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DCAA's audit authority.

Recently, a Government Business Group (GBG) client received a "request from the Defense Contract Audit Agency (DCAA) that the client prepare contract briefs on several time-and-materials (T&M) subcontracts in order for DCAA to conduct an incurred cost audit of the client. As a result of the advice our firm provided to the client, DCAA retreated from its request, relieving the client from a substantial burden. Based upon this experience, we believe it is important for government contractors that are audited by DCAA to have some knowledge concerning the basic audit rights DCAA has.

In accordance with its charter, DoD Directive 5105.36, DCAA is responsible for "performing all contract audits for the Department of Defense, and providing accounting and financial advisory services regarding contracts and subcontracts to all DoD components responsible for procurement and contract administration. These services are provided in connection with negotiation, administration, and settlement of contracts and subcontracts." Thus, DCAA's two functions are to perform contract audits and to provide advice to procurement officials. DCAA's charter does not provide it with any authority to issue procurement regulations that are binding on contractors or contracting officers. Accordingly, nothing in the Defense Contract Audit Manual (CAM), available at the DCAA website, is binding on contractors or contracting officers. The CAM's sole function is to provide audit guidance to DCAA auditors. If there is an inconsistency between the CAM, the FAR or DFARS, the latter two documents take precedence and DCAA auditors must comply with the FAR or DFARS instead of the CAM.

Keeping this background in mind, DCAA's audit authority is derived from various statutes, regulatory provisions and contract clauses in the FAR. The most relevant statute is 10 U.S.C. [section] 2313(a)(1). This section reads in pertinent part:

Agency Authority.--

(1) The head of an agency, acting through an authorized representative, is authorized to inspect the plant and audit the records of-

(A) a contractor performing a cost-reimbursement, incentive, time-and-materials, labor-hour, or price-redeterminable contract, or any combination of such contracts, made by that agency under this chapter; and

(B) a subcontractor performing any cost-reimbursement, incentive, time-and-materials, labor-hour, or price-redeterminable subcontract or any combination of such subcontracts under a contract referred to in subparagraph (A).

Essentially the same language is used in the clause at FAR 52.215-2, Audit and Records--Negotiation, which implements 10 U.S.C. [section]2313. Three things are notable concerning the statute and FAR clause. First, they give the Government the right to audit certain subcontracts. Therefore, the FAR clause is a mandatory flow down clause. Second, they do not give the Government the right to audit a firm-fixed price contract or firm-fixed price subcontract or any subcontract under a firm-fixed price contract. Thus, to the extent that you have subcontracts under a firm fixed price prime contract or higher tier subcontract that is firm-fixed price contract, subcontracts under that prime contract or higher tier firm fixed price subcontract are not subject to audit by DCAA in regard to an incurred cost audit regardless of the subcontract type. Finally, they do not give the Government the authority to demand that a contractor or subcontractor prepare or obtain any specific records for the auditor. Instead, they only authorize the auditor to examine the books and records that the contractor keeps in the ordinary course of business. If the contractor's normal business records are not adequate to support the costs claimed, however, the Government's remedy is to disallow the cost in accordance with FAR 31.201-2(d).

In addition to FAR 52.215-2, other FAR clauses give the Government the right to audit costs claimed under specific contract types mentioned above. The two most frequently audited contract types are cost reimbursement and T&M contracts. In regard to cost reimbursement contracts, FAR 52.216-7, Allowable Cost and Payment, permits the Government to audit all costs claimed by the contractor to determine if they are allowable under the cost principles of FAR Part 31. In contrast, under T&M contracts, the Government is permitted to audit the cost of material to determine if it is allowable in accordance with the cost principles of FAR Part 31. However, the Government is not allowed to audit the actual labor cost incurred by the contractor's personnel in performing the contract. Instead, the Government can only verify that the contractor incurred the number of labor hours and labor categories claimed and that the individuals who performed work in a claimed labor category were classified properly in that labor category.

