Author: David Jenkins

Allowing an employee to take annual holidays in advance may appear straightforward: approve the leave, pay the employee and record a negative leave balance. Under the Holidays Act 2003, however, several distinct requirements must be managed correctly.

Payroll practitioners must understand when annual holidays are genuinely being taken in advance, how they must be paid, what happens when the employee reaches their anniversary and how the payment is treated if employment ends before the employee earns their next entitlement. Most importantly, annual holidays in advance are not an employee’s automatic right.

In this high-level article, I wanted to highlight the main situations payroll will deal with when annual holiday entitlement is provided to be taken in advance, what payroll should be looking at, what checks should be undertaken, controls in place and testing to ensure compliance.

Annual holidays in advance are discretionary

Under section 16 of the Holidays Act 2003, an employee becomes entitled to at least four weeks’ paid annual holidays after completing 12 months of continuous employment and after each subsequent 12-month period.

Before an entitlement arises, an employee may ask to take annual holidays in advance. However, section 20 states that an employer may allow an employee to take an agreed portion of their annual holiday’s entitlement in advance.

The word “may” is important. It means:

• an employee may request annual holidays in advance;
• the employer may approve or decline the request;
• both parties must agree on the portion to be taken;
• the employer cannot generally require an employee to take annual holidays in advance; and
• the employee does not have a statutory right to insist that advance leave be approved.

The employer should consider the request fairly and in good faith, but it may decline it for a genuine reason. The employer may also establish a reasonable policy governing when advance annual holidays will be considered.

Payroll should not process annual holidays in advance solely because a manager has entered or informally approved the leave. The employer and employee should clearly confirm that they have agreed to the advance leave.

“Accrued” leave is not yet a statutory entitlement

A common source of confusion is the “accrued leave” balance displayed by payroll systems during an employee’s first 12 months or since their last annual holiday anniversary.

Under the Holidays Act, annual holidays do not progressively accrue as a statutory entitlement during the year. The minimum entitlement arises as four weeks after each completed 12 months of continuous employment.

An accrued balance shown in payroll is generally an indicative system balance. It may help an employer decide how much annual holiday to approve in advance, but it is not itself an entitled annual holiday balance under the Act.

Payroll systems should therefore distinguish between:

• annual holidays to which the employee has become entitled;
• annual holidays taken in advance of the next entitlement; and
• any indicative accrual used internally for forecasting or administrative purposes.

Calling every system-generated balance “entitled annual leave” can create confusion and incorrect final-pay outcomes.

A prudent limit on advance leave

Although the Holidays Act does not restrict advance annual holidays to the amount displayed as accrued in the payroll system, it is generally prudent for an employer to approve no more than the employee’s indicative accrued amount.

This reduces the possibility that the employee will owe the employer money if employment ends before the next annual holiday entitlement arises.

For example, an employee who has completed six months’ service might have an indicative balance equivalent to approximately two weeks. The employer could adopt a policy that normally limits advance annual holidays to that amount.

This is a risk-management approach rather than a statutory calculation of entitlement. The employer may agree to provide more, but doing so increases the risk that the employee’s statutory final holiday pay will not be enough to offset the amount already paid.

Payroll should also remember that an hours- or days-based accrual may not correctly represent the employee’s eventual four-week entitlement if their work pattern changes.

How advance annual holidays must be paid

Section 22 specifies how annual holidays taken in advance must be paid.

The payment must be based on the greater of:

• the employee’s ordinary weekly pay at the beginning of the annual holiday; or
• the employee’s average weekly earnings.

Where the employee has worked for less than 12 months, average weekly earnings are based on the employee’s gross earnings during the period of employment before the end of the last pay period before the holiday. The normal divisor of 52 is reduced to the number of whole or part weeks the employee has worked.

What happens when the employee completes 12 months?

If the employee remains employed until their annual holiday entitlement arises, the portion taken in advance is applied against that entitlement.

Payroll must retain the historical payment made when the employee took the advance leave. The leave should not be recalculated and paid again when the entitlement arises.

