The government has ruled out making ethnicity pay gap reporting mandatory, but promised to issue guidance for employers who are choosing to report on a voluntary basis. Guidance was expected in the summer of 2022 but has only just been published as part of the government’s wider progress report on the Inclusive Britain strategy.  This article looks at the new ethnicity pay gap reporting guidance and the wider legal issues for employers considering investigating their ethnicity pay gaps.

Background to ethnicity pay gap reporting and the DE&I considerations

Following the introduction of gender pay gap reporting in 2017, it was inevitable that ethnicity pay gap reporting would be up next for consideration. Gender pay gap reporting has clearly shone a light on gender diversity and has forced companies to consider some of the more obvious underlying causes of a pay gap (e.g. the representation of women in high paid roles).  That has accelerated action to achieve a reduced year-on-year pay gap.

When it comes to ethnicity pay gaps, however, it’s not possible to take a “cut and paste” approach to gender pay gap reporting. Ethnicity pay gap reporting is so much more complicated than gender pay gap reporting, partly because of the need to understand the different outcomes for different ethnic groups, the lack of information about employee ethnicity and the significant variations in the ethnic diversity of the local workforce. This complexity is one of the reasons why the government decided not to make ethnicity pay gap reporting compulsory. Many employers are, however, choosing to use ethnicity pay gap reporting as a tool to help them measure and understand what disparities exist within their workforce. A smaller number are choosing to report their figures publicly.

The new ethnicity pay gap reporting guidance recognises that not all employers want to publish their figures but that some do want to calculate and report them internally.  It is intended to help employers looking to take either of these approaches by ensuring that all employers follow the same methodology and that figures are comparable.

Ethnicity pay gap reporting guidance

The new ethnicity pay gap reporting guidance covers five main topics:

• Collect employees’ ethnicity data.
• Gather the required payroll data for ethnicity pay calculations.
• Make ethnicity pay calculations.
• Analyse and understand the results of these calculations.
• Develop an action plan to address any identified disparities.

How to do ethnicity pay gap reporting

The government guidance is that employers should mirror the gender pay gap reporting regime, but with a few amendments. This means that employers should calculate the following, as with gender pay gap reporting:

• Mean and median ethnicity pay gap.
• Mean and median bonus gap.
• Proportion of each ethnic group receiving a bonus.
• Proportion of each ethnic group within pay quartiles.

In addition, the guidance also says that employers should calculate and present:

• The representation of ethnic groups across the organisation as a whole.
• The percentage of employees who did not disclose their ethnicity.

How to classify ethnicity

The guidance recommends that employers use the harmonised standards for collecting someone’s ethnicity. This is a self-classification system used by the government. The questions that employers should ask are those from the 2021 census (either the England and Wales or Scotland census). The government has produced separate guidance on writing about ethnicity including an explanation of why terms such as BAME and BME are no longer used, which may be helpful in this context.

Small groups and ethnicity pay gap reporting

We’ve commented before about ethnicity pay gap reporting and the small groups problem. In short, the problem is this: gaps are calculated from averages, and where an average is calculated from a small number of people it is liable to change a lot with the addition/removal of a few people. This problem can crop up in gender pay gap reporting but is far more of an issue in ethnicity pay gap reporting and is exacerbated in geographic areas with low ethnic diversity. Publishing data about very small groups also risks identifying individual employees.

The guidance attempts to mitigate both issues. It recommends that employers place a limit on the minimum size of a group for ethnicity pay gap analysis. Essentially, if you aren’t averaging over a sufficient number of people, don’t do the analysis. By ensuring group sizes are sufficiently big, it ensures statistics are more statistically robust and reduces the risk of identifying individuals.

The guidance suggests two different thresholds, depending upon whether gaps are to be published internally only, or externally.

For internal reporting, the guidance recommends that a minimum category size of between 5 and 20 employees should be used. The guidance stresses that employers still need to ensure that they are compliant with the UK GDPR, although identification is less of a concern if the report is only being published internally.

For external reporting, the guidance recommends that a minimum category size of 50 employees should be used. This is both to ensure statistical robustness and to guard against identifying individual employees.

