Payback time?

Employees’ options when faced with a demand to repay a wage overpayment — the law in this article relates to England and Wales

This article was originally published in the July/August 2016 issue of Adviser magazine and was correct at the date of publishing.

The following enquiry to the employment experts at Citizens Advice demonstrates the problem: Carla has been told by her employer that they have been paying her the wrong shift premium for the last 7 years, with the result that she has been overpaid by almost £10,000. They want her to pay the money back. Does she have to?

The length of time over which the client has been overpaid and the amount is unusual but the general question is not.

Employers can rely on two legal rights to reclaim the money:

1. The employment contract.

2. The right of ‘restitution’.

Coupled with this is an employer’s statutory right to deduct money from wages to recover an overpayment. This applies regardless of whether the employer has a legal right to recover the money under the contract or the law of restitution.

The contractual position

Many employers include an express clause in contracts requiring employees to repay any overpayment of wages. If there is such a term in a client’s contract the employer does not have to rely on the law of restitution to recover the money, they can simply rely on the contract. Crucially, this means a client will have no option to raise an estoppel or change of position defence, which is considered below. As a matter of contract, they are obliged to repay the overpayment (and the employer will be able to deduct the money from their wages).

If there is no express repayment clause a tribunal would not imply one — the employer will have to rely upon restitution.

The law of restitution

There is a legal principle that one person should not be ‘unjustly enriched’ as a result of a mistake of another. Thus, if an employer gives an employee money by mistake the employee is unjustly enriched and the employer is entitled to restitution - to have the money paid back.

The six year time limit for making a claim for restitution runs from the date on which the mistake is discovered, or the date on which the mistake could, with reasonable care, have been discovered if that is earlier.

This means that Carla’s employer is not necessarily barred from claiming overpayments occurring 7 years ago. However Carla may argue that the employer could, with proper payroll procedures, have realised the mistake earlier.

Defences to restitution

The legal principles are based in a branch of law known as equity (fairness) and since it will not always be fair to make an innocent party repay the money there are defences.

In the case of wage overpayments there are two possible defences:

● Estoppel by way of representation.

● Change of position.

Both require:

● that the employee was ‘innocent’ - that they did not realise they were being overpaid; and

● that the employee has ‘changed their position’ in the belief that they were entitled to the money.

The difference between the two is that estoppel by way of representation also requires that the employer confirmed to the employee that they were entitled to the money. If for example Carla had queried the shift premium and been told it was correct the employer would have made a representation and estoppel would operate to prevent the employer recovering any of the money (even if Carla had not spent it all).

In most cases there is no such representation and the employee will have to rely instead on the change of position defence. However this is not a complete defence - a court could order an employee to pay some of the money back, for example if they have some of it left.

To demonstrate ‘change of position’ an employee has to do more than say they have spent the money, or that they have spent it on normal household bills. Those expenses would have existed anyway so the employee’s position has not changed in any way. However if the employee has clearly incurred expenses they would not otherwise have had (for example they went on a luxury Caribbean cruise rather than a camping holiday in Wales) that would demonstrate a change of position. It might also be a change of position if an employee, believing their (incorrect) wages to be adequate for their living expenses, decides to give up a second part-time job. In many cases the overpayment can go on for several years (as in Carla’s case) and it may not be possible to identify a clear expense or loss. However the employee may have had an overall increase in lifestyle because of the extra money — they may have ‘lived to their means’. Although harder to demonstrate, this could still be a change of position -see the example of Davis below.

Examples of the ‘change of position’ defence in practice

Scottish Equitable plc v Derby [2001] 3 All ER 818

D was overpaid a lump sum from his pension. He used part to pay off his mortgage, part was put into a new pension and the remaining £9,000 was spent on modest improvements to the lifestyle of himself and his family. The Court held that only the £9,000 spent on lifestyle improvements amounted to a change of position. He would have had to repay the mortgage regardless of the overpayment (though it might be a change of position if, for example, the loan paid off was on very generous terms which could not be replicated in the current market if he was forced to remortgage). The pension plan could be reversed - the provider was happy to allow D to take out the money he had put in.

Philip Collins Ltd v Davis and another [2000] 3 All ER 808

Two session musicians were overpaid royalties for recordings they had been involved in over the course of 7 years. Neither could give a detailed account of how they had spent the money but their evidence was that when they had money they spent it - they adjusted their lifestyle according to their income. The judge was satisfied that they had changed their position, but not to such an extent as to mean they could rely on it to defeat the whole claim. In particular, there was evidence that even if they had been paid the correct amount of royalties they would not necessarily have reduced their living expenses by the same amount as they had been overpaid. He therefore decided to take a ‘broad brush’ approach and ordered that they must repay 50% of the overpayment.

Deducting the overpayment from wages

When an employer discovers that a current employee has been overpaid they can rely on section 14 of the Employment Rights Act 1996, which allows them to make deductions from a worker’s wages to recover an overpayment of wages or expenses.

Therefore if Carla admits that there has been an overpayment and the employer starts to makes deductions she cannot complain to a tribunal that she has suffered an unauthorised deduction from wages. The tribunal would only have power to hear her complaint if she believed that she had not been overpaid, or if the deduction had not been made because of the overpayment[1].

So, whilst she may have a defence under the law of restitution, she cannot rely on that to defeat a claim by the employer that the deduction is authorised by section 14. She would have to either (a) make a claim to the county courts that the employer is in breach of contract and/or (b) rely on the breach of contract as entitling her to resign and claim constructive dismissal.

There is no limit on how much can be deducted (even if the deductions take the client’s wages below national minimum wage levels[2]). Most employers would try to negotiate a reasonable repayment arrangement with an employee, particularly because making large deductions could lead to a claim of constructive dismissal.

