Annual leave entitlements and payments

Employees are entitled to four weeks’ paid annual holidays at the end of each year of employment with any one employer. Employers can agree to give an employee more than four weeks, but not less. If an employee works part time, they are still entitled to four weeks of annual leave.

The entitlement is usually at the end of 12 months employment (i.e. one year after the start date) but this may be different if you have a company close down period. To keep it simple, we’ll refer to employee start date anniversaries here and cover closedowns in another section.

The Holidays Act does not provide for the concept of ‘accruing’ leave pay period by pay period. Only that employees become entitled to paid annual leave after 12 months continuous service with an employer. However, the Holidays Act does provide for annual leave to be taken in advance of an employee’s entitlement if the employee and employer agree.

This is where the Holidays Act is of course not really in line with the modern way of working or what most employers in New Zealand would provide. The reality is that people will often need or want to take time off before they have completed a full year of employment, and most employers have absolutely no problem with this. Most payroll systems will have a way of being able to show and use ‘accruing’ leave, or leave that is being recorded in advance of an entitlement. This is provided for in the Act at the discretion of the employer. It is helpful for employees and employers to see and understand what the expected entitlement is at, even though the employee is not yet officially entitled to it in the way the Holidays Act describes.

In PaySauce, we show you the leave that is ‘accruing’ towards an employee’s next entitlement in the accrued leave field. Leave that has become earned on an anniversary is called ‘entitled’.

The distinction between entitled leave (received on each anniversary/entitlement date) and leave that is accruing towards a future entitlement is very important to understand. It is used as part of termination pay calculations, cash up entitlements and how other calculations may apply (for example, there are rules about the payment calculations that apply after parental leave, but to entitled leave only).

The entitlement to annual leave in The Holidays Act is provided in weeks. Every employee is entitled to at least four weeks of annual leave per entitlement year.

Other leave types (sick and bereavement, for example) are provided in the Act in days.

For many employees, providing four weeks can be very straightforward. When someone works a fixed number of hours per week, there is very little fuss about what four weeks looks like. However, things can get more complicated than that. Many employees want to take periods of annual leave in less than a week, or even less than a day. They may want to take 3 hours of annual leave. They may change their hours throughout the year. They may work variable hours.

If an employee works 40 hours per week, then their entitlement to four weeks leave could be represented in hours as 160 hours at the end of 12 months.

You may see accrual, or leave being added to someone’s balance in advance of their entitlement, in a pro-rated fashion. At 40 hours per week, this would be 3.0769 hours per week (160 divided by 52). This means each week an employee is gaining a balance of accrued leave at the right amount so that after 52 weeks, they will have 160 hours of leave in their balance which becomes their four week entitlement.

For an employee working 40 hours per week paid fortnightly, their accrual would be 6.1538 hours (160 divided by 26). For an employee working 40 hours per week paid monthly, the accrual each period would be 13.3333 (160 divided by 12).

If I work 20 hours per week, then my entitlement to four weeks leave could be represented as 80 hours at the end of 12 months. You could apply the same math (divide 80 hours by 52, 26 or 12) to figure out the weekly, fortnightly or monthly accrual.

In the pay period in which my 12 month anniversary falls, and my entitlement to annual leave takes effect, you will usually see PaySauce move what has been accrued throughout the year into a separate column or area and now calls it ‘entitled leave’. Whatever has already been taken from that balance is accounted for, ensuring that the balance remaining is correct. The ‘accruing’ leave then resets and starts again, ready for the next entitlement in 12 months time.

You’ll often see references to 8% in regards to annual leave. The reason 8% is used is that 4 weeks is roughly equivalent to 8% of your total year (4 divided by 52). The exact calculation comes out at slightly less (7.69%) but is rounded up to make it easier to apply.

There are two places where this is used:

'Pay as you go' annual leave

Some employees can be on a ‘8% pay as you go’ arrangement, where instead of gaining a four week entitlement, they receive a payment of 8% of their gross earnings on top of each payment. Only casual employees or fixed term employees with contract lengths less than 12 months are eligible to have their annual leave paid on a pay as you go basis. Using the pay as you go annual leave payment method must be explicitly stated in the employment agreement. Casual and fixed term employees can have their annual leave accrued, they don't necessarily need to be on a pay as you go method.

Or, with termination pays, part of the calculation is to give 8% of their gross earnings within their current entitlement year.

Termination pay calculations

8% of an employee's gross earnings (those that qualify as part of leave calculations) is used as the payment calculation at end of employment for any current year entitlement (i.e. not having passed the 12 month entitlement yet).

Here's some of the statements from the Holidays Act about taking annual holidays, and what that means for employers in practice.

An employer must allow an employee to take annual holidays within 12 months after the date on which the employee’s entitlement to the holidays arose.

What that means: if I become entitled to take annual leave on the 1st March 2023 (my 12 month anniversary date) my employer must let me take that leave within 12 months (before 1st March 2024).

If an employee elects to do so, the employer must allow the employee to take at least 2 weeks of his or her annual holidays entitlement in a continuous period.

