That is what I thought, however, it appears as though no auto reply is sent to users who email you. I've tested this myself and it doesn't appear to work or me either.

When looking at the managesieve entry in dovecot.log, it shows that it is disconnecting:
Jul 10 08:50:56 managesieve(email@address.com): Info: Disconnected: Logged out bytes=44/370

Although that is not the case, or shouldn't be I believe.

Jul 11 11:22:58 imap: Debug: Added userdb setting: plugin/master_user=email@address.com
Jul 11 11:22:58 imap(email@address.com): Debug: Effective uid=2000, gid=2000, home=/var/vmail/vmail1/address/n/e/i/neil-2013.06.04.08.19.50/
Jul 11 11:22:58 imap(email@address.com): Debug: Quota root: name=user backend=dict args=:proxy::quotadict
Jul 11 11:22:58 imap(email@address.com): Debug: Quota rule: root=user mailbox=* bytes=2147483648 messages=0
Jul 11 11:22:58 imap(email@address.com): Debug: Quota warning: bytes=1825361100 (85%) messages=0 reverse=no command=quota-warning 85 email@address.com
Jul 11 11:22:58 imap(email@address.com): Debug: Quota warning: bytes=1932735283 (90%) messages=0 reverse=no command=quota-warning 90 email@address.com
Jul 11 11:22:58 imap(email@address.com): Debug: Quota warning: bytes=2040109465 (95%) messages=0 reverse=no command=quota-warning 95 email@address.com
Jul 11 11:22:58 imap(email@address.com): Debug: dict quota: user=email@address.com, uri=proxy::quotadict, noenforcing=0
Jul 11 11:22:58 imap(email@address.com): Debug: Namespace : type=private, prefix=, sep=/, inbox=yes, hidden=no, list=yes, subscriptions=yes location=maildir://var/vmail/vmail1/address/n/e/i/neil-2013.06.04.08.19.50//Maildir/:INDEX=//var/vmail/vmail1/address/n/e/i/neil-2013.06.04.08.19.50//Maildir/
Jul 11 11:22:58 imap(email@address.com): Debug: maildir++: root=//var/vmail/vmail1/address/n/e/i/neil-2013.06.04.08.19.50//Maildir, index=, control=, inbox=//var/vmail/vmail1/address/n/e/i/neil-2013.06.04.08.19.50//Maildir, alt=
Jul 11 11:22:58 imap(email@address.com): Debug: Namespace : type=shared, prefix=Shared/%u/, sep=/, inbox=no, hidden=no, list=children, subscriptions=yes location=maildir:/%Lh/Maildir/:INDEX=/%Lh/Maildir/Shared/%u
Jul 11 11:22:58 imap(email@address.com): Debug: shared: root=/var/run/dovecot, index=, control=, inbox=, alt=
Jul 11 11:22:58 imap(email@address.com): Debug: Namespace : Using permissions from //var/vmail/vmail1/address/n/e/i/neil-2013.06.04.08.19.50//Maildir: mode=0700 gid=-1
Jul 11 11:22:59 imap(email@address.com): Error: open(//var/vmail/vmail1/address/n/e/i/neil-2013.06.04.08.19.50//Maildir/cur/1368217606.M256009P28467.mail1.address.local,S=2652338,W=2688693:2,S) failed: Permission denied (euid=2000(vmail) egid=2000(vmail) missing +r perm: //var/vmail/vmail1/address/n/e/i/neil-2013.06.04.08.19.50//Maildir/cur/1368217606.M256009P28467.mail1.address.local,S=2652338,W=2688693:2,S, UNIX perms appear ok (ACL/MAC wrong?))
Jul 11 11:22:59 imap(email@address.com): Info: Disconnected: Internal error occurred. Refer to server log for more information. [2013-07-11 11:22:59] bytes=349/83386

It appears that the permissions were wrong. We gave 700  vmail:vmail to directories.

What would recommend? 704? Since it appears that it only requires read perms?

Looks like just this file has incorrect file permission? "missing +r perm", not readable by vmail user?

Folder /var/vmail/ should be set to '0700', owned by vmail:vmail. All sub-folders should has the same permission and ownership.

Please create a new account, turn on debug mode in Dovecot, then send a testing email, check all related log in Dovecot log files. Paste here if you're not sure what the problem is.

Could you please show us full content of this file (/var/vmail/vmail1/example.com/t/e/s/testing-2013.07.11.12.09.27//sieve/dovecot.sieve)? Just want to see whether we have correct vacation setting in it.

If you have correct vacation setting, Dovecot will send an auto-reply email to sender, the log in /var/log/sieve.log looks like this:

And Dovecot will create file /var/vmail/vmail1/example.com/t/e/s/testing-2013.07.11.12.09.27/.dovecot.lda-dupes to track how many times it sent vacation message to individual sender (controlled by ":days" parameter in vacation sieve script).

