compensation cost allowability: select compensation costs...jun 01, 2016 · • dod and dcma...
TRANSCRIPT
McKenna Government Contracts, continuing excellence at Dentons
PCI Financial Forum
Compensation Cost Allowability:Select Compensation Costs
May 3, 2016Steven M. Masiello
Gale R. Monahan
McKenna Government Contracts, continuing excellence at Dentons
Agenda
• Compensation Cost Allowability
• Overview
• Trends and Issues
• Specific Compensation Cost Allowability Provisions
• Executive Compensation
• Severance Pay
• Bonus and Incentive Compensation
• Pension Costs
• Deferred Compensation
• Postretirement Benefits other than Pensions
• Fringe Benefits
• Best Practices
2
McKenna Government Contracts, continuing excellence at Dentons
Compensation Cost Generally
• Compensation costs
• FAR 31.001: all remuneration paid currently or accrued, in whatever
form and whether paid immediately or deferred, for services rendered
by employees to the contractor
• FAR 31.205-6(d): includes compensation paid, or to be paid in the
future, to employees in the form of
• Cash
• Corporate securities
• Other assets, products, or services
• While generally allowable, the FAR contains detailed guidance and
limitations on the allowability of specific forms of compensation
3
McKenna Government Contracts, continuing excellence at Dentons
Compensation Cost Allowability
• General criteria for allowable compensation costs
• Must meet general cost allowability requirements in FAR 31.201-3
• Reasonable, allocable, GAAP/CAS, terms of relevant contracts, cost principles
• Also required to meet requirements in FAR 31.205-6
• Compensation must be for work performed in the current year
• Compensation for individual employees must be reasonable for the work performed
• Must be based upon/conform to contractor’s established compensation plan or practice
• Must comply with other provisions of FAR 31.205-6
• No presumption that compensation costs are allowable
• If requirements of FAR 31.205-6 are met, requirements of FAR 31.201-3 are
also likely satisfied
4
McKenna Government Contracts, continuing excellence at Dentons
Compensation Cost Reasonableness
• Compensation cost reasonableness is the element of allowability where
contractors experience the most frequent challenges
• “A cost is reasonable if, in its nature and amount, it does not exceed that which
would be incurred by a prudent person in the conduct of competitive business”
• Reasonableness considerations
• Is the cost ordinary and necessary for the conduct of the contractor’s business?
• Is the transaction consistent with: generally accepted sound business practices,
arm’s-length bargaining, and federal and state laws and regulations?
• What are the contractor’s responsibilities to the government, other customers, etc.?
• Has the contractor significantly deviated from established practices?
• Compensation cost reasonableness factors include, but are not limited to,
conformity to practices of other firms of
• Same size
• Same industry
• Same geographic area
• Engaged in similar non-government work under comparable circumstances
5
McKenna Government Contracts, continuing excellence at Dentons
Trends and Issues in Cost Reasonableness
• Historically, the government has focused on contractor processes/
procedures
• Methods of contractor performance and business decisions (and resulting
costs) typically not second guessed
• Contractor discretion
• Old rule (e.g., Boeing Aerospace Operations, Inc., ASBCA Nos. 46274, 46275, 94-2
BCA ¶ 26,802)
• “Costs may not be disallowed on the basis of unreasonableness if the contractor has acted within
the scope of its discretion in a nonarbitrary manner”
• Government may not substitute its judgment for that of the contractor
• New rule (e.g., Kellogg Brown & Root Servs., Inc. v. United States, 728 F.3d 1348 (Fed.
Cir. 2013); Kellogg Brown & Root Servs., Inc. v. United States, 742 F.3d 967, (Fed. Cir.
2013), cert. denied, 135 S. Ct. 167 (Oct. 6, 2014)
• Courts are permitted to evaluate not only a contractor’s processes, but also employee decisions
made implementing those processes
• Strict application of cost allowability requirements
6
McKenna Government Contracts, continuing excellence at Dentons
Trends and Issues in Compensation Costs
• Increased scrutiny of contractor compensation costs
• Compensation is reasonable if the aggregate of each element amounts
to a reasonable total amount (FAR 31.205-6(b)(2))
• DCAM 6-413.7 acknowledges that offsets are permitted
• A compensation element may be unreasonable, but total compensation may
still be reasonable
• Unreasonable compensation elements are still high risk
• DCAA’s reliance on 10% “range of reasonableness” test
• Rejected in by case law (J. F. Taylor, Inc., ASBCA No. 56015, 12-1 BCA
¶ 34,920; Metron, Inc., ASBCA No. 56624, 12-2 BCA ¶ 35,066)
• But, DCAA continues to apply this test
7
McKenna Government Contracts, continuing excellence at Dentons
Executive Compensation
• Multiple ceilings may apply to a contractor depending on date of contract award
and awarding agency
• Executive Agencies other than DOD, NASA, and Coast Guard
• For contracts entered into before June 24, 2014, executive compensation caps apply to
top 5 senior executives
• 2014 = $1,144,888; 2013 = $980,976; 2012 = $952,308
• For contracts entered into after June 24, 2014, cap for all employees is $487,000
(adjustment annually based on BLS Employment Cost Index)
• DOD, NASA and Coast Guard
• For contracts entered into before Dec. 31, 2011, executive compensation caps apply to
top 5 senior executives
• 2014 = $1,144,888; 2013 = $980,976; 2012 = $952,308
• For contracts entered into after Dec. 31, 2011 and before June 24, 2014, compensation
caps apply to all employees
• For contracts entered into after June 24, 2014, cap for all employees is $487,000
(adjustment annually based on BLS Employment Cost Index)
8
McKenna Government Contracts, continuing excellence at Dentons
Executive Compensation (Cont.)
