Trial Periods: recent case clarifies confusion over payments in lieu

17 January 2020

If an employee is not working out and is subject to a 90-day trial period, the natural desire is to remove them from the workplace as soon as possible. However, there has been some confusion as to whether a payment in lieu of notice is sufficient to end the employment relationship and take advantage of the trial period protection. This confusion has led to many employers being caught out. However, a recent case has clarified the position somewhat.

The confusion

The first significant case to deal with trial periods was Smith v Stokes Valley Pharmacy in 2010. It was this case which confirmed that an employee must agree to a trial period before starting work to avoid being classed as an ‘existing employee' to whom the trial period legislation could not apply. The case also said that the Court and Authority should take a strict approach to interpretation of the legislation because it ultimately eroded an employee's right to raise a personal grievance.

In that case the employer also failed to provide the correct period of notice under the employment agreement, which it then paid in lieu. The Court said that a payment in lieu of notice was not notice for the purposes of the trial period legislation and therefore could not be relied upon by the employer to provide it with protection from a personal grievance. This position was confirmed in a subsequent case, Farmer Motor Group Limited v McKenzie, heard in 2017.

But what is a payment in lieu?

A payment in lieu of notice is essentially a monetary sum paid to an employee as compensation for not receiving their notice. So, if an employee has a two-week notice period, a payment of two weeks' salary or wages would compensate the employee for not receiving the notice. For the purposes of this article, let's call this scenario 1.

Such a payment is to be distinguished from a situation where an employee gives notice of two weeks and then says to the employee that they are not required to work out their notice. Normally, in these situations payment of the final pay is made after the notice period would have expired and so it is akin to garden leave. Let's call this scenario 2.

Many believed that what distinguished scenario 2 from scenario 1 was the timing of the final pay. In scenario 1, the final pay is made on the giving of notice whereas in scenario 2 the final pay is made after the expiry of the notice period. However, a recent case suggests otherwise.

No requirement to delay payment

In Ioan v Scott Technology NZ Limited t/a Rocklabs delivered in February of this year, there was a clause in the employment agreement which permitted the employer "not to require the employee to work out the required notice in which case the remaining balance of the notice period shall be paid by the Employer". This clause wasn't part of the trial period clause but formed part of the general termination provisions. The Court interpreted that clause as a scenario 2 situation; not a payment in lieu of notice, but a payment in lieu of working out the notice.

The employer in Rocklabs gave notice but decided to pay that notice in lieu. There was an intention to discuss whether the employee wanted to work out the notice or not, but that never materialised and the employer made the decision. The final pay was made shortly after notice was given and not at the end of the notice period which caused the employee to argue that proper notice had not been given. However, this didn't prevent the Court from interpreting the payment as a payment in lieu of working out the notice (scenario 2) rather than as a pure payment in lieu (scenario 1). It appears that what persuaded the Court was the wording of the termination letter and the wording of the clause in the employment agreement, the former aligning with the latter.

Where does this leave us?

The key principles to take from this case are:

  1. There is a difference between a payment in lieu of notice and a payment in lieu of working out the notice period. It would seem that the difference has nothing to do with the timing of the payment of the final pay but the drafting of the employment agreement and the termination letter.
  2. A payment in lieu of notice is not sufficient to employ the protection of the trial period legislation but a payment in lieu of working out the notice period is.
  3. Where a payment in lieu of working out the notice period is desired, the employment agreement must explicitly allow for it and the termination letter must make it clear that is what is being done to avoid any inference that the payment is a payment in lieu. The employer can then make the payment straight away rather than wait.
Of course, the proposal by the government to limit the application of trial periods to businesses with under 20 employees will mean that at some stage this will be of less relevance to some larger businesses. However, now is a good time to review the wording of your trial period clause to give you the flexibility to make a payment in lieu of working out the notice period.
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