Final Indirect Cost Rate Proposals: Auditor Focus Areas, Trends and Best Practices

Transcription

1 Final Indirect Cost Rate Proposals: Auditor Focus Areas, Trends and Best Practices Steven M. Masiello K. Tyler Thomas February 14, 2017

2 Agenda Regulatory Requirements DCAA Audit Environment Recent Developments Statute of limitations (SOL) issues Reprise: Subcontractor costs Insufficiency of government disallowance claims Audit Scrutiny: Areas of Special DCAA Focus Commercial items price transfers between affiliates Travel costs Hazard pay Incentive bonuses Best Practices for Final Indirect Cost Rate Proposal Submissions and Facilitating the Audit Process 2

3 Regulatory Requirements FAR Allowable Cost and Payment Permits billing of indirect costs based on provisional rates Requires submission of final indirect cost pools and allocation bases in accordance with FAR Subpt Final Indirect Cost Rate Proposals (FICRPs) must include: Summary of indirect expense rates, including pools, bases and calculated indirect rates General and administrative expenses Overhead expenses Occupancy expenses Claimed allocation bases, by element of cost, used to distribute indirect costs Facilities capital cost of money factors computation 3

4 Regulatory Requirements (Cont.) FAR Subpt Sets forth procedures for audits of FICRPs and negotiation of final rates Provides penalties for inclusion of expressly unallowable costs FAR Audits and Records Negotiations Contractors must maintain records sufficient to reflect properly all costs claimed to have been incurred or anticipated to be incurred directly or indirectly in performance of this contract Records must be retained and available for audit for three years after final payment under the contract or for any shorter period specified in Subpt. 4.7 FAR Subpt. 4.7 Provides additional record retention requirements Requirements measured according to specifications for fiscal year to which records relate 4

5 DCAA s Interpretation of Regulatory Requirements FICRPs checklist Generally tracks the FAR requirements Provides detail concerning DCAA s expectations for categories of information identified in FAR DCAA MRD 16-PPS-003(R) (Feb. 3, 2016): updated independent reference review (IRR) checklist and procedures ICE (Incurred Cost Electronically) Models DCAA designed spreadsheets to provide contractors with a standard FICRP format There is no legal requirement to use ICE models Failure to use the ICE model may result in a determination of inadequacy When not using the ICE model, contractors must demonstrate that its format is responsive and complete 5

6 DCAA Cost Audit Manual Reorganization In September 2016 DCAA revised and reorganized its Contract Audit Manual Added a separate Selected Area of Costs Guidebook to address FAR cost principles Contains 75 Chapters (compared to the 46 substantive cost principles in the FAR) Replaces Chapter 7 of DCAA Contract Audit Manual Not completed - the following Chapters are still "under construction" Chapter 3 - Bad Debts Chapter 6 - Bonding Costs Chapter 10 - Compensation for Personal Services Chapter 12 - Contingencies Chapter 14 - Contract Termination Costs Chapter 15 - Contributions or Donations Chapter 18 - Cost of Money Chapter 22 - Economic Planning Costs Chapter 25 - Entertainment Costs Chapter 27 - Fines, Penalties & Mischarging Costs Chapter 28 - Gains and Losses on Disposition or Impairment of Property or Other Capital Assets Chapter 29 - General Services Administration Schedule Contracts Chapter 30 - Goodwill Chapter 35 - Interest and Other Financial Costs Chapter 38 - Labor Relations Costs Chapter 43 - Losses on Other Contracts Chapter 46 - Material Costs Chapter 50 - Organization Costs Chapter 51 - Other Business Expenses Chapter 55 - Plan Reconversion Costs Chapter 56 - Post Retirement Benefits Chapter 57 - Pre-contract Costs Chapter 60 - Recruitment Costs Chapter 67 - Special Tooling and Special Test Equipment 6