• DOD and DCMA previously issued guidance in support of using blended rates
and encouraging advance agreements
• DCAA recently issued MRD 16-PSP-005(R) implementing DOD and DCMA
guidance on the use of blended rates
• DCAA will provide a non-audit service on the proposed advance agreement to ensure
that it complies with the DOD guidance
• DCAA will audit forward pricing proposals, interim billing rates, and incurred costs
submissions to ensure that compensation costs do not exceed the allowable amount
• DCAA will evaluate:
• Basis for measuring the volume of contract effort
• Accuracy of calculations
• Method for accumulation of compensation costs
• DCAA will analyze a forward pricing rate proposal even if an advance agreement does
not exist
• DCAA will return any incurred cost proposals submitted after June 1, 2016 that use
blended rates if an advance agreement is not in place
9
McKenna Government Contracts, continuing excellence at Dentons
Severance Pay
• Allowable if it is required by:
• Law;
• Employer-employee agreement;
• Established policy that constitutes, in effect, an implied agreement on the contractor’s
part; or
• Circumstances of the particular employment
• Severance is not allowable if terminated employee is employed by:
• Replacement contractor where credit for prior service is preserved under substantially
equal conditions of employment; or
• Same contractor, but at another facility, subsidiary, affiliate or parent company
• Compensation incidental to a business acquisition may not be allowable
• Special compensation in excess of the contractor’s normal severance pay practice is
unallowable
• Payments to employees under plans introduced pursuant to a change in management or
ownership, which are contingent upon an employee remaining with the contractor for a
specified period of time, are unallowable
10
McKenna Government Contracts, continuing excellence at Dentons
Bonus and Incentive Compensation
• Bonus and incentive compensation costs are allowable if:
• The awards are paid or accrued under an agreement entered into in good faith with the
employee and before services are rendered; or
• Pursuant to an established and consistently followed plan or policy; and
• The basis for the award is supported
• If costs are deferred:
• The costs still must comply with the above requirements; and
• The costs must comply with the requirements of CAS 415
• But, such costs are unallowable if the awards are made in periods after the work was
performed
• Raytheon Co., ASBCA No. 57576, 15-1 BCA ¶ 36043
• Bonus and incentive compensation costs are not expressly unallowable costs, but may
be unallowable in certain circumstances (e.g., if they are granted to a person who
engages in expressly unallowable activities)
11
McKenna Government Contracts, continuing excellence at Dentons
Pension Costs
• Two Types of Pension Plans
• Defined-benefit
• Defined-contribution
• Basic pension cost allowability requirements
• Measured, assigned, and allocated in accordance with CAS 412 and CAS 413,
even if a contractor is not performing CAS covered contracts
• Funded by the deadline set for filing federal income tax returns
• Payments must be made in accordance with a good faith agreement negotiated
before employees perform work
12
McKenna Government Contracts, continuing excellence at Dentons
Defined-Benefit Pension Plans
• Except for nonqualified plans, pension costs assigned to fiscal years but not
funded are not allowable in subsequent years
• Amounts funded in excess of the pension costs assigned to a cost accounting
period are unallowable in that period
• Any excess amount shall be accounted for as a prepayment credit and may be allowable
in a future period to which it is assigned
• Increased costs are unallowable if:
• They are caused by a delay in funding beyond 30 days after each quarter of the year to
which they are assignable; or
• They result from the withdrawal of assets from a pension fund and a transfer to another
employee benefit plan fund, or a transfer of assets to another account within the same
fund, unless such transfer is authorized by an advance agreement
13
McKenna Government Contracts, continuing excellence at Dentons
Defined-Benefit Pension Plans
• Pension adjustments and asset reversions
• For segment closings, pension plan terminations, or curtailment of benefits, adjustments
shall be measured, assigned, and allocated in accordance with CAS 412
• Where assets revert to a contractor, or such assets are constructively received, the
contractor shall, at the government’s option, make a refund or give a credit to the
government for its equitable share
• Costs of indemnifying the Pension Benefit Guaranty Corporation (PBGC)
under ERISA arising from terminating an employee deferred
compensation plan may be allowable on a case-by-case basis
• Insurance must be required by the PBGC under ERISA
• The indemnification payment is not recoverable under the insurance
• Government must consider the extent to which the indemnification payment is allocable
to government work
• If a beneficial or other equitable relationship exists, the government will participate,
despite the requirements of 31.205-19, to the extent of its fair share
14
McKenna Government Contracts, continuing excellence at Dentons
Defined-Contribution Pension Plans
• Allowable costs are limited to the net contribution required to be made in a
period, after taking dividends and other credits into account, where applicable
• Any portion of pension costs computed for a cost accounting period that is
deferred pursuant to a waiver granted under the provisions of ERISA will be
