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Government Contracts Consulting Newsletter
May 2008
Government Contracting Accountability Act (H.R. 3928)
In late April, The House passed the Government Contractor Accountability Act to achieve one simple thing-transparency (according to the author of the bill/Act). The Act will directly impact privately held companies with more than $5 million in gross revenues and more than 80 percent from government contracts. Those companies meeting these thresholds will be required to disclose (with a bid proposal) the names and salaries of the chief executive officer, the principal financial officer and the three most highly paid employees. The GSA has been tasked with developing and issuing implementation instructions which will presumably define and/or clarify the “transparent” disclosure requirement. Some obvious questions are the definition of “salaries”, the applicability to subcontracts and the applicability of this act to sales which meet the definition of commercial item (FAR 2.101).
It is noteworthy, but of little consolation that the ranking member of the Oversight and Government Reform Committee disagreed with the intent of the bill stating that “such legislation would only deter competent contractors from doing business with the (federal) government. Although the Act is what it is (subject to the GSA implementation instructions), it is unfortunate to say the least given that the author of the Act reinforced the need for the act stating “If there are people out there making millions off of government contracts, profiting off of this war, we should know about it”. This Act is “unfortunate” because it tracks back to a Congressional Hearing wherein a witness (an executive with a contractor with large contracts in Iraq) refused to disclose his salary and at the time, the Congressperson could not force the issue. As a result, hundreds if not thousands of contractors may be snared in this reactionary net. Equally unfortunate that the transparent disclosure requirement gives no consideration to the fact that FAR 31.205-6(p) imposes a statutory cap on executive compensation ($612K in 2008) and that executive compensation is otherwise subject to reasonableness tests which includes comparability to similar companies engaged in similar non-Government work. Unless the government has failed to enforce its own regulations, the fact is that the government is well protected from paying any “unreasonable compensation” including that in excess of the arbitrary $612K cap.
For more information, contact us.
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FAR 31.205-6 Compensation 
The FAR principle pertaining to compensation is the largest single cost principle which may explain why it is rapidly becoming the most frequent source of audit exceptions (DCAA “costs questioned”). Clients (government contractors) have been on the receiving end of compensation issues including the following:
- Audit of prior year Incurred Cost Proposals have questioned the reasonableness of executive (and other compensation) based upon FAR 31.205-6(b)(2). In a number of cases, the DCAA auditor did not evaluate the basis for the compensation opting instead to gather certain salary and compensation data and feed this information to DCAA’s Mid-Atlantic compensation team. They in turn, compare this data to 1 to 3 surveys, (using the average median compensation at the 50th percentile), add 10 percent for range of reasonableness and question any contractor compensation which exceeds DCAA’s. Of course this is by employee; hence, there are no offsets. For example, if your CEO is underpaid (per the surveys) by $100K, but your CFO is overpaid by $80K, only the $80K is considered and $80K is questioned as being unreasonable notwithstanding the fact that both of these employees are most likely “G&A”. Arguably, your G&A is $20K less than an otherwise reasonable amount of G&A, but that isn’t the way it is being measured by DCAA.
- Compensation in excess of the statutory cap because of a one-time event (e.g. otherwise allowable bonus for an exceptional year) and the company fails to voluntarily delete amounts in excess of the statutory cap. The cause is the nonrecurring component which results in excess compensation when historical compensation had been well below the cap (the typical reaction from the company, “What cap?”). Besides being blind-sided by the issue, there is immense joy when it also becomes known that the excess compensation is subject to FAR 42.709 penalties.
- Compensation which becomes reportable salaries and wages (i.e. W-2 income) because an overseas assignment extends beyond 12 months. The most common situation involves employees in Iraq who receive certain payments (differentials, allowances, etc.) which only become compensation if the assignment extends beyond 12 months (IRS Section 162(c)(2)). The total cost for that employee is essentially the same; however, DCAA auditors are now opining that “compensation” in year 2 is unreasonable solely because a larger amount is categorized as taxable employee compensation solely because of the IRS reporting requirement. In fact, the DCAA auditor has suggested that a solution is to rotate employees more frequently, thus avoiding the 12 month IRS “line in the sand”.
All of these examples suggest that FAR Part 31.205-6, Compensation, is pre-defined as an audit risk area; hence, a DCAA auditor will or should be auditing these costs in more detail. There may not be a best defense for incurred cost years other than to recognize what may be coming and most importantly to compare your claimed compensation to the statutory cap as defined in 31.205-6(p). For ongoing operations, the best defense is to engage HR (Human Resources) in documenting the basis for compensation, particularly executive compensation. Investing now will potentially reap big rewards later in terms of issue avoidance.
For more information, contact us.
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