Federal Court resolves long-running uncertainty over annual leave payments on termination - Employee Benefits & Compensation

In Centennial Northern Mining Services Pty Ltd v Construction, Forestry, Mining & Energy Union (No. 2) [2015] FCA 136 (27 February 2015), the Federal Court determined that annual leave payable on termination of employment must be paid at the rate equivalent to the amount the employee would have been paid if they had taken annual leave during their employment. This means that, where applicable, payments such as annual leave loading should be included in termination pay calculations.

BACKGROUND

This decision resolves a number of years of uncertainty about the operation of the provision in the National Employment Standards (NES) concerning annual leave payments on termination. Since at least December 2010, the Fair Work Ombudsman (FWO) has publicly taken the view that accrued but untaken annual leave needed to be paid out at the higher rate. A legislative amendment to deal with this issue, in order to allow annual leave to be paid at an employee's base rate of pay, was recommended by the former Labor Government's Fair Work Act Review in 2012. However, subsequent legislation introduced by Labor before it lost office did not implement this recommendation.

The Federal Court ruling in Centennial delivers an employee-friendly outcome, finding in favour of the interpretation supported by unions and the view of the FWO. This outcome is likely to increase termination payments payable to employees in a number of industries. Importantly, there are 29 modern awards in operation which either explicitly or implicitly provide that annual leave will be paid out at the lower rate - provisions that are now inconsistent with the Federal Court's interpretation of the NES.

ANNUAL LEAVE PAYMENTS ON TERMINATION

The first technical question to be determined by the Court concerned the operation of section 90 of the Fair Work Act 2009 (FW Act), which states:

"90. Payment for Annual Leave

If, in accordance with this Division, 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.

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."

(our emphasis)

In many industries, annual leave is paid at a rate higher than the employee's base rate and therefore more favourably than the section 90(1) NES standard. The question was whether section 90(2) only operated in relation to the minimum base rate of pay required to be paid under section 90(1), or whether it had broader application and meant that payment on termination had to be at any higher rate applicable to leave taken during employment.

Centennial applied to the Court seeking a declaration that its enterprise agreement (EA), which provided for payment on termination for untaken annual leave at an employee's ordinary weekly rate of pay, was consistent with the NES (and therefore not in breach of section 55 of the FW Act). The rate at which annual leave was paid when taken during employment under the EA was higher than the ordinary weekly rate of pay (reflecting the inclusion of a 20% annual leave loading, or rostered overtime, shift and weekend penalty payments).

In dealing with the application, the Court referred to the Explanatory Memorandum (EM) to the Fair Work Bill 2008 and, in particular, the statement that payment under subsection 90(2) "will be equivalent to the amount that the employee would have been paid if the employee had taken the annual leave". Justice Buchanan found that this statement in the EM:

... lends support to the argument that s 90(2) (unlike s 90(1)) is not confined to a statement of minimal obligation, but is a statement to the effect that an employee should not suffer a reduction in the value of unpaid annual leave if employment comes to an end while paid annual leave remains untaken.¹

The effect of this finding was that the EA provision for payment out of annual leave at the lower rate had no effect because it was inconsistent with the NES.

AGE-BASED LIMITATION ON RETRENCHMENT PAYMENTS

The decision in Centennial also dealt with a second area of uncertainty, namely an EA provision restricting retrenchment pay based on what an employee would have received had they remained in employment until the age of 60 years. Centennial's EA clause reflected an historic standard that, in the context of the coal industry, dated back to earlier awards made in the 1980s.

The Court found that this restriction would have a dramatically different effect on a long serving employee retrenched at age 60 or over, as compared to someone retrenched at less than that age. That disadvantageous effect was produced as a result of the employee's age and, therefore, the clause was discriminatory and (on that basis) an unlawful term under section 195 of the FW Act.

IMPLICATIONS FOR EMPLOYERS

The annual leave aspect of the Centennial decision could be addressed if a proposed amendment currently before Parliament is passed. The Abbott Government's Fair Work Amendment Bill includes a provision seeking to implement the recommendation of the 2012 Fair Work Act Review referred to above.

In the meantime, the decision will have a significant impact on termination costs in a number of industries. Recommended steps to respond to these impacts include:

Review enterprise agreements in relation to the payment of annual leave upon termination, and confirm whether those provisions are consistent with the Federal Court's interpretation of section 90(2). If not, any such agreement provisions are unenforceable and termination payments should instead be made in accordance with the FW Act.
Review termination pay calculations to ensure that accrued but untaken annual leave is paid to employees on the same basis as if they took the leave.
In the negotiation of new enterprise agreements, consider including language that can pick up any legislative changes that may have the effect of permitting annual leave to be paid at a lower rate.
Review agreements for any potentially discriminatory clauses relating to the basis on which retrenchment payments are to be made.

Footnotes

¹[2015] FCA 136 at [34].

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