DCAA Once Again Chastised for Poor Auditing - Part 2

Yesterday we discussed the results of a DoD Inspector General's (DoD-IG) report that found significant deficiencies in a DCAA (Defense Contract Audit Agency) audit - the audit was not conducted in accordance with Generally Accepted Government Auditing Standards (GAGAS). If you missed Part 1, read it here. There was a second finding in the DoD-IG's report related to the method used by DCAA to disallow costs, the "DCAA Form 1". According to the DoD-IG, DCAA made "significant errors on DCAA Form 1, Notice of Contract Costs suspended and/or Disapproved". This form is attached to audit reports of incurred costs when there are audit exceptions disclosed by the audit.

As we mentioned yesterday, DCAA inappropriately questioned 20 percent of subcontract costs (approximately $6.6 million) because, in the auditor's opinion, the costs were not adequately supported. DCAA included the $6.6 million on the Form 1. DCAA also included an additional $3.9 million of subcontract costs where the assist audits had not yet been completed. These amounts were termed "qualified costs". The problem here is that there is duplication in the two amounts. The $6.6 million, representing 20 percent of total subcontract costs, included subcontracts that were also "qualified". This could have led to the contracting officer making an unintended or premature final determination on improper amounts.

The DoD-IG also noted that, according to DCAA's own guidance, a DCAA Form 1 should include only DoD contracts and non-DoD contracts where the auditor has been granted audit authority. In this instance, the DCAA Form 1 included costs for 13 contracts where DCAA had not been granted audit authority by other Government agencies. As a result, DCAA overstated disallowed costs on its Form 1 by an additional $288 thousand.

It would be interesting to know who called the DoD hotline on this audit. Seemingly, it would have been the contractor or an auditor who disagreed with the way in which the audit results were reported. If you have any insight into this matter, let us know. If it was a contractor representative, this might herald in a new mechanism to resolving differences with auditors - especially when it is evident that the audit position is not defensible. Certainly, if a contractor cannot get a contracting officer's interest in a matter, they can always pick up the phone and call the "Hotline".

Disallowing Costs After Incurrence

Cost-reimbursement contracts (e.g. CPFF, CPIF, CPAF), the cost-reimbursement portion of fixed-price contracts, letter contracts that provide for reimbursement of costs, and time-and-material and labor-hour contracts provide for disallowing costs during the course of performance after the costs have been incurred (see, for example, our write-up on the Notice of Intent to Disallow Costs).

When contracting officers receive vouchers directly from the contractor and, with or without auditor assistance, approve or disapprove them, the process must be conducted in accordance with whatever procedures the individual agency has established for that process. However, for DoD contracts in particular, it is the contract auditor that reviews and approves vouchers (e.g. WAWF or Wide Area Work Flow). Generally, contract auditors are authorized to

• received reimbursement vouchers directly from contractors,
• approve for payment those vouchers found acceptable, and
• suspend payment of questionable costs.

If the examination of a voucher raises a question regarding the allowability of a cost under the contract terms (including FAR cost principles), the auditor, after informal discussion as appropriate, may, where authorized by agency regulations, issue a notice of contract costs suspended and/or disapproved simultaneously to the contractor and the disbursing officer, with a copy to the cognizant contracting officer, for deduction from current payments with respect to costs claimed by not considered reimbursable. This notice of costs suspended and/or disapproved is the infamous DCAA "Form 1".

It is important to note here that the disallowance of costs must be taken against the contract where the costs were incurred. The Government may not offset billings of one contract for potentially unallowable costs incurred and billed under another contract. If the contract where the overbilling allegedly occurred is completed and there are no further costs to bill, the Government cannot disallow costs. It must use other avenues such as making a "demand".

If the contractor disagrees with the deduction, which is almost always the case, the contractor has recourse. The contractor may

• submit a written request to the cognizant contracting officer to consider whether the unreimbursed costs should be paid and to discuss the findings with the contractor.
• file a claim under the Disputes clause, which the cognizant contracting officer will process in accordance with agency procedures; or
• do both of the above.

The (dreaded) DCAA Form 1

If you haven't heard about the DCAA Form 1, you probably haven't had very many cost type contracts or you haven't been in the Government contracting business for very long.

DCAA auditors use the DCAA Form 1 to suspend or disapprove costs on cost-reimbursable contracts.

• Suspend: Auditors use the form to suspend unsupported direct or indirect costs until the required data are received and a determination can be made as to the allowability of the costs in question.

• Disapprove: Auditors use the form to disapprove direct or indirect costs for which audit action is complete, the costs are considered unallowable, and the contractor does not concur. For disapproved costs, the procedures for issuing a Form 1 varies based on wither the costs are audit determined or ACO negotiated.

Suspended or disapproved costs are withheld from future billings. If the costs were charged direct to a contract, the unsupported costs will be withheld from a future billing.If the suspended or disapproved costs are indirect, they will be withheld from all contracts to which indirect costs were allocated, most likely through an adjustment to billing rates.

Auditors normally allow contractors "sufficient time" to provide supporting data for any claimed and/or billed costs. "Sufficient time" is not defined and carries a level of subjectivity. In responding to auditor requests for supporting data, there are a couple of things to be aware of.

1. If a contractor has a systemic problem with readily supporting claimed costs, the auditors may well view this as an accounting system deficiency and reflect the deficiency in its internal control assessment. Poor internal controls will lead to increased audit oversight and could potentially affect the award of future contracts.
2. When auditors experience unreasonable delays in obtaining supporting data and significant claimed costs remain unsupported by the contractor, they are guided to consider whether to report an "Access to Records" deficiency. This escalates the issued outside the immediate DCAA office, puts the contractor on a "list" and could (but not likely) lead to a subpoena.

For contractors approved for direct billing, processing the DCAA Form 1 may require the contractor's direct billing authority to be temporarily rescinded. This would add a fews days, perhaps a week or more, in getting paid. The disruption of cash flow can hurt.

Contractors who feel they are not being given adequate opportunity to respond to an auditor request, can and probably should present their case to thew contracting officer.