Setting Up Salaries Without Misstating Annual Leave

If you run a small business, it’s completely normal to wonder whether annual leave is included in salary.

This often comes up when you’re hiring your first salaried employee, moving someone from hourly wages onto a salary, or trying to simplify payroll. You might also hear candidates ask, “does salary include annual leave?” and want to give a clear answer without overpromising (or accidentally underpaying).

The practical answer is: annual leave is still an entitlement for eligible employees, even if they’re paid a salary. But how it’s paid, when it’s taken, and whether you can structure a salary to account for certain entitlements depends on award coverage, the employee’s classification, the contract terms, and whether you’re meeting minimum legal obligations under the Fair Work system.

Below, we break it down in a business-friendly way, including common traps and best-practice contract wording concepts (without drowning you in legal jargon).

What Does “Annual Leave Included In Salary” Actually Mean?

When people ask whether annual leave is included in salary, they’re usually asking one of two different questions:

• Question 1: “If I pay a salary, do I still have to give annual leave?”
• Question 2: “Can I pay a higher salary and treat annual leave as already ‘paid for’ so I don’t have to track it?”

These questions sound similar, but they have very different legal and payroll outcomes.

Salary Doesn’t Remove Annual Leave Entitlements

In Australia, full-time and part-time employees generally have a minimum entitlement to annual leave under the National Employment Standards (NES). Paying someone a salary doesn’t “switch off” those entitlements.

In other words, annual leave isn’t optional just because an employee is salaried. It’s still an entitlement that accrues over time and can be taken as paid time off.

From an employer perspective, this means you still need to:

• track annual leave accruals and balances
• approve and record annual leave taken
• pay the employee correctly when they take leave (including any applicable loadings)
• pay out unused leave when employment ends (in most cases)

If you want a plain-English walkthrough of the payment side, Annual Leave Payments is a useful reference point for what “paid annual leave” can look like in practice.

“Included In Salary” Often Means “Set-Off” Or An Annualised Wage Arrangement (But Only If Done Properly)

When employers say annual leave is “included” in salary, they’re often trying to use a higher salary to compensate for certain entitlements that might otherwise apply (for example, overtime, penalty rates, allowances, and sometimes annual leave loading).

How you do this matters. For award-covered employees, some modern awards include specific annualised wage clauses with detailed rules (such as what can be included, record-keeping obligations, and requirements to reconcile or top up if the salary doesn’t cover what the employee would have received under the award). In other cases, employers try to rely on a set-off clause in the contract, but that still needs to be drafted and applied carefully.

If it isn’t structured correctly, you can end up with an underpayment risk even if the salary seems generous.

Do Salaried Employees Still Accrue Annual Leave In Australia?

Yes, in most cases. If someone is an employee (not a genuine contractor) and they are full-time or part-time, they typically accrue annual leave progressively.

As a general rule:

• Full-time employees accrue annual leave (commonly described as 4 weeks per year).
• Part-time employees accrue annual leave on a pro-rata basis (based on their ordinary hours).
• Casual employees generally don’t accrue paid annual leave (they receive casual loading instead), though misclassification is a common issue.

So if your worker is on a salary but is still a standard full-time or part-time employee, annual leave still accrues.

What If An Employee Takes Annual Leave While On Salary?

Practically, taking annual leave usually means the employee is away from work but still receives pay as if they were working their ordinary hours.

For many small businesses, the payroll outcome looks like this:

• the employee continues receiving their regular salary payments on the usual pay cycle; and
• you record annual leave hours/days taken so their leave balance reduces accordingly.

This is why the phrase “annual leave is included in salary” can be misleading. Even if the employee keeps receiving the same salary each pay run, you still have to track and manage the leave as an entitlement.

Can You Pay A Salary “Inclusive” Of Annual Leave (Or Annual Leave Loading)?

This is where things get more technical, and where many small businesses accidentally step into risk.

Annual leave itself is an entitlement to paid time off. The employee must be able to take time off and be paid for it. You generally can’t “cash it out” whenever you like, unless strict rules are followed (and usually only if an award or enterprise agreement allows cashing out, and only some of it).

Annual leave loading is different. It’s an extra payment that applies in many modern awards (often 17.5%) when annual leave is taken. Not all employees get it, but many award-covered employees do.

If you’re unsure what loading is or whether it applies, this overview of Annual Leave Loading can help you spot the issue early.

When “Inclusive Salary” Arrangements Usually Come Up

You’ll typically see “inclusive salary” language in contracts when:

• you’re paying above the award rate and want that higher rate to cover certain award entitlements
• you want more predictable wage costs across the year
• the employee’s hours vary, or they might work reasonable additional hours
• you’re trying to avoid repeated calculations for overtime/penalties

These goals are common in small business. The key is making sure the arrangement is legally effective and doesn’t cause underpayment.

What Employers Must Get Right (To Avoid Underpayment Claims)

If you’re aiming to structure a salary that covers certain entitlements, you generally need to pay attention to:

• Modern award coverage: if an award applies, check whether it has an annualised wage clause, and make sure the employee is not paid less than their minimum entitlements overall (this often requires record-keeping and, in some cases, reconciliation/top-up).
• Clear contract drafting: the contract should explain what the salary is intended to compensate for and how any set-off is meant to work (where permitted).
• Record keeping: you may still need to track hours and entitlements so you can verify the salary is sufficient.
• Annual leave loading: if it applies, you need to decide whether you will pay it when leave is taken (common) or whether a valid arrangement allows it to be absorbed into an annualised wage/salary (and if so, document and administer it correctly).

