May 5, 2015

Rethinking Expressly Unallowable Costs: What the Defense Contract Audit Agency’s Guidelines Mean for Federal Contractors

Written by Marisa M. Bavand


The auditors for the Defense Contract Audit Agency (DCAA) received additional guidance from DCAA further defining and focusing on the identification of expressly unallowable costs and the recovery of penalties for those unallowable costs. Federal contractors should consider this guidance carefully; what the DCAA instructs its auditors regarding unallowable costs will directly impact contractors that are the subject of the DCAA auditor’s review.

On December 18, 2014, DCCA issued MRD 14-PAC-021(R), Audit Alert Distributing a Listing of Cost Principles That Identify Expressly Unallowable Costs.  The guidance contains over 32 pages of cost principle excerpts and directs the DCAA auditor to question “costs based on a cost principle that is on the list” and “treat the questioned costs as expressly unallowable and subject to penalties.” The December guidance states that the attached 32 page listing is just “a Tool” and it is “Not a Comprehensive List” and that “there may be other cost principles not included on the list that are expressly unallowable based on unique facts and circumstances.”  Examples of identified unallowable include major repairs of rental equipment, certain advertising costs and collection/bad debt costs. The audit teams are told that if a cost is being questioned based on a cost principle not included on this list, but still considered expressly unallowable, for them to apply the penalties as well.

On January 7, 2015, the DCAA issued 14-PAC-022(R), “Audit Alert on Identifying Expressly Unallowable Costs.”  The primary purpose of this guidance is to assist auditors in making determinations regarding whether cost principles identify expressly unallowable costs. It begins by stating that for a cost to be expressly unallowable, the Government must show that it was unreasonable under all the circumstances for a person in the contractor’s position to conclude that the costs were allowable.  The Alert concludes that a cost principle makes costs expressly unallowable if: (1) It states in direct terms that the costs are unallowable, or leaves little room for differences of opinion as to whether the particular cost meets the allowability criteria; and (2) it identifies the specific cost or type of costs in a way that leaves little room for interpretation.

The guidance goes on to provide over 7 pages of examples of cost principles that, in DCAA’s opinion, identify expressly unallowable costs.  The examples include cost principles that state in direct terms that the cost is unallowable or not allowable.  The examples also include samples of cost principles that do not directly state the cost is unallowable; but, in DCAA’s opinion, the cost principle still identifies an expressly unallowable cost. For those cost principles, the Alert provides DCAA’s interpretation to support its conclusions.

To summarize the importance of these principles and guidelines for those engaging in government contract work:DCAA auditors have additional direction and specific guidance to question your costs as a contractor. Carefully consider the allowability of your costs, based on these DCAA guidelines, and do not end up on the wrong end of a DCAA audit.