Tuesday, March 11, 2014

What is Adequate Support for Material Purchases?

What kind of supporting documentation should a contractor be expected to maintain in support of materials and purchased parts? What kind of supporting documentation might a contract auditor request when auditing direct material costs? What are sound commercial practices for supporting documentation? What might the IRS require if they conduct an audit? The answer to each of these four questions is the same; a purchase request, vendor quotes, a purchase order, evidence that the items were received, a vendor invoice, and proof of payment.

After contract award, someone in the company has to decide what items need to be purchased. That person generates purchase requests. These requests should be tied back to build specifications or other contractual requirement. Purchase requests are forwarded to the purchasing department who performs due diligence in obtaining the best pricing. The purchasing department issues purchase orders to the selected vendors. The vendors fulfill the purchase orders, ships the items to the contractor, and sends the contractor invoices. The contractor receives the items it purchased and notifies Accounts Payable department that it has received the items.The Accounts Payable department makes a three-way match (purchase order, receiving document, and invoice) and schedules the payment. If there are any discounts offered, the contractor must take those discounts. Lost discounts are normally unallowable under Government contracts. Contract pays the invoice by check or by electronic transfer of funds.

The process we just described generates a lot of paperwork and auditors can and do request some or all of it to support the claimed costs. It is usually not sufficient to provide the auditor a ledger showing a tally of costs charged to a particular contract. Most auditors will dig a whole lot deeper in their quest to verify the allocability, allowability, and reasonableness of claimed costs. Contractors that don't maintain adequate documentation are at risk for having associated costs disallowed. Right now we are working with a contractor where the auditor has questioned the cost of a major material purchase for lack of documentation. It wasn't sufficient to physically show the auditor the item, and tie its serial number to an invoice. The contractor was missing the purchasing file which included evidence that the contractor obtained competitive pricing. The issue has now been elevated to the contracting officer. The auditor took a hard-line position and while that position might be justified, it may not have been a reasonable position.

So, do your homework, prepare you paperwork, organize and keep it handy. You never know when an auditor will come knocking expecting you to have it.

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