In practice, the impact of these thresholds will differ across UK regions. In London, where there is a lot of ethnic diversity, an average employer with just 110 employees would be likely to have at least 50 ethnic minority employers. But in the South West and North East, on average, only those employers with over 700 employees would have at least 50 ethnic minority employees. In Wales, it would be only those with 1000 or more employees.

Binary ethnicity pay gap analysis vs a more granular approach

The guidance “strongly discourage[s]” reporting only a “binary” gap between either:

• White and all other ethnic minorities combined.
• White British and ethnic minorities.

It states that reporting only a binary gap will “mask detail and nuance which might be vital for understanding ethnicity pay gaps”. For example, black employees tend to earn less, on average, than Asian employees, but in a binary analysis both would groups would be combined. The guidance recommends that employers take a more granular approach to ethnicity pay gap reporting wherever possible. Employers should try to show as many ethnic groups as possible, while ensuring statistical robustness. 

Ideally, employers would be able to report gaps by all of the 17 ethnicity groups. Where employers are not able to report gaps by these specific ethnicities, the guidance recommends that they be grouped together into five broad categories: white, black, Asian, mixed and other. Yet even at this level, there can be differences between people included within a group that can be masked. For example, Bangladeshi and Pakistani employees tend to earn less than Indian and Chinese employees, but all would be grouped into “Asian”.

When this more granular approach is taken, the 50 employee threshold for external reporting becomes even more restrictive. It means that only the biggest employers would be able to publish gaps by all five broad ethnic groups: Asian vs white, black vs white, mixed vs white, and other vs white. In the North East, since just 1% of the population are black, only those employers with 5000+ employees are likely to be able to report a black pay gap; smaller employers would be unlikely to have 50+ black employees. By comparison, in London, since 13.5% of the local population are black, employers with 370+ employees would be expected to able to report this gap. Hardly any employers will be able to report externally by all of the 17 ethnicity groups (which would involve reporting 171 mean and median pay gaps, as we explained when the consultation first came out).

Employers need to be mindful that this is only guidance. The point made over and over again in the guidance is that the statistics must be robust and data protection laws must be complied with. This should be employers’ focus, rather than rigidly sticking to the minimum level of employees per ethnic group analysed. This might mean calculating and reporting statistics for groups with less than this minimum.

The guidance emphasises that, unlike gender pay reporting, employers may also have to make decisions about how best to combine different ethnic groups to ensure their results are reliable and statistically sound and to protect confidentiality. It advises that, where possible, the approach and the calculations should be checked with analysts.

Dealing with incomplete datasets in ethnicity pay gap reporting

Where people do not disclose their ethnicity, they should not be included into any of the groups used in the analysis. The proportion of employees that have not provided their ethnicity should be reported as it is important context behind ethnicity pay gap statistics. The groups who answered “prefer not to say” and the group who gave no answer should be reported separately because one shows the amount who have made a conscious decision not to provide their ethnicity, while the other shows those who might just have not got round to it and might need further reassurance and encouragement.

Employers need to decide whether they have a sufficient participation rate to do a sensible pay gap analysis that gives robust statistics. As we’ve explained before, calculating a gap from a limited dataset will not provide the “true” gap. And for every missing piece of data, there is a doubling of the number of potential gaps within which the true one lies. Employer must focus on building their datasets so that they are as complete as possible, but when response rates have plateaued, simulation techniques can help employers to cut through the remaining uncertainty and get a better understanding of where their true gap lies.

Data protection and ethnicity pay gap reporting

Personal data revealing racial or ethnic origin is considered special category personal data and is subject to additional protection under the UK GDPR.  Employers are prohibited from collecting or using special category personal data unless both a lawful basis (Article 6) and a special category condition (Article 9) can be identified. 

As the UK government has ruled out making ethnicity pay gap reporting mandatory, the most appropriate Article 6 lawful basis will be that the processing is necessary for the purposes of a legitimate interest pursued by the employer (Article 6(1)(f)) which will require the employer to balance the impact of the processing on employees against the interest being pursued by the employer. 

In the UK, the Article 9 condition will be met where the processing of personal data revealing racial or ethnic origin is necessary for the purposes of identifying or keeping under review the existence or absence of equality of opportunity or treatment between people of different racial or ethnic origins with a view to enabling such equality to be promoted or maintained (Schedule 1, Part 2, Paragraph 8 of the Data Protection Act 2018). 

