Friday, January 17, 2014

Terminations for Convenience - Settlement Expenses

The Government can terminate a contract at any time. Government contracts contain one of the several "termination" clauses depending upon type of contract. For example fixed price contracts (non-commercial) include FAR 52.249-2, Termination for Convenience of the Government. Contractors have very little recourse when the Government terminates their contract other than ensuring that whatever was spent prior to the termination, is somehow reimbursed. We don't know of any cases where a contractor successfully lobbied a Government agency to withdraw their termination notice.

Once the termination notice is delivered, the contractor is obligated to cease work. Those costs become part of a contractor's settlement proposal. There's a second category of costs - cost continuing after termination. These are costs that can't be avoided such as a cancellation fee on an unexpired lease. Contractors have an affirmative duty to minimize or mitigate these costs. A third category of costs related to terminations are "settlement expenses".

The FAR coverage of settlement expenses is found in FAR 31.205-42(g). That section reads as follows:
1. Settlement expense, including the following, are generally allowable:
    (i) Accounting, legal, clerical, and similar costs reasonably necessary for
        (A) The preparation and presentation, including supporting data, of settlement claims to the contracting officer
        (B) The termination and settlement of subcontracts.
    (ii) Reasonable costs for the storage, transportation, protection, and disposition of property acquired or produced for the contract
    (iii) Indirect costs related to salary and wages incurred as settlement expenses , normally limited to payroll taxes, fringe benefits, occupancy costs and immediate supervision costs.
So, settlement expenses are somewhat unique in that contractors are allowed to pull out costs that are normally indirect in nature, and charge them direct to settlement expenses. Contractors however must ensure that these costs are also removed from the indirect expense pool(s) from whence they came.

Also, the labor portion of settlement costs must be burdened with applicable fringe costs. For contractors with fringe rates and perhaps an occupancy pool, this is an easy task. For other contractors, a special analysis is required to calculate and claim applicable fringes.

Many contractors underestimate settlement expenses. At the time of negotiations, there is usually a portion of settlement expenses that are still estimates and these will require a thoughtful projection of how much time it will take to reach a settlement. Other contractors fail to include all settlement costs to which they are entitled. Some forget to add fringe. Some forget to post hours.

One last thing about settlement expenses. These costs are fully reimbursable as direct costs and do not need to be charged to an indirect expense pool and allocated to all the work of the contractor. For this reason, many contractors engage professional help (such as firms like ours) to assist in preparing settlement proposals.

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