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Three little words shaping how annual leave is calculated
Following on from our last article on annual leave entitlements, this one looks at the other side of the leave equation, the payment.
Leave entitlements have two key components: time and money. The last article focused on time (leave balances).
This one focuses on money, the leave pay rates that determine how much an employee is entitled to when they take time off.
And it all starts with three little words: the greater of.
These words are the cornerstone of the Holidays Act whenever annual leave is paid.
Whether the payment is for annual holidays, leave taken in advance, cashed-out entitlement, or termination pay, the rule is the same: pay the employee the greater of Ordinary Weekly Pay (OWP) or Average Weekly Earnings (AWE).
On paper it sounds simple. In practice, it is anything but. Let’s break it down.
At a glance: five things to know
- Annual leave pay must be calculated using the greater of OWP or AWE.
- OWP includes more than just base pay; allowances and benefits may apply.
- AWE averages 52 weeks of gross earnings, but deciding what’s in or out is critical.
- The Holidays Act does not define “leave accrual,” creating common payroll errors.
- Holiday pay must be made before leave starts, unless agreed otherwise.
“The three little words, ‘the greater of’, are easy to say but difficult to apply correctly.”
Ordinary Weekly Pay (OWP)
At first glance, OWP looks straightforward. It is the employee’s “ordinary weekly pay” at the start of the holiday. But what exactly does that include?
- Is it just base salary?
- What about regular allowances?
- Does overtime count?
- What if the employee receives board and lodging?
The answer: yes, these can all be included.
This is where many businesses get caught. If you are paying a regular allowance, and your contract does not specifically say it stops during leave, that allowance continues to be paid on top of the leave payment. At the same time, it is also included in the OWP calculation. The result? The employee receives the allowance twice. Payroll professionals call this “double-dipping” and it often happens because payroll was not consulted when allowances were introduced.
What’s excluded from OWP?
The Act carves out certain types of payments:
- Irregular payments
- One-off payments
- Discretionary payments
But be cautious. What you think is discretionary may not meet the legal definition. A labour inspector could rule that a payment you assumed was discretionary is in fact regular, and therefore should be included. Section 8(c) of the Holidays Act provides the framework, but interpretation can be risky.
Calculating OWP when it’s unclear
If OWP cannot be determined because of excluded payments, a formula must be applied:
Gross earnings for the last 4 weeks, less excluded payments, divided by 4.
There is also provision for an employer and employee to agree on a special OWP rate, as long as that rate is equal to or greater than the statutory calculation. Importantly, you cannot simply use the base salary in the employment agreement unless it meets the definition.
And if all else fails, Section 11 of the Holidays Act allows a labour inspector to determine OWP. Most employers would prefer to avoid this outcome, as it suggests payroll processes are not compliant.
Key question: How is your system calculating OWP? And how does it handle fortnightly and monthly employees?
“Average Weekly Earnings smooth out fluctuations, but only if you know exactly what counts as gross earnings.”
Average Weekly Earnings (AWE)
AWE is designed to capture fluctuations over time. The calculation is:
Gross earnings over the last 52 weeks ÷ 52.
This method smooths out irregularities, but raises another question: what counts as gross earnings?
- Are bonuses included?
- Are allowances included?
- Does a seasonal top-up or Christmas cash bonus fall into the calculation?
These decisions matter. Misclassifying payments can either short-change employees or overpay them. Both outcomes create risk, financial for the employer and compliance exposure if challenged by a labour inspector.
Another common issue arises with employees paid fortnightly or monthly. Payroll systems must be able to apply the same rules consistently, regardless of pay cycle. A system that averages incorrectly or overlooks certain earnings can cause significant underpayments.
Leave accrual and payments
This is where the Holidays Act leaves employers with less guidance. The Act does not define “leave accrual.” It only defines leave entitlement and leave taken in advance.
Most payroll systems show both entitlement and accrual balances, but many treat them the same way at payout. That can be problematic.
Here’s why:
- If leave is taken in advance, it must be paid at the greater of OWP or AWE.
- If the employee later resigns, the accrual time is ignored. Instead, the employer recalculates pay based on 8% of gross earnings since the last leave anniversary, less any leave in advance already paid.
This can lead to a deficit if the earlier advance payment was higher than the 8% calculation.
Best practice for accruals
- Treat accrual and entitlement as separate balances.
