More Unallowable Costs

Government contractors must adhere to the Federal Acquisition Regulation (FAR), which provides businesses the guidelines on contract procurement. Under FAR, there are costs that are not billable to the government, such as, organizational costs, fines and penalties, and patent costs. These costs are unallowable for various reasons which are explained below.

Organizational Costs

Organizational and re-organizational costs are unallowable under FAR. According to FAR 31.205-27, ‘Organization costs’ include any expenses related to:

  • Planning or executing the organization or reorganization of the corporate structure including mergers and acquisitions
  • Resisting or planning to resist the reorganization of the corporate structure of a business or a change in controlling interest in the ownership of the business
  • Raising capital

Furthermore, FAR provides examples of the types of costs which fall under organization costs; such as incorporation fees, attorney fees, accountants, and brokers. Additional organization costs are promoters, organizers, management consultants, and investment counselors – regardless of whether or not they are employees.

While the labor expenses are not allowable, there are some costs that are allowable since they are not considered organizational costs. A few examples of these allowable costs include executive bonuses, employee savings plans, employee stock ownership plans, and admin costs for short term borrowings for working capital.

Fines and Penalties

Fines, penalties, and mischarging costs are unallowable. According to FAR 31.205-15, ‘Fines, penalties, and mischarging costs’ are all fines and penalties costs caused by violating or failure to comply with federal, state, local, foreign laws or regulations.  The only way fines and penalties are allowable is if they are the result of complying with terms and conditions of a contract or written instructions from a contracting officer. Any costs associated with mischarging costs on government contracts are unallowable when they are:

  • caused by or resulting from an alteration or destruction of records
  • other false or improper charging or recording of costs

Unallowable mischarging costs include more than just the actual mischarged costs expenses themselves.  Expenses for measuring/determining the magnitude of the improper charges and costs to rescreen and reconstruct records for the purpose of fixing or rectifying the mischarges, are also unallowable.

Patent Costs

Lastly, patent costs can be allowable or unallowable. Per FAR 31.205-30 ‘Patent costs’, the following are allowable only if they are requirements for a government contract:

  • Preparing invention disclosures, reports, and other documents
  • Searching the art to the needed extent for the invention disclosures
  • Costs for filing and prosecution of a US patent application where the title or royalty-free license is to be passed on to the Government
  • General counseling services related to the patent (i.e. advice on patent laws, regulations, clauses, and employee agreements)

Any other patent costs are unallowable if the Government contract does not require it.

To sum up, it is critical for government contractors to adhere to the guidelines provided in FAR. The vernacular and all the caveats provided in FAR can be confusing to dissect and properly implement. If ever in doubt, a CPA can be a great resource to use to aide in determining if an expense is allowable or unallowable.

Contributed by Maryney F. Ramirez