Friday, October 28, 2011

Allowability of Incurred Costs due to Contractor Errors

The Department of Energy (DoE) issued a new Acquisition Letter (No. AL-2012-03) this week concerning the allowability of incurred costs due to contractor errors. Acquisition Letters (ALs) from DoE are issued to provide specific guidance for implementing FAR and DEAR (the DoE FAR Supplement). AL's from DoE function similar to PPGs (Policies, Procedures, and Guidance) issued by the Department of Defense. 

This particular AL provides guidance to DoE contracting officers who need to make decisions on the allowability of costs charged to Government contracts. It first distinguishes between explicitly unallowable costs as defined in the FAR Part 31.205 and costs that are not explicitly unallowable but may not necessarily be reasonable. Determining whether costs are reasonable requires contractors and contracting officer to exercise judgment. According to the AL, contractor “errors” could fall into the “reasonableness” arena.

The example given in the AL is a situation where a contractor employee rents a car and inadvertently, but contrary to company policy, failed to decline the optional insurance. The cost of the extra insurance would be an allowable cost according to DoE.

The AL also distinguishes between “errors” that happen infrequently and those that happen all the time. If these kinds of errors happen frequently, the cost is no longer reasonable because it is obvious that the contractor does not have an adequate system of internal controls to prevent their occurrence. The AL states:
 If it were possible for a contractor to operate a zero error financial system at no cost, no incurred cost due to error would be allowable because it would be unreasonable. Since this is not possible, the cost-reimbursement contractor and the government must make prudent business judgments about the benefit versus cost of the contractor's financial system. It would not generally be prudent, for example, to spend $100,000 to save $10 in cost.

We believe this is a good policy. It should preclude some of the endless discussions between contractors and auditors/contracting officers about whether certain relatively immaterial costs can be claimed on Government contracts. Although not applicable to other Governmental agencies, it might nevertheless be useful to drag it out to buoy your position, if you find yourself in this situation.

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