- Where possible, configure your payroll system to record gross earnings since the last anniversary, so the 8% calculation can be applied correctly. Few systems handle this well, but it is the most accurate approach.
“Holiday pay isn’t just about calculation, timing matters too.”
Final reminders
Holiday pay is not just about calculation, timing matters too.
- Once you have determined the correct rate for an annual holiday, that rate must stay the same for the entire holiday period, even if it runs across multiple pay cycles. Payroll systems should not be recalculating it each pay run.
- Under Section 27 of the Holidays Act, holiday pay must be paid before the employee goes on holiday, unless there is a written agreement to process it in the usual pay run. This often gets overlooked but is a legal requirement.
Why this matters
Annual leave payments may seem straightforward on the surface, but the reality is complex. Missteps create compliance risk, employee disputes, and potential financial liability. Systems must be configured correctly, contracts must be clear, and payroll professionals must be involved when allowances or new payment types are introduced.
“The greater of” may sound simple, but applying it correctly is where most payroll mistakes happen. Ensuring your payroll system interprets them correctly is one of the most important steps in building a compliant, trusted workplace.
Written by: Dawn Grant
Key Takeaways:
- Three little words – “the greater of” – drive how leave is paid.
- Payroll missteps often happen around allowances, discretionary payments, and accrual.
- Employers must calculate OWP and AWE correctly to stay compliant.
- Accurate system setup is essential to avoid overpayments or underpayments.
- Compliance is not optional – mistakes can leave employers exposed.
Not less than 4 weeks paid annual holidays
When simple words cause big problems
“Not less than 4 weeks’ paid annual holidays.” – How do these eight simple words cause so much confusion?
These eight words are taken from section 16 of the New Zealand Holidays Act.
The complete section reads:
(1) After the end of each completed 12 months of continuous employment, an employee is entitled to not less than 4 weeks’ of paid annual holidays.
Seems simple, eh? Maybe not so much.
Truth about 4 weeks’ leave…
- “Accrued leave” isn’t in the Holidays Act – only entitlement is.
- Unpaid leave can still count as continuous employment.
- ACC injury leave counts, even without working all year.
- Leave in hours may not equal 4 full weeks of time.
- If there’s no agreement, a Labour Inspector may step in.
“What looks simple in law often becomes complex in payroll.”
What’s missing? The myth of “accrued leave”
Let’s start with what isn’t in Section 16: accrued leave.
If you searched the Holidays Act 2003 for the terms “accrued leave” or “leave accrual”, you’d come up empty. Neither term appears in the legislation.
Yet most payroll systems use these terms to describe leave earned during the first 12 months of employment – and in every 12-month period after that. Some systems even show two leave balances:
- Leave accrued
- Leave entitled
But here’s the thing: only “leave entitled” is legally recognised. “Leave accrued” is a system construct – not a legislative one.
“Accrued leave might be in your system, but it’s not in the law.”
So what’s the problem?
If there’s no mention of leave accrual in legislation, but your system displays leave accrued, how do you know it’s correct?
And if leave is accruing – how is it accruing? In weeks? In most systems, leave accrual is in hours, sometimes in days, and possibly in weeks if you’re lucky.
How does this accrual work for employees with varied hours? Is it based on hours worked – also known as proportional accrual?
And how does that get translated into a 4-week entitlement once the 12-month mark is reached?
Understanding “continuous employment”
Let’s go back to Section 16 – “each completed 12 months of continuous employment.”
Let’s review what continuous employment means.
At first glance, it seems simple: work 12 months, get 4 weeks of leave. Easy, eh? Yeah, nah.
What happens if an employee takes time off during those 12 months? Is employment still considered continuous? In most cases, yes.
Even some types of unpaid leave are considered continuous employment – think unpaid sick leave, unpaid bereavement leave, unpaid jury duty, etc.
Only unpaid leave not related to these categories, and greater than one week, is excluded from the definition of continuous employment.
So what does your system do in those cases?
- Does it push out the leave entitlement date (anniversary date)?
- Reduce the divisor?
- Or… does it do nothing at all?
The ACC scenario: an easy one to miss
Here’s one to look out for: unpaid injury leave while an employee is receiving weekly compensation from ACC.
If an employee returns after a period of injury leave, however long, the time away is still considered continuous employment.
That means the employee may be entitled to 4 weeks of annual leave, even if they haven’t worked at all during the past 12 months.