7 DCAA Audit Environment DCAA is only 18 months behind on its cost audits and can now begin assisting non-dod agencies with audits (MRD No. 16-PPD-008(R) Sept. 30, 2016)) DCAA focus continues to be on FICRPs and CAS compliance audits DCAA audits are not admissions on behalf of the government BAE Sys. S.F. Ship Repair, ASBCA No , 16-1 BCA 36,266 Government ordered a change near the end of performance and DCAA s audit did not question any of the claimed costs for this change [T]he DCAA audit does not constitute an admission on the part of the government but is only one piece of evidence in determining damages Tech. Sys., Inc., ASBCA No , 2017 WL (Jan. 12, 2017) Government's failure to challenge costs in prior audits does not bar the government from challenging such costs in the future, instead such a waiver requires an unequivocal statement from the government regarding allowability 7

8 Recent Developments: DCAA Audit Issues SOL Contracting Officer ("CO") must assert claim through final decision within six years of claim accrual (41 U.S.C. 7103) Claim accrual is the date when the government knew or should have known of a claim (FAR ) Previously, the standard was government knowledge (actual or constructive) CO knowledge not required (Raytheon Missile Sys., ASBCA No , 13 BCA 35,241) DCAA knowledge is government knowledge (id.) Submission of FICRPs to DCAA (not DCAA audit) triggers CDA SOL (Raytheon Co., ASBCA No , 13 BCA 35,209) 8

9 Recent Developments (cont.) Standard sliding toward actual knowledge requirement Coherent Logix, Inc., ASBCA Nos , et al., 15-1 BCA 35,947 Contractor submitted indirect cost rate proposals including unallowable patent costs Government did not audit or discover patent costs for more than six years Nevertheless, the government claimed it had no reason to anticipate that unallowable costs were included in the proposal and it requested further support; the Board held that its claims were not barred by the SOL Alion Sci. & Tech. Corp., ASBCA No , 15-1 BCA 36,168 Similar facts: government claimed it did not have enough information in the indirect cost rate proposal and the Board agreed; SOL had not accrued 9

10 Recent Developments (cont.) Direct Costs; SOL Course Correction? Sparton Deleon Springs, LLC, ASBCA No , 2016 WL (Dec. 28, 2016) Government questioned intra-company costs, after final indirect cost rate agreements were executed, claiming there was no proof the costs, previously paid by the government via interim vouchers, were billed or paid in connection with any government contract Government knew or should have known of the costs when it paid such costs pursuant to interim vouchers Delay of the government in auditing the paid interim vouchers did not suspend the accrual of the claim SOL "claim accrual" authority remains convoluted with uncertain boundaries 10

11 Recent Developments (cont.) Subcontractor Costs; Lockheed Martin Integrated Sys., Inc., ASBCA, Nos , 59509, 2016 WL (Dec. 20, 2016) DCAA questioned a range of claimed subcontractor costs, claiming those costs had not been backed by appropriate documentation No duty under FAR Parts 42 or 44 for a prime contractor to cause its subcontractors to submit FICRPs directly to the prime contractor for audit and affirmatively request audits from DCAA if the subcontractors refuse Duty is reserved to DCAA and other cognizant audit agencies by FAR

12 Recent Developments (cont.) Insufficiency of government disallowance claims LMIS decision (previous slide): Board held the government failed to state a claim for breach of contract because the allegations were conclusory, were based upon terms not contained in the contracts, and were based upon the improper interpretation of FAR clauses Exelis, Inc., ASBCA No , 16-1 B.C.A Contractor classified a building lease as an operating lease Government claimed it should have been classified as a capital lease and alleged the contractor's classification was noncompliant with CAS 404 Board held the government failed to state a claim that the contractor was noncompliant with CAS 404 because CAS 404, by its plain language, applies only to tangible capital assets and leases are intangible assets 12

13 Recent Developments (cont.) DCAA/DCMA Use of Decrements DCAA/DCMA continue to apply decrements to recover alleged unsupported or unallowable costs Decrements appear loosely based upon sampling results or previous audit findings Indirect costs; sampling issues Problems with sampling methodology Costs included in universe sampled do not share similar characteristics Sampled items generate inappropriate error rates based upon judgmental application of criteria 13

