Methods of Calculating Annual Leave Pay

We provide a brief overview of different methods for calculating vacation pay. Vacation pay must be paid no later than on the penultimate calendar working day before the start of the vacation, unless otherwise agreed between the employer and the employee (TLS § 70 (2)). Upon termination of an employment contract, the employer is obligated to compensate the employee for unused, non-expired annual leave days in money (TLS § 71). According to the Labor Inspectorate's standpoint, compensation for unused, non-expired annual leave days should be paid out with two decimal precisions, based on the average calendar day pay. 

According to the government regulation "Conditions and Procedure for Payment of Average Wages", vacation pay is calculated either by maintaining the agreed salary method or based on the average calendar day pay of the previous six months. The month of the penultimate calendar working day before the start of the vacation, in which the salary becomes payable to the employee, is always considered the month of need. It should be noted that payable amounts are only due at midnight, even if the salary payment might have been at midday. 

The agreed salary maintenance method is used in calculating vacation pay if the employee was paid an unchanged amount of salary (including agreed additional bonuses) for the six calendar months preceding the month of need. This means that there were no contractual salary changes during the six months preceding the month of need. Time off due to vacation and/or sick leave is not considered under salary changes. The amount of the vacation pay using the salary maintenance method is found by dividing the contractual salary by the number of standard working days of the given month and multiplying the result by the number of working days during the vacation period. 

If there were changes in salary and bonus payments for the work done during the six calendar months prior to the month of need for calculating vacation pay, then vacation pay must be calculated based on the average calendar day pay. To find the average calendar day pay, add up the six months' wages (payments received for worked time) and the number of calendar days in those six months. From the calendar days, deduct the days of non-working time (e.g., vacation, sick leave, or other days off). Public and national holidays are also not included in the calendar days. The sum of the six months' wages is divided by the sum of the six months' calendar days. The resulting division is the average calendar day pay, which is multiplied by the number of calendar days of the vacation period. This is how vacation pay is formed based on the average calendar day pay of the previous six months. 

If vacation pay has been paid out, but changes are made later to the six months' wages preceding the month of need (e.g., bonus payments for work done in previous periods or salary increases), then according to the regulation, there is no obligation to recalculate the vacation pay. 

If the employer does not pay vacation pay on time or does not adhere to the agreement, the employee has the right to demand delay interest or penalties. The interest is calculated from the moment the obligation becomes payable (according to the law or agreed moment) until proper fulfillment (VÕS § 113 (1)). 

Conditions and Procedure for Payment of Average Wages defines how to correctly calculate annual leave according to the law. However, the employer can always apply a calculation method that results in a more favorable outcome for the employee. This means that although the company should calculate vacation pay based on the average salary of the last six months, the company can maintain the salary if it turns out to be more favorable (or vice versa). 

Every company's internal life is very different. Nevertheless, it is evident that employers have mostly chosen the latter option, offering their employees a more beneficial method of calculating vacation pay as one of the benefits. In addition, there are recalculations of vacation pays when there are bonus payments and other rewards for work done in previous periods. 

BDO's payroll business line specialists are ready to answer and advise on the methodology of annual leave calculation. Each client is unique, so we consider every detail and internal regulation of each company to provide quality payroll services. Contact our business line specialists and request for a consultation today.