As the company isn’t paying the employee, and the role may have been filled by someone else, this often drops off the radar. Confusion and frustration follow when the employee returns and claims their 4 weeks of leave.
Surely they’re not entitled? Oh yes, they are.
But what is “4 weeks of leave” really?
Here’s the big question – what exactly does 4 weeks of leave mean in your system?
Is the balance stored in hours or in weeks?
If it’s in hours, how do you know the correct number of hours have been converted into the equivalent of 4 weeks?
Have the employee’s regular hours changed in those 12 months?
- Has a full-time employee gone part-time?
- Has a part-time employee gone full-time?
Are the hours now more or less than the equivalent of 4 weeks?
So what’s the problem?
If there’s no mention of leave accrual in legislation, but your system displays leave accrued, how do you know it’s correct?
And if leave is accruing – how is it accruing? In weeks? In most systems, leave accrual is in hours, sometimes in days, and possibly in weeks if you’re lucky.
How does this accrual work for employees with varied hours? Is it based on hours worked – also known as proportional accrual?
And how does that get translated into a 4-week entitlement once the 12-month mark is reached?
“If your system’s logic hasn’t been reviewed in years, now’s the time to check before someone else does.”
Section 17: Agreement (or disagreement)
Section 17 of the Holidays Act explains how the entitlement to 4 weeks’ annual holidays can be met. The recommended approach? Employer and employee should agree on how the 4-week entitlement is fulfilled.
But who actually has those conversations?
In most cases, it’s left up to the payroll system to define the 4 weeks of annual holidays. But is that definition correct? Are you relying on a flawed system?
What happens when there’s no agreement?
Even worse, under Section 17(2), if the employer and employee can’t agree, then a Labour Inspector can make the determination.
Yikes.
The Labour Inspector may also refer to Section 12 of the Act, which defines an otherwise working day. Are these otherwise working days accurately recorded in your time and attendance system? If not, then the door is open for the Labour Inspector to dig even deeper – something you want to avoid.
Final note: payment is a separate issue
And don’t get me started on payment for those 4 week, that’s a subject for another article.
So…eight simple words that cause so much consternation and angst – not less than 4 weeks paid annual holidays.
So… is your system compliant?
Is your system compliant? The question isn’t whether you trust your system – it’s whether your system actually aligns with the Holidays Act.
A quick compliance audit can:
- Review your accrual settings
- Check anniversary date handling
- Confirm how “4 weeks” is calculated in real-world terms
→ Ask us about a Holidays Act audit today.
Written By: Dawn Grant
Key Takeaways:
- Accrued leave is not legislated: It’s a payroll convention, not a legal standard. Leave entitlement only legally exists after 12 months of continuous employment.
- Continuous employment includes more than you think: Many types of unpaid leave – including sick, bereavement, jury, and injury leave don’t break the 12-month cycle.
- Systems often get it wrong: Leave balances in hours or days may not equate correctly to 4 weeks, especially for variable-hour or part-time employees.
- Disagreements can escalate: If no agreement is reached between employer and employee, a Labour Inspector can step in – potentially exposing system flaws.
- An audit can help: Regular compliance checks are essential to avoid future issues and ensure employees are getting their full entitlements.
Enterprise HCM Software Implementation – Part 4: Provisioning, Build & Vendor
In the first three installments of this series, we laid the groundwork for a successful enterprise HCM implementation. From securing organisational buy-in to selecting the right vendor and then defining the project scope – each step has helped build momentum and clarity.
If you’re just joining us, the earlier parts of this series covered the foundational stages:
- Part 1 – Getting Started: Laying the groundwork for a successful implementation.
- Part 2 – Vendor Selection: Choosing the right partner to meet your organisation’s needs.
- Part 3 – Project Initiation, Scope & Design: Defining the project’s parameters and aligning stakeholder expectations.
Top 5 Points at a Glance
- Provisioning sets up the technical environments and access to support the build.
- The build phase transforms your scoped requirements into a tailored HCM system.
- Data migration planning begins early – clean, mapped data is critical.
- Vendor testing ensures everything works as expected before user testing starts.
- Clear communication, aligned expectations, and contingency planning drive success.
Now, we shift from planning to execution. Provisioning, Build, and Vendor Testing is where your system begins to take shape. This stage brings together infrastructure, customisation, and early-stage quality assurance – all before the system reaches your wider team. Each element plays a vital role in ensuring the foundations are strong, the build is aligned with expectations, and the finished product delivers real value.
