Overview
This section outlines the procedures and responsibilities for settling subcontractor claims following the termination of a prime contract, emphasizing that the prime contractor is responsible for settling with its subcontractors while the Government maintains oversight and approval authority. It establishes that no direct contractual relationship (privity) exists between the Government and subcontractors, placing the burden of settlement and payment on the higher-tier contracting parties.
Key Rules
- Lack of Privity: Subcontractors have no direct contractual rights against the Government; their claims must be resolved through the prime contractor or the intermediate subcontractor with whom they contracted.
- Mandatory Termination: Prime contractors must terminate all subcontracts related to the terminated portion of the prime contract and are encouraged to include flow-down termination clauses to protect themselves from excessive liability.
- Reimbursement Limits: The Government will not reimburse prime contractors for anticipatory profits or consequential damages paid to subcontractors.
- TCO Approval/Ratification: Generally, the Termination Contracting Officer (TCO) must approve or ratify all subcontract settlements to ensure they are reasonable, allocable, and made in good faith.
- Settlement Authority ($100,000 Threshold): The TCO may grant prime contractors the authority to settle subcontract claims of $100,000 or less without specific approval, provided the contractor’s settlement procedures are audited and found adequate.
- Judgments and Arbitration: Legal judgments or arbitration awards against a prime contractor may be recognized as allowable settlement costs only if the contractor provided prompt notice to the Government, diligently defended the suit, and used a reasonable termination clause.
- Assignment of Rights: The Government reserves the right to require the prime contractor to assign its rights under terminated subcontracts to the Government if it is in the Government’s interest.
Practical Implications
- Flow-Down Clauses are Critical: Prime contractors must ensure their subcontracts contain termination clauses that mirror FAR protections; failing to do so may leave the prime liable for subcontractor costs (like lost profits) that the Government is legally prohibited from reimbursing.
- Administrative Efficiency: Obtaining "settlement authority" for claims under $100,000 is a significant administrative advantage for primes, as it allows for faster closeouts without waiting for TCO ratification for every minor settlement.
- Documentation Standards: Because the TCO must verify that settlements are "reasonable" and "arrived at in good faith," contractors must maintain rigorous accounting data and justification for every subcontract settlement to avoid disapproval and loss of reimbursement.