As Schedule 1, Part 2 conditions are “substantial public interest” conditions, UK employers are required to have in place an appropriate policy document explaining the employer’s procedures for securing compliance with the UK GDPR principles (including principles relating to the retention and erasure of the data) (Schedule 1, Part 4 of the Data Protection Act 2018). 

Processing employee personal data revealing racial or ethnic origin may present a high risk to employees and so, in most cases, employers will be required to undertake a data protection impact assessment (DPIA) prior to the processing.  If a DPIA has already been undertaken as a part of a previous diversity monitoring project, some or all of the previous DPIA will likely be able to be re-used to assess the risk posed by ethnicity pay gap reporting. 

Transparency will also be key to any successful ethnicity pay gap reporting project.  Whilst, of course, employee privacy notices should be updated, meaningful employee communications should also be prepared to build employee trust in the project and improve participation rates. 

Reflecting and taking action on race and ethnicity in the workplace

The guidance says that employers reporting their ethnicity pay gaps should also consider a supporting narrative that includes:

• Explanations for each of the pay figures in the report.
• A summary of why the employer believes any pay disparities exist, based on close analysis of the data and broader factors – employers should avoid making definitive assertions about why pay gaps might exist without robust analysis as reasons for any pay gaps are likely to be complex and multi-dimensional.
• Wider workforce statistics, so the employer can provide a wider and more clear picture of why any pay differences exist.
• The efforts the organisation has already taken to understand and address any pay disparities.

The guidance also says that employers may want to consider publishing an action plan with clear, measurable targets that they commit to achieving within a chosen time frame. But the guidance warns against setting arbitrary or unrealistic targets for reducing gaps and says that employers should instead commit to addressing specific issues identified as likely causes of unfair pay gaps.

It’s important to emphasise that the issues facing women are not the same as those facing minority ethnic groups, so employers looking to bring about meaningful change can’t simply base their narratives and action plans on their gender pay gap report. To support employers with action plans, the government is launching a new Inclusion at Work panel which will develop and disseminate advice on evidence-based actions employers can take. The panel’s work will inform a new voluntary Inclusion Confident Scheme which employers will be able to sign up to.

After the introduction of gender pay gap reporting, we saw employers taking a greater interest in exploring positive action to address the challenges faced by women in the workplace and to boost the numbers of women being recruited and promoted into senior and high paid positions. Positive action to address the challenges faced by some ethnic groups may also become more popular. Alongside the wider Inclusive Britain progress report and the new guidance on ethnicity pay reporting, the government has also published new guidance on taking positive action which is intended to help employers navigate the complex legal framework – we will be writing a separate article on this guidance shortly.

The future for ethnicity pay gap reporting

In our experience, many employers are interested in exploring ethnicity pay gap reporting but are frequently starting from a point of insufficient data. There is often a lot of work to do to build up the response rate to calls for ethnicity information.  Companies might want to focus initially on encouraging people to share their data (and using the census categories) before embarking on pay gap reporting, otherwise measuring progress will be challenging if it risks being accounted for by a change in participation rate rather than any other action. 

It’s also important to consider the purpose of ethnicity pay gap reporting and that is likely to depend on where you are on your DE&I journey.  For example, you do not need pay gap reporting to tell you that you are underrepresented in senior positions or to review the demographics of the people who apply for senior roles relative to the workforce in your area.  If that is your most pressing challenge, then considering how to address that and publishing an action plan with key steps and targets may be more effective than pay gap reporting.  It may also be that parts of the pay gap reporting regime are more helpful than others initially (e.g. the bonus gap or proportions of each ethnic group within your pay quartiles). Since the regime is not mandatory, it would be possible to take an incremental approach to adoption (with an explanation of why you are doing so).

Having said that, for large companies at the mature end of their DE&I journey with good data participation and statistically meaningful numbers of employees in each ethnic group, pay gap reporting will provide a valuable tool and it is likely to be a catalyst for change.  And all employers will need to be keeping a close eye on this topic, given the ongoing calls for legislation. In response to the publication of this guidance and the wider Inclusive Britain progress report, Labour repeated its commitment to make ethnicity pay gap reporting mandatory for employers with 250 or more employees if it forms the government after next year’s general election.