“Provisioning, Build, and Vendor Testing is where your system begins to take shape — long before your wider team ever logs in.”
Provisioning: Laying the Technical Foundation
Provisioning is the behind-the-scenes work that prepares your environment for what’s ahead. It begins with setting up the right infrastructure – development, testing, and production environments that reflect the operational realities of your organisation.
At the same time, access management comes into play. This means configuring user roles and permissions in a way that supports both usability and data security. It’s about giving the right people the right access at the right time.
Finally, this is when you prepare for integration. Most organisations rely on a network of systems – payroll, finance, timekeeping, and more. Getting these interfaces ready is crucial so your HCM system doesn’t operate in a silo but works in harmony with your existing stack.
Taken together, these actions ensure that the project’s next phase – the system build – has a stable and secure foundation.
- Environment Setup: Establishing development, testing, and production environments that mirror your organisation’s operational landscape.
- Access Management: Configuring user roles and permissions to ensure secure and appropriate access to the system.
- Integration Points: Preparing interfaces for seamless data exchange between the HCM system and existing applications such as payroll, finance, and timekeeping systems.
Build: Developing the Customised Solution
Once the infrastructure is in place, the build phase can begin. This is where the vendor takes the detailed requirements you’ve aligned on during the design stage and starts developing a tailored system.
Configuration is about fine-tuning system settings to support your organisational structure, policies, and compliance needs. Customisation goes a step further – introducing bespoke workflows or features that reflect the way your business operates. It’s also where data preparation begins in earnest. Migrating from legacy systems is never as simple as a copy-paste job. It requires careful mapping and cleansing to ensure that what goes into the new system is accurate, usable, and aligned with your goals.
Close communication is essential here. Every adjustment, every iteration – it all contributes to how the system will ultimately feel for your people. Keeping that dialogue open ensures the build doesn’t drift away from what your organisation actually needs.
- Configuration: Tailoring system settings to align with organisational policies, workflows, and compliance requirements.
- Customisation: Developing bespoke features or modifications to address unique business processes or needs.
- Data Migration Preparation: Mapping and cleansing data to ensure accurate and efficient migration from legacy systems.
“This phase isn’t just about building software — it’s about building trust in the solution you’re about to roll out.”
Vendor Testing: Ensuring Quality and Compliance
Before your internal team gets hands-on with the system, the vendor needs to run their own tests. This isn’t just about ticking boxes – it’s about confirming that the build meets expectations and can handle real-world use cases.
Vendor testing includes individual unit testing, broader functional testing, and making sure integrations work as expected. But testing isn’t something that happens in a vacuum. Your project team should be involved through regular playback sessions. These checkpoints provide an opportunity to preview completed features, validate progress, and resolve issues before they become roadblocks.
- Unit Testing: Assessing individual components or modules for correct operation.
- Functional Testing: Verifying that the system’s features work as intended and meet the specified requirements.
- Integration Testing: Ensuring that the system interfaces correctly with other applications and data flows seamlessly across platforms.
These collaborative reviews are where value is created – not just in terms of system functionality, but also team alignment and user confidence.
Best Practices to Navigate This Phase
If there’s one theme that runs through this phase, it’s alignment – between your team and the vendor, between expectations and outcomes. That’s why clear communication, structured documentation, and the right resource allocation can make all the difference.
Even with the best planning, challenges can arise. Having contingency strategies in place allows you to stay flexible and focused, even when things don’t go exactly to plan. This phase isn’t just about building software – it’s about building trust in the solution you’re about to roll out.
- Maintain Open Communication: Establish regular check-ins and clear channels for feedback between your team and the vendor.
- Document Changes and Decisions: Keep detailed records of configurations, customisations, and any alterations to the original design.
- Allocate Adequate Resources: Ensure that both your organisation and the vendor have the necessary personnel and tools dedicated to the project.
- Plan for Contingencies: Anticipate potential challenges and develop mitigation strategies to address them proactively.
By adhering to these practices, organisations can navigate the complexities of the provisioning, build, and vendor testing phase effectively, setting the stage for successful user acceptance testing and system deployment.
Stay tuned for the next instalment in our series, where we will delve into User Acceptance Testing, Training, and preparing for Go-Live.
Need expert support through your HCM implementation journey? From provisioning and build to deployment and beyond, Alxemy’s Software Implementation Services give you the experience, structure, and guidance to get it right. Let’s talk about your next step.