What that means: employers can’t make employees break up their annual leave into small periods of less than 2 weeks. If an employee has entitled leave and wants to take some of it in a continuous break of 2 weeks, they have to mutually agree the dates but the employer can’t make the employee take a smaller period of time for all of their leave. That also means I don’t necessarily have the right, as an employee, to take all four weeks as a continuous period - my employer can negotiate this with me, but must let me take at least two weeks as continuous.

When annual holidays are to be taken by the employee is to be agreed between the employer and employee.

What that means: leave requests and approvals exist for a reason - employers and employees need to mutually agree the dates. Employers are allowed to decline leave requests if there is a good reason to do so.

An employer must not unreasonably withhold consent to an employee’s request to take annual holidays.

What that means: employers can’t decline employees’ requests to take annual leave if there is no good reason to do so.

The Holidays Act says:

(1) An employer may require an employee to take annual holidays if

(a) the employer and employee are unable to reach agreement under section 18(3) as to when the employee will take his or her annual holidays; or (b) section 32 (which relates to closedown periods) applies.

(2) If subsection (1) applies, an employer must give the employee not less than 14 days’ notice of the requirement to take the annual holidays.

What does this mean?

Employers can direct employees to take annual leave if there is a closedown period (usually at Christmas) or if they have not been able to agree when the employee should take leave.

What can happen sometimes is that an employee will build up a leave balance that is more than the employer can comfortably carry, and they want the employee to take some leave to reduce the balance. It must be entitled leave that they are directing them to take, and they must have tried to reach some agreement on when the leave will be taken earlier - you can’t just default to telling an employee when to take leave.

So far, we have focused our attention on providing the entitlement to the ‘time off’ part of annual leave. That is, how much time someone is able to take away from work, when they are entitled to take the time, and how we could display the balance.

The most important principle underpinning how calculations are made for what is due to be paid for the annual leave time is what the employee would usually be paid. This can be very straightforward in some situations, but employment isn’t always very straightforward! There’s a huge variety in the ways that employees are paid, and it isn’t always as clean and easy as a salary with no overtime or other allowances. For this reason, there’s a lot of rules about how the calculations are done, and we’ll start with some definitions of what’s at play.

Before we can start calculating anything, we need to know what is considered ‘earnings’ for the purposes of annual leave calculations. We talk a lot here about gross earnings, but this is different than what it is in a tax calculation - certain types of payments are not included in holiday earning calculations even though they would be taxable payments.

Gross earnings include:

“Employment agreement in this situation covers all the documents (such as the written letter of offer and employment agreement) that are part of the contractual agreement between the employee and the employer. It also may include other agreements (that are written down or verbal), workplace policies, bonus scheme rules, or agreements created by the conduct of the employer and employees.”

If it is in the contract, and we could call it a contractual payment - it is included for calculating holiday earnings.

Gross earnings exclude unless the employment agreement says otherwise:

Superannuation payments are also not included, so employer Kiwisaver contributions will not be included in the leave earnings calculations.

“‘Discretionary payments’ has a special meaning in relation to the Holidays Act 2003. If an employer must make a payment to the employee: under their employment agreement, commission scheme, bonus scheme rules etc - then it is not a discretionary payment and it must be included. This is the case even if the payment amount is discretionary and could even be $0. It is rare for payments to be excluded so if you are unsure, you should seek advice or err on the side of caution and include the payment.”

Usually, discretionary bonuses are easy to spot. They aren’t regular, and usually happen just as a one off (for example around Christmas time) or to reward someone for some especially good work. If someone is regularly getting paid a ‘bonus’, then it is probably isn’t discretionary.

To explain this, we’ll compare two employees together: Ben and Ryan.

Ben and Ryan are on the same hourly rate for their wages, but Ben works overtime now and again, and Ryan never does.

Throughout the year their wage payments look like this:

When they both take a week’s annual Leave, Ben gets a higher payment for his week off than Ryan does.

This is why: The Holidays Act legislation rules state that when an employee takes annual leave the payment for the leave should be the “higher of” their ordinary weekly pay compared to their average weekly earnings over the past 52 weeks.

The average weekly earnings must be calculated every time the employee takes annual leave - which is why the amount can change each time the annual leave is taken.

So because Ben worked overtime and earned more in the last year, his 52 week average weekly pay is higher and he gets paid that for his week off. Ryan just gets his ordinary weekly pay instead.

The annual leave rate isn't just your employee's basic hourly wage or salary.

The annual leave rate calculations designed this way to ensure an employee's holiday pay reflects what they might earn in a typical week. The averages are designed to capture other relevant earnings that the employee receives that they might not be able to earn while they are away.

For example, employees who are set up with 40 hours but occasionally work more have the extra hours worked captured in their annual leave pay rate, so they aren't disadvantaged when they take annual leave.

You can use a four week average to calculate ordinary weekly pay (OWP) for annual leave payments in specific situations where an employee's pay varies and it's not possible to determine their standard weekly pay.

The four week average (OWP formula) should be used when:

The OWP formula calculates: (gross earnings for 4 weeks before the holiday minus any irregular/one-off payments) divided by 4.
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Remember that employers must always pay the greater of either:

The employer must compare both calculations and pay whichever amount is higher for the employee's annual leave.
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In PaySauce, you can include a four week average for the annual leave payment rate calculation if required, and we recommend this when your employee's pay varies as described above.