What is Paid Time Off?

ByEric Czerwonka Last Updated
what is paid time off

Paid Time Off (often abbreviated to PTO) refers to the time an employer grants to an employee for that team member to spend outside of the office, while still receiving compensation. While certain aspects to PTO are state or industry mandated, there is plenty of wiggle room for business owners to make their own adjustments based on what’s right for their workplace.

Therein lies the power of understanding everything that goes into a paid time off policy. It’s key to ensure that your business operations run smoothly year-round, and for team members establishing a work-life balance that enables them to be as productive as possible. Otherwise, you’re looking at higher turnover rates and difficulties with recruiting top tier talent.

As part of Buddy Punch’s ongoing efforts to equip managers and business owners with all the tools they need to run a business smoothly, we’ve created this one-stop guide to all things related to answering that question, “what is paid time off?”

Table of Contents

What is a Paid Time Off Policy, and How Does it Work?

If Paid Time Off is the time an employer grants an employee for leave, a Paid Time Off Policy is a contractual agreement between manager and employee that details the number of days a part-time or full-time employee will be granted, and in what instances. Employees typically agree to PTO policies as they are outlined in either the employment contract or handbook.

This results in personal leave, vacation time, and sick leave being established between you and your employees, leaving it up to them to decide how they spend their personal days going forward.

That said – it’s important to note that the Fair Labor Standards Act (FLSA) does not require payment for vacation days. The matter is entirely between you as an employer and your employees.

So why do so many companies bother providing PTO at all?

Because a high–quality Paid Time Off Policy is how you stay competitive when it comes to attracting talent.

From sick time, to marriage, bereavement leave, vacation time, or even a purely personal leave of absences, the ability for an employee to take time away from their job is, ironically, a critical component to keeping high quality members around and happy.

How PTO Works

How PTO Works

While employers have complete freedom when it comes to how they handle paid leave days, the three most common types of PTO tend to be Accrual, Lump Sum, and Unlimited.

Lump Sum PTO

With Lump Sum PTO Policies (Annual Allotment), employees are given a set number of vacation days per year. This is usually received on a certain date, such as January 1st (the start of a calendar year), the start of a fiscal year, or on the 1-year anniversary of their joining the company.

Days from the previous year will either expire with the arrival of a new lump sum, or rollover and continue building up. Lump Sum PTO banks tend to be easier for Payroll departments to manage, since it’s built around set dates.

Accrual PTO

With accrued PTO, rather than receiving a lump sum of days to be used or rolled over, employees build up PTO days over time, usually on a weekly, monthly, or quarterly basis.

It’s important to note that with accrued paid time off, there’s usually no rollover policy for unused vacation days. Instead, you can expect there to be a limit on the maximum amount of days that can be spent at once. Employee leaves are also staggered to prevent understaffing.

Even with an established accrual rate, calculating the amount of time off each employee has can be challenging for HR and Payroll departments.

Unlimited PTO

The third most common method is implementing a completely unlimited PTO policy. This is the most trust-focused method of handling PTO, and operates with the understanding that your employees will not abuse the system and will remain productive.

That said, advanced notices are going to be key to prevent HR departments from suddenly finding themselves missing key members of their staff at critical moments.

The Most Common Types of Paid Time Off

Below, we’ll do a quick rundown of the most common reasons that you’ll find employees needing to take days off work.

1. Vacation Days

Simple enough, you’ll want to give employees time to travel, relax with their friends and family members, and take a break from work.

Note: If you’re wondering “what is paid time off vs. vacation time off?” Paid Time Off includes all of the following instances on this list, plus more. Meanwhile, vacation time is just one type of paid time off. It’s like how a bagel is a grain, but not all grains are bagels.

All vacations are PTO, but not all PTO is vacation time.

2. Sick Leave

This has become increasingly relevant since the COVID pandemic, but you don’t want employees spreading sickness at the workplace, especially considering an ill employee is going to be a lot less productive. Let your employees take time away from the workplace to recover, especially since that’ll result in them getting better quicker.

3. Personal Time

No questions asked, taken at the employee’s discretion. Usually used for things such as moving, family emergencies, or stress.

4. Holidays

Holiday pay goes to days like Thanksgiving Day, Christmas Day, Martin Luther King Jr. day, and any other days you choose (the federal holiday calendar makes an excellent guide).

5. Bereavement

Paid bereavement leave is time an employee can spend to cope with the loss of a family member or friend. Some businesses vary the amount of time depending on the relationship a team member has with the deceased, and may ask for proof such as an obituary or a funeral program. Be aware that such measures might be viewed unfavorably.

6. Parental Leave

Paid Parental Leave is time away from work to be used on maternal leave, paternity leave, or adoption. Be aware of federal laws here – for example, the Family Medical Leave Act (FMLA) requires eligible employees be granted 12 weeks of unpaid, job-protected leave each year, though there are restrictions.