Your sieve rule looks just fine, no idea yet. Sorry.
Did you modify any Dovecot config files?

No log after you sent testing email? That's not expected.

No idea at all, it works for me out of box with default iRedMail setting.

Also, what version of dovecot are you using?

We're on 2.0.18 and have an update pending for the next one.

Sure, the output is as follows

# 2.0.18: /etc/dovecot/dovecot.conf
# OS: Linux 2.6.32-358.6.2.el6.x86_64 x86_64 CentOS release 6.4 (Final)
auth_master_user_separator = *
auth_mechanisms = PLAIN LOGIN
dict {
  acl = mysql:/etc/dovecot/dovecot-share-folder.conf
  expire = db:/var/lib/dovecot/expire/expire.db
  quotadict = mysql:/etc/dovecot/dovecot-used-quota.conf
}
first_valid_uid = 2000
last_valid_uid = 2000
listen = *
log_path = /var/log/dovecot.log
mail_debug = yes
mail_gid = 2000
mail_location = maildir:/%Lh/Maildir/:INDEX=/%Lh/Maildir/
mail_plugins = quota
mail_uid = 2000
managesieve_notify_capability = mailto
managesieve_sieve_capability = fileinto reject envelope encoded-character vacati                                                                                                                on subaddress comparator-i;ascii-numeric relational regex imap4flags copy includ                                                                                                                e variables body enotify environment mailbox date ihave
namespace {
  inbox = yes
  location =
  prefix =
  separator = /
  type = private
}
namespace {
  list = children
  location = maildir:/%%Lh/Maildir/:INDEX=/%%Lh/Maildir/Shared/%%u
  prefix = Shared/%%u/
  separator = /
  subscriptions = yes
  type = shared
}
passdb {
  args = /etc/dovecot/dovecot-mysql.conf
  driver = sql
}
passdb {
  args = /etc/dovecot/dovecot-master-users-password
  driver = passwd-file
  master = yes
}
plugin {
  acl = vfile
  acl_shared_dict = proxy::acl
  auth_socket_path = /var/run/dovecot/auth-master
  autocreate = INBOX
  autocreate2 = Sent
  autocreate3 = Trash
  autocreate4 = Drafts
  autocreate5 = Junk
  autosubscribe = INBOX
  autosubscribe2 = Sent
  autosubscribe3 = Trash
  autosubscribe4 = Drafts
  autosubscribe5 = Junk
  expire = Trash 7 Trash/* 7 Junk 30
  expire_dict = proxy::expire
  quota = dict:user::proxy::quotadict
  quota_rule = *:storage=1G
  quota_warning = storage=85%% quota-warning 85 %u
  quota_warning2 = storage=90%% quota-warning 90 %u
  quota_warning3 = storage=95%% quota-warning 95 %u
  sieve = /%Lh/sieve/dovecot.sieve
  sieve_dir = /%Lh/sieve
  sieve_global_dir = /var/vmail/sieve
  sieve_global_path = /var/vmail/sieve/dovecot.sieve
}
protocols = pop3 imap sieve
service auth {
  unix_listener /var/spool/postfix/dovecot-auth {
    group = postfix
    mode = 0666
    user = postfix
  }
  unix_listener auth-master {
    group = vmail
    mode = 0666
    user = vmail
  }
  unix_listener auth-userdb {
    group = vmail
    mode = 0660
    user = vmail
  }
}
service dict {
  unix_listener dict {
    group = vmail
    mode = 0660
    user = vmail
  }
}
service imap-login {
  process_limit = 500
  service_count = 1
}
service pop3-login {
  service_count = 1
}
service quota-warning {
  executable = script /usr/local/bin/dovecot-quota-warning.sh
  unix_listener quota-warning {
    group = vmail
    mode = 0660
    user = vmail
  }
}
ssl = required
ssl_cert = </etc/pki/tls/certs/wildcard_<domain>.pem
ssl_key = </etc/pki/tls/private/wildcard_<domain>.key
userdb {
  args = /etc/dovecot/dovecot-mysql.conf
  driver = sql
}
protocol lda {
  auth_socket_path = /var/run/dovecot/auth-master
  lda_mailbox_autocreate = yes
  log_path = /var/log/sieve.log
  mail_plugins = quota sieve autocreate
  postmaster_address = root
}
protocol imap {
  imap_client_workarounds = tb-extra-mailbox-sep
  mail_plugins = quota imap_quota autocreate
}
protocol pop3 {
  mail_plugins = quota
  pop3_client_workarounds = outlook-no-nuls oe-ns-eoh
  pop3_uidl_format = %08Xu%08Xv
}

It's just fine, don't care about this.

You have correct settings in Dovecot (sieve =, sieve_dir , vacation extension is supported in sieve, i have no idea yet.
Did you send testing email with Outlook/Thunderbird/Roundcube webmail or just a system command ("mail", for example)?

Vacation should be triggered this way. I have no idea at all, sorry.