A second significant statutory audit right is found in 10 U.S.C. [section] 2313(a)(2), which states:

The head of an agency, acting through an authorized representative, is authorized, for the purpose of evaluating the accuracy, completeness, and currency of certified cost or pricing data required to be submitted pursuant to section 2306a of this title with respect to a contract or subcontract, to examine all records of the contractor or subcontractor related to--

(A) the proposal for the contract or subcontract;

(B) the discussions conducted on the proposal;

(C) pricing of the contract or subcontract; or

(D) performance of the contract or subcontract.

This statutory right is also implemented in FAR 52.215-2.

To enforce these rights, Congress has given the Director of DCAA the authority to issue subpoenas if a contractor refuses to grant DCAA access to the records covered by 10 U.S.C [section] 2313(a) (1) and (2) and FAR 52.215-2. These subpoenas are enforceable in United States District Court.

Government contractors should also be aware of the scope of their certification of indirect costs. In this regard, 10 U.S.C. [section] 2324 and FAR 52.242-4 require a contractor to certify that its proposal to establish final indirect cost rates does not contain any unallowable costs to the best of the contractor's knowledge and belief. The statute and FAR 52.242-3 also call for the imposition of penalties if the proposal contains expressly unallowable costs. However, the certification requirement and penalties provisions do not apply to subcontracts, but only prime contracts. Even then, not all prime contracts are subject to these provisions. Instead, only covered contracts are subject to these provisions. For these purposes, the statute defines "covered contract" to mean "a contract for an amount in excess of $500,000 that is entered into by the head of an agency, except that such term does not include a fixed-price contract without cost incentives or any firm fixed-price contract for the purchase of commercial items." The DCAA CAM recognizes these limitations.

However, occasionally, you will encounter an auditor who is not aware of them or the CAM provisions.

John N. Ford, JD is a Senior Government Contracting Consultant in the Hampton Roads office of Cherry, Bekaert & Holland, L.L.P. John has held the position of Attorney-Advisor, Associate Counsel and was a Deputy General Counsel for the Defense Contract Audit Agency (DCAA). He may be reached at Cherry, Bekaert & Holland will be offering an audio teleconference on July 13 on Surviving a DCAA Audit. For more information or to register,


New Federal Policies Threaten Small Business Contracting Programs

General Services Administration May Propose Policies to Allow Billions to Go to Large Firms

Small business owners across the country have begun to voice their concerns that the General Services Administration is about to propose policies which would allow billions of dollars in small business contracts to be diverted to large firms. Under the guise of "improving efficiency," the GSA has announced that they are beginning their review for an update of the GSA Acquisition Regulation (GSAR), or the regulatory part of the GSA's Acquisition Manual.

There are a number of areas being reviewed in the GSAR that address the interests of small and disadvantaged businesses and minority-, women- and veteran-owned firms. The GSA is not specific about how they plan to "streamline" the regulations that pertain to these entities. Because government personnel and industry have been asked to submit suggestions, many small business owners fear that regulations that currently protect their participation in the procurement process will be eliminated or altered to create loopholes that will exclude them.

"I'm very concerned that the GSA is going to do what they've always done, which is to implement policies that will allow Federal agencies and prime contractors to report contracts to large companies as small business awards," stated Lloyd Chapman, President of the American Small Business League. "I also foresee that the GSA will attempt to disallow any comments they receive that do not agree with their goal of diverting contracts to large businesses. My experience has been that the government manipulates this process in order to achieve its own ends."

Although seven Federal investigations have uncovered fraud and abuse in small business contracting, none of the areas that the GSA is proposing to change address the significant problems that allow this to happen.

Source: American Small Business League
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Title Annotation:REQUIRED READING; Defense Contract Audit Agency
Author:Ford, John N.
Publication:Business Credit
Geographic Code:1USA
Date:May 1, 2006
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