allowable in those future accounting periods when the funding does occur
• The allowability of these deferred contributions is limited to the amounts that
would have been allowed had the funding been made in the year the costs would
have been assigned except for the waiver
• Any amount paid or funded to the trust before the time it becomes assignable
and allowable shall be applied to future years, in order of time, as if actually paid
and deductible in such years
• These rules also apply to profit sharing plans, savings plans, and other such
plans that fall within the definition of a pension plan
15
McKenna Government Contracts, continuing excellence at Dentons
Early Retirement Incentives
• Costs are allowable, subject to the requirements of defined-benefit
contribution pension plan costs, if
• They are measured, assigned, and allocated in accordance with the
contractor’s accounting practices for pension costs
• The incentives are in accordance with the terms and conditions of an early
retirement incentive plan
• The plan only applies to active employees
• Cost of extending the plan to retired or terminated employees is unallowable
• The present value of the total incentives given to any employee in excess of the
amount of the employee’s annual salary for the previous fiscal year is
unallowable
16
McKenna Government Contracts, continuing excellence at Dentons
Deferred Compensation
• Compensation awarded to an employee in a future cost accounting
period for services rendered before the date of receipt of the
compensation
• Costs are allowable, subject to the these limitations:
• They are measured, assigned, and allocated in accordance with CAS 415
• The costs of deferred compensation awards are unallowable if the awards are
made in periods subsequent to the period when the work being remunerated
was performed
17
McKenna Government Contracts, continuing excellence at Dentons
Postretirement Benefits other than Pensions
• All benefits, other than cash and life insurance benefits paid by pension plans,
provided to employees, their beneficiaries, and covered dependents during the
period following an employee’s retirement
• Examples: postretirement health care, life insurance provided outside a pension plan,
tuition assistance, day care, legal services, housing subsidies
• Costs are allowable if they are:
• Required by law, employer-employee agreement or an established policy
• Calculated in accordance GAAP
• Funded by the time set for filing the Federal income tax return or any extension thereof
• Increased PRB costs caused by delay in funding beyond 30 days after each
quarter of the year to which they are assignable are unallowable
• Government shall receive an equitable share of any amount of previously funded
PRB costs which revert or inure to the contractor pursuant to FAR 31.205-6(j)(3)
18
McKenna Government Contracts, continuing excellence at Dentons
Fringe Benefits
• Allowances and services provided to employees as compensation in
addition to regular salary
• Costs of vacations, sick leave, holidays, military leave, employee insurance,
and supplemental unemployment benefit plans
• Allowable if:
• Reasonable; and
• Required by:
• Law
• Employer-employee agreement, or
• An established policy
• Cost of company furnished automobiles that relates to personal use by
employees is unallowable regardless of whether cost is reported as
taxable income
19
McKenna Government Contracts, continuing excellence at Dentons
Cost Reasonableness Best Practices
• Document fully the basis for your compensation costs
• DCAA/DCMA often take the position that if an action is not documented, it did not happen
• Salary surveys are strong evidence of compensation cost reasonableness
• Establish and consistently apply policies and procedures
• A key element of demonstrating compensation cost reasonableness is establishing,
maintaining, and consistently applying policies/procedures (e.g., bonus plan)
• Employ a Record Retention Policy
• Ensures documentation will be available to support compensation cost reasonableness
(e.g., annual employee reviews, salary surveys)
• Anticipate government challenges
• All policies and procedures should be designed with the expectation that DCAA will
question the reasonableness of your costs
20
McKenna Government Contracts, continuing excellence at Dentons
Questions?
Steven M. Masiello
Partner
Government Contracts
303.634.4355
Gale R. Monahan
Managing Associate
Government Contracts
303.634.4311
21
Dentons US LLP
1400 Wewatta Street
Suite 700
Denver, CO 80202-5548
United States
Thank you
© 2015 Dentons. Dentons is a global legal practice providing client services worldwide through its member firms and affiliates. This publication is not designed to provide legal advice and you should not take, or refrain from taking, action based on its
content. Please see dentons.com for Legal Notices.
Dentons is a global law firm driven to provide a competitive edge in an increasingly complex and
interconnected world. A top 20 firm on the Acritas 2014 Global Elite Brand Index, Dentons is committed
to challenging the status quo in delivering consistent and uncompromising quality in new and inventive
ways. Dentons' clients now benefit from 3,000 lawyers and professionals in more than 80 locations
spanning 50-plus countries. With a legacy of legal experience that dates back to 1742 and builds on the
strengths of our foundational firms—Salans, Fraser Milner Casgrain (FMC), SNR Denton and McKenna
Long & Aldridge—the Firm serves the local, regional and global needs of private and public clients.
www.dentons.com.