14 Audit Scrutiny: Expressly Unallowable Costs DCAA emphasis on contractor inclusion of expressly unallowable costs Contractors may be subject to penalties for including expressly unallowable costs in FICRPs (see FAR ) Raytheon Co., ASBCA No , 15-1 BCA 36,043 Bonus and incentive compensation for employees participating in expressly unallowable activities are expressly unallowable under FAR Directly contrary to recent DCAA audit alerts DCAA Memorandum for Regional Directors, Audit Alert on Identifying Expressly Unallowable Costs (14-PAC-022(R)) (Jan. 7, 2015) Board states standard but applies legal interpretation of regulations to find the costs were expressly unallowable without regard for whether the contractor's inclusion of the costs as allowable was not reasonable under any circumstance 14

15 Audit Scrutiny: Incentive Bonuses FAR (f): Incentive Bonuses are allowable when - Paid or accrued under an agreement or plan created prior to the rendering of the services; and Basis of the award is supported DCAA focusing on whether executives are incentivized to control costs Historically, DCAA questioned whether the basis of the award was supported Recently, DCAA has shifted to questioning whether such costs are reasonable Assertion that a prudent business person conducting a competitive business would incentivize officers to control costs Effect: DCAA is questioning costs in audits in an attempt to require an affirmative showing of allowability of incentive bonuses 15

16 Audit Scrutiny: Hazard Pay DCAA focusing on hazard pay uplifts Questioning amounts in excess of Department of State danger pay allowance rates Rate for Afghanistan: 35% Issues: No cost principle Regulated by reasonableness evaluation In general, contractor employees are not afforded the same protections as Department of State employees Inconsistent with criteria in DCAA Selected Area of Costs Guidebook 16

17 Audit Scrutiny: Commercial Item Transfers Transfers of Commercial Items Between Affiliates FAR (e) - Material Costs Materials sold or transferred between affiliates generally must be transferred on the basis of costs May be transferred on the basis of price when: It is the established practice of the transferring organization to price interorganizational transfers at other than cost for commercial work of the contractor; and The item qualifies for exemption under (b) and the CO has not determined the price to be unreasonable Permits the transfer of a commercial items between affiliates at price 17

18 Audit Scrutiny: Commercial Item Transfers Auditors question commercial item transfers between affiliates measured at price unless the CO has made an affirmative determination that the item is a commercial item and the price is reasonable Issues Rule does not require CO affirmation that the item is a commercial item Hesitancy of COs in making commercial item determinations ("CID") Continues the difficulty contractors face related to commercial item acquisitions 18

19 Audit Scrutiny: Commercial Item Transfers DoD proposed rule requires contracting officers to conduct market research in order to make price reasonableness determinations (81 Fed. Reg. 53,101 (Aug. 2016)) Market research shall be used to inform price reasonableness determinations Market research is defined as "review of existing systems, subsystems, capabilities, and technologies that are available or could be made available to meet the needs of DoD in whole or in part" Supplies and services provided by nontraditional defense contractors may be treated as commercial items if intended to enhance defense innovation and create incentives for cutting-edge firms to do business with DoD COs may still request "information that is sufficient to determine the reasonableness of price" 19

20 Audit Scrutiny: Commercial Item Transfers FY 2016 NDAA Secretary of Defense required to: Establish and maintain a centralized capability with the necessary expertise and resources to oversee the making of CIDs for the purpose of procurements by DoD Provide public access to DoD CIDs Establish presumption that prior CIDs are sufficient for subsequent procurements Ensure that CO decisions to disregard prior CIDs be reviewed by the head of the applicable contracting agency Provide report to Congress containing all DoD specific requirements applicable to commercial item procurements, with explanations and justifications 20

