claim for loss of holiday pay, even if they had not, in fact, exercised their right to annual leave in that year.

The tribunal respectfully agrees with this …”


This is an admirably practical judgment in an area of law that has been prone to producing some odd and impractical judgments. However, the tribunal’s creativity does throw up some interesting problems.

First, it has highlighted the fact that the Working Time Regulations do not comply with the Working Time Directive as interpreted in Stringer. Private sector employers can feel relieved that the tribunal was not inclined to stretch the domestic wording.

Second, the finding that the contract had been “permanently varied” to give an entitlement to the lower, PHI remuneration is novel. If there has been such a permanent variation, then this will have a knock-on effect on benefits which are related to salary, such as pension rights. It is not clear what the evidential basis was for the tribunal finding that there was “a permanent arrangement that the employee would not be able to return to work” and how this affected the tribunal’s judgment on this point. This permanent variation seems to have come as a surprise to the employer, who is recorded at the start of the judgment as having paid the final year’s holiday pay apparently at the full rate.  The tribunal also made no reference to the provisions of reg 16 and sections 221 – 224 of the Employment Rights Act 1996, which set out the statutory formula governing how holiday pay is to be calculated.

What if there was no PHI?

This case particularly focussed on the position where there was a PHI policy, I’d be interested in any commenters’ views on how far the tribunal’s ruling could extend to cases where there is no PHI, but it seems to me that the tribunal’s arguments in this case could apply equal to any case there there is no PHI policy, including possibly the idea of a variation in the employment contract to provide for zero pay.

The successful solicitor for the Respondent comments on the case here.

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