Rent Paid to Related Parties

There's one final lesson we want to draw out of the ASBCA (Armed Board Services Board of Contract Appeals) decision that we've been discussing this week, ASBCA No. 57795, Thomas Associates, Inc. Thomas had included expressly unallowable costs in its 2004 incurred cost proposal. The auditor discovered the costs during the audit and the contracting officer levied a penalty. Thomas lost its appeal of the contracting officer penalty determination.

One of the expressly unallowable costs included in Thomas's incurred cost submission was facility rent paid to a related party; Thomas's president, Ms Thomas. To support the reasonableness of those rental payments, Thomas provided rental information on comparable properties in the area which, unsurprisingly, were higher than what Tomas was paying.

The problem here for Thomas was that FAR 31.205-36, Rental Costs, limits allowable costs to actual cost of ownership for related party transactions. The pertinent section of FAR 31.205-36 reads::

(3) Charges in the nature of rent for property between any divisions, subsidiaries, or organizations under common control, to the extent that they do not exceed the normal costs of ownership, such as depreciation, taxes, insurance, facilities capital cost of money, and maintenance (excluding interest or other unallowable costs pursuant to Part 31), provided that no part of such costs shall duplicate any other allowed costs...

We frequently encounter similar situations where small businesses (and some not-so-small businesses) lease facilities from related parties. It is surprising the number of times that these businesses have the mistaken notion that they can claim "market rates" for rental payments.

One final note, "normal costs of ownership" by definition includes facilities capital costs of facilities (FCCM). When tallying the normal cost of ownership, many contractors fail to include FCCM. As we've discussed here on this blog, FCCM, in many cases, can be significant, especially when real property is involved.