The employee’s options

If agreement cannot be reached and an employer begins making deductions from wages an employee really only has two options to challenge the employer’s actions.

Claiming breach of contract in the civil courts

If Carla’s employer makes deductions from her wages they will be in breach of contract unless the contract requires her to repay any overpayment and allows the employer to take the money from her wages. She could therefore make a claim in the county court (usually the small claims court) for breach of contract. Her employer would defend the claim on the grounds they were entitled to recover the overpayment under the law of restitution, which would enable the court to consider any defence Carla may have.

Employment tribunals cannot hear claims for breach of contract unless a claimant’s employment has ended. So, Carla can only make such a claim if she resigns or is dismissed.

Constructive dismissal

A constructive dismissal occurs when an employee resigns in response to a fundamental breach of contract by the employer. Such a resignation is treated by the law as a dismissal, which allows the employee to claim, for example, unfair dismissal.

An employer who deducts pay to recover an agreed overpayment of wages is probably in breach of contract (unless there is an express contractual right to do so) since it is a breach of contract not to pay wages owed. However a reasonable level of deduction to recover an overpayment which the employee accepts occurred is unlikely to be sufficiently serious to be a ‘fundamental’ breach.

On the other hand an employer who significantly reduces an employee’s wages, or takes money out of a small amount of wages such as SSP, without checking what financial hardship that will cause to the employee, may well have conducted themselves in a way which is ‘calculated or likely’ to destroy their implied contractual obligation of trust and confidence.

However, the employee’s only option is to resign and claim unfair dismissal - rarely an attractive option and not open at all to an employee with less than 2 years’ service. It does, though, prevent an employer recovering the money through the employee’s wages and forces them to take legal action if they want to recover the money.

Tax and NI

Given the amount of overpayment in Carla’s case it is likely that there will have been a significant overpayment of tax and NI on those wages over the years. If her employer recovers that overpaid wages from her they should report the correct figures for previous tax years to HMRC, who will refund the overpayments to Carla.

Example letter to Carla’s employer

I have carefully considered your letter telling me that I have been overpaid.

I had no idea that I was being overpaid. My payslip does not explain the shift allowances and I do not recall having been given anything in writing explaining what they were, so I just assumed they were correct.

I am sure you will understand that the possibility of having to pay back so much money is quite a shock to me and could leave me without enough money to meet my financial commitments, and as a result I had to seek advice.

I have been told that whilst the law generally allows you to reclaim the money there are some factors to help someone like me for whom it may be unfair.

1. You are asking me to repay money I received 7 years ago. You would have a 6 year time limit to reclaim the money, starting either from the point you discover the mistake or the point at which you could, with reasonable care, have discovered it. I cannot understand why it has taken so long for this mistake to be identified and would argue that it really could and should have been discovered earlier had you taken reasonable care in administering pay. I would therefore question whether you would be able to reclaim the full 7 years, if anything at all.

2. There are defences available to someone if they genuinely did not realise the mistake and it would be inequitable to order them to repay the money because they have ‘changed their position’ as a result of having the money. I had always assumed that I was entitled to the money and have always lived to that standard of income. It is hard to say exactly what I have spent the money on, but for example I would probably not have taken out such a high credit agreement for a new car a few years ago had I not had that extra income. Nor would I have spent so much on holidays or other living expenses.

I therefore believe that it is unfair and unreasonable for you to try to recover money from me which you may be unable to claim in a court.

However, I do recognise that I have received money I was not entitled to and that has caused a loss to the business. I would therefore be prepared to repay the sum of £2,000 by way of deductions from my wages at a rate of £100 per month. If this is acceptable to you I would also like confirmation that you will notify HMRC of the adjustments to my pay so that I can be refunded that tax and NI contributions I have paid on those wages.

Tactics

Overpayments are tricky to deal with if a client is still employed — the employer has the upper hand because of their power to make deductions from wages. However you may be able to help the client to raise a strong argument against the ability of the employer to recover the overpayment and/or help them negotiate a repayment plan.

Initially, you should:

● Check there has in fact been an overpayment and that the employer has calculated it correctly.

● Check whether the employer has a contractual right to recover the overpayment. If so, check that the employer is complying with the exact terms of the clause. If they are, the client’s only option is to negotiate repayment terms (and deal with the tax implications) or consider constructive dismissal if the employer is making excessive deductions which may be a breach of trust and confidence.

If there has been an overpayment and the employer has no contractual right to recover, they are relying on restitution, and you could:

● Write and challenge employer’s power to recover either:

• on grounds of time (if the overpayments occurred more than 6 years ago); or
• on grounds that the client has an estoppel/change of position defence. You will need to provide an explanation as to why the defence applies i.e. how the client has changed their position.

● If the client has any evidence about their change of position, advise them to keep hold of it - and send it to the employer if you think it will help

● If the client wants to do so, negotiate to repay. This could include an offer to repay all or part of what is owed in instalments, by way of deduction from wages. This can be combined with the letter challenging the overpayment, or done separately.

● If agreement cannot be reached the client’s only option is likely to be to claim breach of contract in the county court (or employment tribunal if employment ends). Given that the defence may not succeed, or may only succeed in part, it would be sensible to try to reach a compromise if possible.

● If repayment is agreed, or ordered by a court, ask the employer to report the adjustment to HMRC so the client can reclaim tax.

● Resignation remains an option. However there are of course many consequences of giving up a job which mean it may not be the best course of action.

Tracey Moss is an Employment Expert at Citizens Advice.

Endnotes

[1] SIP (Industrial Products) Ltd v Swinn [1994] IRLR 323

[2] Reg 12(2)© of the National Minimum Wage Regulations 2015