This is another reason payroll records must clearly separate leave taken in advance from leave already entitled.

Employment ends before the first 12 months: section 23

Section 23 applies where employment ends before the employee has completed the first 12 months and the employee has not yet become entitled to four weeks’ annual holidays.

The employer must calculate:

• 8% of the employee’s gross earnings since employment began, less any amount already paid for annual holidays taken in advance and any applicable pay-as-you-go annual holiday payments.

When the advance payment exceeds the section 23 amount

The section 23 holiday-pay calculation does not produce any further holiday payment. However, the employer should not automatically deduct the difference from the employee’s wages merely because payroll shows a negative leave balance.

Sections 23 and 25 allow payments for annual holidays taken in advance to be subtracted when calculating the employee’s statutory holiday payment. They should not be treated as unlimited authority to deduct a remaining debt from salary, wages or other final-pay components.

Recovery of any remaining amount must comply with the Wages Protection Act.

Employment ends after an entitlement has arisen: sections 24 and 25

Where an employee leaves after completing at least one 12-month period, payroll may need to apply both sections 24 and 25.

Section 24: entitled annual holidays

Section 24 requires the employer to pay any entitled annual holidays that remain untaken. The payment is calculated at the greater of:

• ordinary weekly pay at the end of employment; or
• average weekly earnings over the relevant preceding 12 months.

The untaken entitlement is treated as if it were taken immediately after the employee’s last day of employment. Payroll must also check whether public holidays fall within the notional extended period created by the unused entitlement.

Section 25: the period since the last anniversary

Section 25 applies to the incomplete 12-month period since the employee last became entitled to annual holidays.

The employer must calculate:

8% of gross earnings since the employee last became entitled to annual holidays, less any amount paid for annual holidays taken in advance during that period and any applicable pay-as-you-go payments.

Section 26 confirms that gross earnings for the section 25 calculation include payments made under section 24 for untaken entitled annual holidays.

Payroll controls that should be in place

Before processing annual holidays in advance, payroll should confirm:

• the employee does not have enough entitled annual holidays available;
• the leave has been expressly approved as annual holidays in advance;
• the portion of the employee’s entitlement being taken is clear;
• the employee’s working week has been correctly determined;
• the payment has been calculated under section 22;
• OWP and AWE have both been calculated correctly;
• the higher payment has been used;
• the advance leave is separately identifiable in the leave records;
• statutory and additional contractual leave are recorded separately;
• any indicative accrual is not incorrectly described as an entitlement;
• the employee’s next anniversary treatment is understood;
• the written agreement and deduction authority are retained; and
• the payroll system can correctly apply sections 23, 24, 25 and 26 on termination.

Final-pay testing should include employees who leave:

• within their first 12 months;
• after an anniversary with untaken entitled holidays;
• after taking leave in advance since their last anniversary;
• with an advance payment below the applicable 8% amount; and
• with an advance payment exceeding the applicable 8% amount.

In conclusion, annual holidays in advance require more than allowing a payroll balance to become negative.

Section 20 gives the employer discretion: the employer may allow an agreed portion of annual holidays to be taken in advance. The employee does not have an automatic right to receive it.

Where advance leave is approved, payroll must calculate payment under section 22, maintain clear records and correctly account for the payment when the entitlement arises or employment ends.

Sections 23 and 25 allow payments already made for annual holidays in advance to be subtracted from the employee’s statutory 8% holiday-pay calculation. They do not remove the need to comply with the Wages Protection Act if the employer wants to deduct any remaining amount from other wages or final-pay components.

The safer approach is generally to limit advance leave to a reasonable indicative accrued amount. This will not eliminate every risk—particularly where work patterns or pay rates change—but it reduces the likelihood that the employee will leave owing more than their statutory holiday payment can absorb.

Clear approval, accurate calculations, separate balances and valid written deduction arrangements are essential. Without them, a helpful decision to approve leave in advance can quickly become a payroll compliance problem.