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Will the introduction of the National Living Wage affect your business?

The National Living Wage, which came into force on 1 April 2016, is a misnomer. It is a confusing label for what is in reality the introduction of a new rate of the National Minimum Wage (NMW) for individuals who are aged 25 or over. It bears no resemblance to the actual living wage set by the Living Wage Foundation, which has considerably higher rates of pay.

NMW rates

The NMW rates are reviewed annually following recommendations by the Low Pay Commission (which the government usually accepts) and these come into force on 1 October each year. They are based on median earnings rather than the cost of living. The current rates are set out below. These rates are due to increase on 1 October 2016 and the third column of the table sets out the new rates.


Current rate

Rate from 1 October 2016

Standard adult rate – payable to those aged 21 and above



Development rate payable to those aged 18-20



Young workers rate payable to those aged 16-17



Apprenticeship rate payable to those under 19 or individuals in their first year of an apprenticeship



One issue that businesses will have to grapple with is that there will now be two key review dates for pay increases; 1 April for those earning the higher NLW and 1 October for those earning the NMW. It is hoped that the government will align the cycles for both rates but the earliest this could occur is April 2017. The Low Pay Commission in its Spring Report 2016 has indicated that if the rates are reviewed and will increase on the same date, it may be asked to make further recommendations on the levels of the NMW rates after only six months.

The Low Pay Commission will also make recommendations to the government about the appropriate NLW rate to apply from April 2017 and beyond. Unlike the other minimum wage rates, the NLW is subject to a target and the Commission has been asked to ‘consider the pace of the increase’ year on year with a view to meeting the ambition of reaching 60% of median earnings by 2020. The government’s objective is to have a NLW of £9.00 an hour by 2020, which means that the rate will have to increase by around 45 pence per hour every year (although there is no requirement for the yearly increases to be uniform).

When does the NLW become payable?

The new rate applies to all workers (except apprentices in the first year of their training) from 1 April 2016 and to those who reach the age of 25 after this date. Workers who reach their 25th birthday after the NLW comes into effect will receive the higher rate once they start a new pay reference period. Pay reference periods are determined by how regularly the worker is paid and cannot be longer than a month. Therefore, a worker who is paid weekly will be entitled to the NLW for all work completed in the pay period after the week in which they become 25.

Calculating the correct amount

The legislation is extremely complex, but essentially each hour of work does not have to be remunerated at the relevant rate provided the average hourly rate, calculated over the relevant pay reference period does reflect the NMW rates. The NMW regulations differentiate between four types of work:

  • Time work: work that is paid by reference to the time that a worker works, such as hourly paid work
  • Salaried hours work: where the worker is paid for a fixed number of hours a year, paid in regular instalment
  • Output work: work paid according to the worker’s productivity
  • Unmeasured work: a residual category which catches any other work.

These categories apply to the NLW.

Each category has its own anomalies. Generally, however, not all pay received during the reference period counts towards this calculation. For example, benefits in kind are excluded, as are all forms of tips or gratuities, even if they are paid through the payroll. Premiums paid for overtime or shift work are also excluded. Workers who are on standby or on call will not be entitled to the NMW if they are allowed to remain at home, but they will be if they have to attend work. Pay for ‘sleep-in’ shifts is particularly tricky. Some sectors pay a fixed rate (below the NMW) for sleeping at a client’s premises and recent case law suggests that this time may have to be included when calculating the NMW rate, even if the individual is asleep throughout their shift.

The risk to businesses paying quite low wages is that they may no longer have a comfortable margin when working out average payments, particularly if these include sleep-in allowances paid at a lower rate, which are common in the care sector.

Businesses that offer salary sacrifice schemes will also have to make sure that the worker does not receive less than the NMW or NLW after appropriate deductions have been made. This may mean that some lower paid workers will no longer be able to benefit from such schemes, which offer tax advantages.

Can employers appoint younger (and cheaper) staff?

Paying someone a lower hourly rate simply because of their age is, on the face of it, an act of direct discrimination. However, this is permitted because of an exception included in the Equality Act 2010, which will also apply to the new NLW.

The provision of age-related pay bands has been challenged at a European level but, so far, the UK’s NMW pay levels have not been subjected to the same level of scrutiny. When the age discrimination regulations (now part of the Equality Act) were introduced in 2006, the government believed that the pay bands could be objectively justified because they make it easier for younger workers to find employment and encourage them to stay in full-time education. While these arguments might apply to those aged 21 and under, it is questionable whether they remain valid for those aged between 22 and 24, who have largely left full-time education.

Employers that select candidates by age band because they are cheaper to employ may be at risk of direct discrimination claims. While it is possible to justify direct age discrimination, it is difficult think of appropriate legitimate grounds which can be deployed to argue this.

Similarly, if an employer decides to dismiss employees once they become eligible to receive the NLW to avoid paying the enhanced rate, it will be liable for automatic unfair dismissal claims. There is no minimum service required and therefore no ‘safe’ period within which the employer can dismiss. Dismissing employees in these circumstances will also be an act of direct discrimination, with no qualifying period required to bring a claim.

Funding the NLW

The increase in the minimum wage payable to those aged 25 and over has to be funded by employers. Where they can, they may make up the additional costs through increasing prices to customers or clients. Where this is not possible, employers may look at other ways of reducing their wage overheads, such as reducing bonuses or benefits, or perhaps freezing pay for higher-paid staff. If employee entitlements are non-contractual, businesses may be able to make such changes relatively easily. If they wish to reduce contractual pay rates (such as overtime rates or shift allowances) then the situation is complex and may require collective consultation with affected employees.

There is some evidence that employers may be able to absorb the increase to £7.20 per hour but will find it much more difficult to accommodate additional increases without making substantial changes to their price structures or business models. Many organisations will need to start thinking now about how they will fund further increases.

Penalties for failure to pay the NMW or NLW

From 1 April 2016, the penalties for non-compliance with the NMW significantly increased from 100% of the shortfall in wages to 200% of the shortfall, capped at £20,000 per worker. Failure to pay the NLW will be subject to the same scheme and penalties. The government is increasingly ‘naming and shaming’ non-compliant employers and it is likely the numbers of employers that fail to pay the correct rate will increase once the NLW comes into effect.

Employment Law Update - April 2016

Key Contact

Fergal Dowling