7. Jury Duty

This allows your employees to complete compulsory jury duty service. If your state has jury duty pay laws, you must obey them. You can require the jury duty summons later as proof before offering compensation.

8. Voting Time

Paid voting time is time employees can use to vote in local or national elections. This is normally limited.

9. Military Leave

Military Leave under USERRA provides job protections thanks to federal law. This allows employees to fulfill any and all military obligations.

10. Community Service

This paid time off gives your team members an opportunity to participate in community building programs, or to help out in non-profit volunteer efforts.

Is Paid Time Off Actually Paid?

This will depend on a state-by-state basis. Some states require that accrued PTO be paid out, while others let companies issue their own policies. This is why it’s critical for you to look into your state paid time off laws before you take on creating a PTO policy.

California, for example, not only requires that all PTO be paid out – it requires it to be paid out at the employee’s current rate of pay. Many states consider PTO to be a part of an employee’s “final wages,” to be received upon termination of employment.

Leave Policy

Understanding the Benefits of A Leave Policy

So far, we’ve touched on the types of paid leave, and the most common types of PTO company policies. Now, let’s dive into why handling PTO hours is so important.

One of the most important paid time off benefits is that it actually increases the productivity of your workers. Employees are not machines. They get stressed out, loved ones go through critical events and need taking care of, and their mental health is constantly in flux. Without opportunities to take time off and address what’s weighing on them, their work will suffer. We’ve talked before about how employee attitudes can negatively impact your team. If you value productivity, you have to be willing to give your employees time to recharge.

Another important aspect of constructing your leave policy is how it will affect the caliber of talent your workplace is able to attract. PTO comes up often in job interviews, and some employees are willing to even negotiate lower pay rates if it means more control over their time off.

Specific concerns will vary from employee to employee; some will calculate the number of hours they would have to work versus the amount of days they can get to themselves, while others might be willing to commit to years of service if they know they’re going to keep accruing unused PTO thanks to how you handle rollover.

All this said, we’re going to go against the grain and advise you not to overthink this.

While you might naturally focus on trying to attract as many high quality employees as possible, you need to instead think about what’s going to be best for your ideal workforce. Specifically, the workplace culture you want to foster is going to inform which approach to paid sick leave is “best” for your company (and don’t forget to consider state laws).

Understanding the pros and cons of different leave policies, and seeing how they are viewed from the lens of prospective team members, will illuminate how they inform your work culture.

The Pros and Cons of Different Leave Policies

Lump Sum PTO

Pros: Extremely simple to manage since the days are allotted and reset on set days throughout the year. By far the most communicative option you can choose, since everyone is on the same page from the start.

Cons: Employees will feel pressured to make the most of their days if they don’t rollover, which could lead to staff shortages if multiple team members do this before the end of a period. Also, some employees might make use of their full PTO sooner than you’d expect, only to quit or accept another job offer.

General Perceptions: This used to be a far more popular method of calculating employee leave, but accrual PTO has overtaken it.

How to make it work: Methods to make this work to your advantage include picking a set time for the lump sum to be received (start of the calendar year is a good one) and making hiring decisions with that in mind, so you never feel taken advantage of even if an employee waits to use all of the days at once, then leaves.

You can also set up a milestone goal that, when reached, will boost the amount of PTO days an employee has to use. For example, after 3 years at your company, you might offer them an extra 3 days of PTO – from 10 to 13 or so. Alternatively you can offer more days as compensation or for a promotion.

Accrual PTO

Pros: Employees don’t have to worry about their PTO accrual being wasted, since the days accumulate over time with no rollover or reset.

Cons: It can be difficult to manage the building PTO hours, especially since you’ll have to factor in changing wages.

General Perceptions: Accrual PTO is one of the most common PTO types. According to the SHRM (Society for Human Resource Management), PTO Accrual by pay period is the most common accrual rate. Specifically, employees start accruing on their date of hire, but have to wait a year to access all of the days accrued. So, prospective employees will be quite used to this system if you adopt it.

How to make it work: Accrual PTO allows you to give less paid days off at the time of onboarding, with a built-in method of gaining more days overtime (depending on if it’s a part-time employee or full-time one, as well as how long they stay at the company).

After the first year of employment, you’re going to want to offer accrual PTO at a rate that 1. feels fair to employees 2. doesn’t feel like it could get overwhelming if you allow it to build up year after year. You might also benefit from allowing employees a few unpaid days off as long as you’re given advanced notice.

Unlimited PTO

Pros: You eliminate the guesswork on what will make an employee happy by leaving it up to them to make the most of their PTO.

Cons: There’s a good chance an employee might take advantage of your open policy. Even a team member you come to trust might end up abusing your system after a time.

