Overview
This section establishes the foundational framework for determining the total cost of a government contract and defines the five core pillars of cost allowability. It sets the standards for how contractors must identify, calculate, and document costs, emphasizing that only costs meeting specific criteria for reasonableness and allocability are recoverable.
Key Rules
- Composition of Total Cost: Total contract cost is the sum of direct and indirect costs (plus allocable cost of money) minus any applicable credits, such as rebates or refunds.
- The Five Requirements for Allowability: To be allowable, a cost must meet all of the following: (1) Reasonableness; (2) Allocability; (3) Standards promulgated by the CAS Board or GAAP; (4) Terms of the contract; and (5) Any limitations in FAR Subpart 31.2.
- Reasonableness ("Prudent Person" Test): A cost is reasonable if it does not exceed what a prudent person would incur in a competitive business. There is no "presumption of reasonableness"; the burden of proof rests entirely on the contractor if a cost is challenged.
- Allocability: A cost is allocable if it is assigned based on the relative benefits received. This includes costs incurred specifically for the contract, costs that benefit both the contract and other work (proportionally), or costs necessary to the overall operation of the business.
- Accounting for Unallowable Costs: Contractors must identify and exclude "expressly unallowable" costs and "directly associated costs" (costs that would not have been incurred but for the unallowable cost) from any billing or proposal.
- Documentation and Substantiation: The contractor is responsible for maintaining records adequate to demonstrate that costs claimed have been incurred and are compliant with FAR; the Contracting Officer may disallow any cost that is inadequately supported.
Practical Implications
- Burden of Proof: In a dispute, the contractor, not the government, must prove that a cost is reasonable and properly documented; internal policies should be robust enough to provide a clear "audit trail" for every expense.
- The "Directly Associated" Trap: Incurring an unallowable cost (like a luxury social event) can lead to the disallowance of otherwise allowable costs, such as the salary of the employees who spent time planning the event, if those costs are material.
- Consistency is Critical: Contractors must apply their accounting practices consistently; any deviation from established practices that results in higher costs to the government may result in those excess costs being deemed unallowable.