This is one reason having a properly drafted Employment Contract matters. It’s not just about having “a contract” - it’s about having terms that actually work with the Fair Work framework.

How To Answer “Does Salary Include Annual Leave?” (Without Confusing Staff)

If a candidate or employee asks “does salary include annual leave?”, a clear and business-safe response is usually along these lines:

• Yes, annual leave is paid (you get paid while you’re on annual leave).
• No, annual leave isn’t “already used up” just because you receive a salary - it still accrues and is taken as time off.

In other words, salary is simply the method of paying wages. It doesn’t erase leave balances.

A Practical Example You Can Use Internally

Let’s say you pay your employee $90,000 per year, paid monthly. The employee takes 2 weeks of annual leave.

In many cases:

• their monthly pay stays the same (because they’re still paid their salary), and
• their annual leave balance decreases by 2 weeks.

The employee doesn’t receive “extra pay” just because they took leave - the salary continues - but the leave is still a tracked entitlement that reduces when taken.

Be Careful With “All-Inclusive” Language

Where employers can get into trouble is when the business communicates (or writes into contracts) that the salary is “inclusive of annual leave” in a way that implies:

• the employee won’t accrue annual leave, or
• the employee won’t be paid when taking annual leave, or
• the employee must take unpaid leave when they take holidays.

For most employees, those outcomes won’t be compliant. If you want to simplify payroll, it’s usually safer to keep the concept simple: salary is paid as normal, and leave is tracked and taken in line with the law and your policies.

What Happens To Annual Leave On Resignation Or Termination?

Even if annual leave “feels” like it’s included in salary during employment, it becomes very concrete at the end of employment.

In many cases, when an employee resigns or you terminate their employment, you’ll need to pay out any accrued but unused annual leave in their final pay.

This is why accurate leave records matter. If you don’t track leave properly, you can end up with:

• disputes over what’s owed
• unexpected final pay costs
• difficulty proving you’ve met minimum entitlements

If you want a practical breakdown of employer obligations at the end of employment, Annual Leave On Resignation is a helpful starting point.

What If You Pay Out Notice Instead Of Having Them Work It?

Sometimes you might end employment quickly and pay out the notice period (rather than requiring the employee to work through it). That can affect the final pay calculation and the timing of payments.

For a deeper look at that concept, Payment In Lieu Of Notice explains how employers commonly handle it and what to watch for.

How To Protect Your Business: Contracts, Payroll Practices, And Policies

When you’re trying to manage the annual leave and salary question, it helps to think in terms of systems, not one-off answers.

Your goal is to create a setup where:

• your employee understands their entitlements
• your payroll is consistent and compliant
• you can demonstrate you’ve met your minimum legal obligations
• you reduce the risk of disputes later

1) Use A Clear Employment Contract

Your employment contract should clearly set out:

• whether the employee is full-time or part-time (and their ordinary hours)
• their salary and pay frequency
• how annual leave is requested and approved
• whether the role is award-covered and, if relevant, how any annualised wage or set-off arrangements are intended to operate

A well-drafted Employment Contract can also reduce the risk of misunderstandings like “my salary already paid out my leave” or “I don’t need to apply for leave because I’m on salary”.

2) Confirm Whether An Award Applies

A major risk point for small businesses is assuming an employee is “award-free” when they’re not.

If an award applies, it may set rules around:

• minimum base rates of pay
• annual leave loading
• overtime and penalty rates
• pay slips, record keeping, and classifications

If you pay a salary, you still need to ensure you’re meeting the employee’s minimum entitlements under the applicable award and the NES. Depending on the award and how the salary is structured, this may involve an annualised wage clause and/or periodic reconciliation.

3) Keep Strong Leave Records

Even if your employee’s salary looks the same each pay cycle, you should keep accurate records of:

• leave accrued
• leave taken
• leave balance
• any cashing out of leave (if permitted and properly documented)

This protects your business if there’s a dispute, and it makes final pay calculations much easier.

4) Check Whether Annual Leave Loading Applies (And Document Your Approach)

If annual leave loading applies under an award, you have a few practical options (depending on your circumstances), such as:

• pay loading when leave is taken; or
• use an award-compliant annualised wage arrangement (where available) or a carefully drafted set-off approach that is actually permitted and operated correctly.

If you want to sanity-check your approach, a tool like a Leave Loading Calculator can help you understand the amounts involved, but the legal structure still needs to be right.

Key Takeaways

• Salary doesn’t cancel annual leave. Most full-time and part-time employees accrue annual leave even if they’re paid a salary.
• When people ask if annual leave is included in salary, they usually mean “do they get paid while on leave?” In many cases, the employee continues to receive their salary while annual leave is taken, and you record the leave balance reduction.
• Be careful with “inclusive” salary arrangements. For award-covered employees, you may need to comply with specific annualised wage clause requirements (including record-keeping and reconciliation). In other cases, a set-off clause may help, but it needs clear contract wording and ongoing checks to avoid underpayment risk.
• Annual leave loading may apply under awards. If it applies, you need a compliant approach for paying it (often when leave is taken, or under a valid annualised wage/set-off arrangement where permitted).
• Leave records matter. Accurate tracking protects your business during employment and makes final pay (including annual leave payout) much easier to calculate.
• Strong contracts reduce misunderstandings. A clear employment contract is one of the simplest ways to manage expectations and improve compliance from day one.

This article is general information only and isn’t legal advice. If you’d like advice tailored to your business (including whether an award applies or how to structure an annualised wage/set-off clause), you can reach us at 1800 730 617 or team@sprintlaw.com.au for a free, no-obligations chat.