21 Audit Scrutiny: Commercial Item Transfers DCMA has established its Commercial Item Centers of Excellence COs should adopt the practice of recognizing prior CIDs If a CO believes a prior CID was without foundation, or was made in error, they should engage both their chain of command and the DCMA Commercial Item Center of Excellence before making a determination that deviates from prior decisions The Director of Defense Pricing and the DCMA s Cost & Pricing Center Director are supposed to work with interested companies to define, through the use of advance agreements, the types of information needed to support CIDs Thus far, lack of timely action by DCMA to make CIDs In fact, DCMA appears hesitant to make CIDs Creates issues for allowability of commercial item material transfers between affiliates at price based upon DCAA's current stance May result in DCAA recommending decrements 21

22 Audit Scrutiny: Fly America Act Compliance with Travel Cost Regulations Directly addressed by: FAR , Travel Costs FAR 47.4, Fly America Act Implicate: General rules on allowability FAR , Entertainment Costs FAR , Recruitment Costs FAR , Relocation Costs FAR , Trade, Business, Technical and Professional Activity Costs FAR , Alcohol Costs 22

23 Audit Scrutiny: Fly America Act Basics FAR Part 47.4 implements the Fly America Act Requires FAR be inserted into contracts where government-financed international air travel is possible Requires U.S. Government-financed international air travel be provided by U.S.-flag carrier, if available Contractors required to use U.S.-flag carrier if available, even though a foreign carrier may offer lower fares or more convenient travel If an origin or interchange point is not served by a U.S.-flag air carrier, foreign-flag air carrier service shall be used only to the nearest interchange point Only applies to direct contract travel Exceptions Air Transportation Agreements - may use a foreign-flag carrier that provides transportation under an air transportation agreement with the U.S. Code-sharing - foreign carriers operating under a code sharing arrangement with a U.S. flag carrier are treated as U.S. carriers Disallowance of expenditures Must attach memorandum adequately explaining why U.S.-flag carrier service was not available or why it was necessary to use a foreign-flag carrier Focus on which airline within code-sharing arrangement the flight was booked 23

24 Best Practices for FICRPs Documentation, Collection and Submission Use advanced agreements where possible Document and archive the source of foundational general ledger data Development and Submission of FICRPs Start with a clean model Use the FICRP adequacy checklist as a guide Follow your disclosed or established cost accounting practices Integrate your model schedules through linking Strategically plan your analysis to scrub unallowable costs and use auditable methods of cost segregation Use explanatory notes Create a support binder Keep an exact copy of what is provided to the government Protect your proprietary data Document and archive additional information provided 24

25 Best Practices for Facilitating the Audit Process During an audit If an initiating conference is not scheduled, request one prior to providing data Establish a single point of contact to ensure consistency in communication with the auditors Keep auditors apprised of contractor progress Ensure that all requests are received in writing and appropriately justified Establish the timeline needed to satisfy requests Keep track of everything provided to the government in support of an audit After an audit If a closing conference is not scheduled, request one Determine whether or not to reply to auditor findings communicated in the closing conference or in the draft audit report Request a copy of the audit report from your CO/ACO 25

26 Thank you Dentons US LLP 1400 Wewatta Street Suite 700 Denver, CO United States McKenna Government Contracts, Continuing Excellence at Dentons Dentons is a global law firm driven to provide a competitive edge in an increasingly complex and interconnected world. A top 20 firm on the Acritas 2014 Global Elite Brand Index, Dentons is committed to challenging the status quo in delivering consistent and uncompromising quality in new and inventive ways. Dentons' clients now benefit from 3,000 lawyers and professionals in more than 80 locations spanning 50-plus countries. With a legacy of legal experience that dates back to 1742 and builds on the strengths of our foundational firms Salans, Fraser Milner Casgrain (FMC), SNR Denton and McKenna Long & Aldridge the Firm serves the local, regional and global needs of private and public clients Dentons. Dentons is a global legal practice providing client services worldwide through its member firms and affiliates. This publication is not designed to provide legal advice and you should not take, or refrain from taking, action based on its content. Please see dentons.com for Legal Notices.