In a recent judgment, the Federal Court of Australia has clarified how employees are to be paid out their accrued but untaken annual leave on termination of employment.
In Centennial Northern Mining Services Pty Ltd v CFMEU (No 2)  FCA 136 (Centennial Northern Mining), Justice Buchanan concluded that an employee must be paid at the same rate as if the employee actually took annual leave during the employment, NOT their base rate of pay, irrespective of any contrary term in an industrial instrument. For many employees, this will mean that they are paid annual leave loading on termination of employment.
For many years, industrial instruments (including awards and enterprise agreements) have generally provided that, when taking annual leave, an employee is entitled to:
- their base pay for ordinary hours plus an annual leave loading (usually of 17.5%); or
- the amount the employee would have otherwise received had they worked during the period of annual leave (including base pay and any applicable shift rates),
whichever is greater. This approach was introduced primarily to encourage employees to take their annual leave during their employment – because it addressed concerns that they might lose potential take-home pay while on annual leave, for example because of missed opportunities to work extra shifts.
While some industrial instruments extended this more generous treatment to the payment an employee would receive for annual leave on termination, many instruments provided for annual leave on termination to be paid out at the employee’s base rate of pay only.
As part of the National Employment Standards introduced in the Fair Work Act 2009 (FW Act), section 90 provided that, with regard to payment of annual leave:
(1) If, in accordance with this Division [dealing with annual leave], an employee takes a period of paid annual leave, the employer must pay the employee at the employee’s base rate of pay for the employee’s ordinary hours of work in the period.
(2) If, when the employment of an employee ends, the employee has a period of untaken paid annual leave, the employer must pay the employee the amount that would have been payable to the employee had the employee taken that period of leave.
A controversy since the enactment of the FW Act has been whether or not section 90(2) provided that employees were entitled to the more generous calculation for annual leave on termination in all circumstances. Some (including the Fair Work Ombudsman) have argued that the use of the words ‘the amount that would have been payable to the employee had the employee taken that period of leave‘ clearly require the more generous calculation, while others have argued that section 90(2) should be read subject to section 90(1) which provides for annual leave to be paid at only an employee’s base rate of pay.
In Centennial Northern Mining, the employer had sought a declaration that clause 19.5 of the Centennial Northern Mining Services Enterprise Agreement 2011 (2011 Agreement) did not exclude the annual leave provision of the National Employment Standards to the detriment of affected employees. Such an exclusion would be unlawful.
In setting the entitlements of employees to take annual leave during employment, clause 19.6 of the 2011 Agreement provided that:
An employee taking annual leave must be paid the greater of:
- the employee’s ordinary weekly rate of pay plus a loading of 20% of that rate; or
- the employee’s ordinary weekly rate of pay plus rostered overtime, shift allowance, weekend penalty rates and bonus.
Yet, dealing with payment in lieu of annual leave on termination, clause 19.5 stated:
On termination of employment an employee is paid for accrued but untaken annual leave at their hourly rate of pay applicable to their ordinary weekly rates of pay as prescribed by clause 13.1 plus average bonus.
Justice Buchanan held that clause 19.5 was, on its face, prohibited as it purported to exclude section 90(2) because the payment on termination was not the same as the payment when leave was taken during the employment. He noted that the more generous interpretation for employees was ‘plainly open on the terms of section 90(2) itself‘, and was not prepared to read the section down in the manner sought by the employer. Accordingly, he refused to make the declaration sought.
Implications of the judgment
Centennial Northern Mining is the most significant judgment on the controversy outlined above concerning the operation of section 90(2). Subject to any appeal that may overturn it, Centennial Northern Mining sets out how section 90(2) should be interpreted. In other words, employers are obliged to pay employees their accrued but untaken annual leave on termination of employment at the rate the employee would have been paid had they taken annual leave during their employment, even if such a rate is higher than the employee’s base rate of pay. This interpretation will prevail over any terms to the contrary contained in an award, enterprise agreement or even an employment contract.
Further, Centennial Northern Mining is likely to be taken into account by the Fair Work Commission as it conducts its current four year review of all modern awards as well as in considering new applications for the approval of enterprise agreements.
It must be said, though, that such an approach does appear to be at odds with the original intent behind the introduction of annual leave loadings – namely, to encourage employees to take annual leave during the employment.