General Perceptions: It may come off a little surprising, but employees sometimes don’t know how to handle unlimited PTO. They have issues determining what’s too much, and what’s too little to use. Consider what happens at Netflix, one of the biggest companies making use of unlimited PTO. They’ve developed a hyper-competitive culture where taking time off is viewed as “weakness,” which feeds into burnout.

How to make it work: The top brass has to make use of the unlimited PTO. There’s no way around it – you need to lead by example to show employees that yes, they actually can take time away from the job to look after their own health care. Furthermore, even you and your managers need to be comfortable giving yourselves a break from operations.

Beyond this, you can also provide employees with median numbers of PTO based on data (or your ideal). Just make sure you don’t fall into the trap of thinking that less time taken off = more productive employees. You don’t want to lose your top talent to burnout and guilt of all things – not when it’s so avoidable.

Paid Time Off: A Look at the Data

Online compliance advisory firm XpertHR held a Paid Leave Survey in 2021 to investigate the stats. The most common leave plans were:

  • Traditional Paid Leave Plans (Accrual, Lump Sum) which made up 51% of the company policies of responding employers, which was up from 49% in 2020.
  • PTO Bank plans (in which all leave is combined together) made up 41% of leave plans, which was down from 44% in 2020.
  • And Unlimited Paid leave plans, making up only 4% in 2021 – the first year they were tracked.

Unlimited Paid Leave has received a lot of buzz in recent times, probably attributable to the pandemic, but it would seem the numbers just aren’t there to make a call on how effective it is.

Now, for a look at the employee side of things, let’s look into the QuickBooks Time 2019 Paid Time Off report:

  • A little over half of surveyed employees (54%) with paid time off took a mental health day.
  • 1 in 5 employees with paid time off admitted to misleading their manager about the reason they took. Some did it to catch up on sleep, while others did it for their mental health. This is a good example of how employees can feel guilty about being physically or mentally unable to focus on work.
  • Another warning flag – 84% of respondents admitted to going into work while sick, with 13% saying they did so for a week or more each year. Of these, 33% say their employer creates a culture of working while sick. Sounds like a great way to infect your workforce and lose productivity overtime.
day off

Questions to Ask Yourself Before Forming a PTO Policy

We’ve outlined what a PTO policy is, what common forms of PTO policies are, and what some of their pros and cons are. We’ve delved into the data to see how this is reflected on the employers’ side and the employees’ side. Now, time to get to the heart of the matter.

How can you decide which PTO policy will work for your business?

Ask yourself:

  • What sort of workplace culture do you want to cultivate? Do you want the company to be filled with hard-workers, who are constantly on the clock… to the point where they even come in sick and infect the rest of the team?
  • How much control do you want to exercise over when and how your employees take personal breaks?
  • Do you mind if employees build up a bank of paid days they can take off? What if it builds up and then resets at the end of a year? Or if it rolls over? Are you comfortable with employees being rewarded the longer they stay with your company?
  • How much work do you want to put on your HR department when it comes to tracking each employee’s time off? Can your business afford the overhead costs? Note: PTO Tracking software can be incredibly helpful in this regard.
  • What are your states’ laws on PTO?

Your answer to these questions will help inform what’s the best PTO Policy for your business.

That in mind – we have noticed that most employers that look hard at paid time off are usually more concerned with productivity and engagement. At its core, this is not really about adjusting a handful of days your employees get to take to themselves.

If you want to have a growing, profitable business – you need to look into other factors of your company culture. For example, employee time clocks are pretty much made to keep workers on-target. That’s what Buddy Punch was made for.

Maximize Employee Engagement with Time Tracking Software

Like we said, you can make any manner of PTO policy work as long as you build your business around the company culture you desire. PTO concerns tend to be more about maximizing engagement, which goes far beyond whether or not employees take a few days off.

If you want to make sure that employees are making the most of their time on the job, we highly recommend using time tracking software. Beyond making it easy to keep track of employee clock ins and outs, this type of software tends to have a psychological effect of making a worker more conscious of how they spend their time on the clock.

With software like Buddy Punch, you also get scalable features like GPS tracking, Job Codes, Notifications, and more. Best of all, Buddy Punch comes equipped with PTO tracking and unpaid/paid time features, so you can exercise greater control over your employees’ time.

Try Buddy Punch for Free  

Don’t just take our word for it, watch our pre-recorded demo video or book a one-on-one demo to get a rundown on the software. Otherwise, once you’ve assembled a workforce, you can go ahead and try out Buddy Punch for 14 days free, as every plan comes with a built-in free trial.

Otherwise, we hope we’ve armed you with enough knowledge to form a PTO policy (and, more importantly, a company culture) that keeps your workforce engaged and happy.


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