Strategic Consulting Solutions, Inc.

Government Contract Accounting: Unallowable Costs Vs. Non-billable Costs

In government contracting, cost is no longer just cost. Cost is segregated into and defined by specific categories with special restrictions, such as direct and indirect costs, allowable and unallowable cost, and billable and non-billable costs. Sifting through these definitions and understanding how they apply to your government contract accounting is vital, as they are easily audited and on DCAA radar. As unallowable costs and non-billable (or unbillable) costs are often misunderstood and confused, we thought we’d provide some valuable insight into the matter.

First, it’s important to understand that the allowable costs to the government are limited to those allocable costs which are allowable pursuant to Part 31 and applicable agency supplements. In determining allowability, a cost is allowable only when the cost complies with all of the Federal Acquisition Regulation’s (FAR) requirements.

Direct Cost vs. Indirect Cost in FAR 31

In FAR 31.202(a), direct costs are costs that shall be charged directly to the contract. It all comes down to where the benefit lies, but direct costs are usually identified specifically with the particular project or contracted work.

Indirect costs are more complex, and in regards to FAR, are all other costs of conducting business that must be allocated to intermediate or final cost objectives. Intermediate cost objectives are those that can be further allocated to one or more indirect cost pools. Common indirect costs are fringe, overhead, and G&A.

Unallowable Costs

While often legitimate costs, unallowable costs are costs related to doing business that the government won’t reimburse as part of a federal contract. These costs are distinguished per the FAR. Many government contractors incur these costs, but they can’t be charged to the government and should be excluded from any billings, claims, or proposal applications. While these costs can be a direct unallowable, the treatment is the same as it would be for a direct, non-billable cost.

In contrast, when a government contractor wins a government contract, not only can the government contractor bill or recover the direct cost portion that was incurred, but he or she can also bill for associated indirect costs. These indirect costs can be invoiced to the government as long as they are “allowable.” For a cost to be “allowable,” it must be allocable and reasonable. Allowability is a FAR concept which determines if such cost can be “recovered” (i.e. reimbursed) by the Federal Government.

It’s important to note that unallowable costs come in all shapes and sizes, and they should therefore, be setup and recorded properly. Professional help is advised. An expense can be both unallowable and not deductible (such as political contribution), or deductible but unallowable (such as interest expense). It all depends on the nature of the transaction and the guidelines set forth in the IRC and FAR. The FAR Cost Principles Guide goes into detail of the many unallowable costs. Common unallowable costs include: advertising, legal fees, organizational costs, fines and penalties, patent costs, relocation, and taxes. Some costs are unallowable by by law or regulation, including: bribes, gifts, donations, alcoholic drinks, entertainment, interest, federal income taxes, and bad debt. Some costs are intended to regulate or control costs, such as excess travel costs, excess executive compensation, and business combination costs.

Non-billable (or Unbillable) Costs

While billable expenses are costs a client agrees to be billed for, non-billable expenses are costs related to your work that the client is unwilling to reimburse. Interestingly, non-billable costs are direct costs that are deemed non-billable. Consequently, they should be treated and recorded as direct costs (but not billed) so that the true cost and profitability of the task can be reflected. Essentially, these non-billable costs get the appropriate burdens, just like a billable cost. We often communicate with clients and seminar attendees that a direct cost can be either billable or non-billable, but a non-billable cost doesn’t make it an indirect cost.

For many contractors, non-billable expenses will make up a large majority of their business costs. Examples of non-billable costs may be business travel, travel insurance, database connection fees, unique or special training, materials, and business supplies. For example, if a contractor has to obtain travel insurance for a particular task order as a contract requirement, but was told that the cost of the insurance was not covered in the contract, it is thus considered a non-billable cost. These items do not get recorded as overhead costs because this cost was specifically required for a task order or contract. It is important to determine if the benefit received is unique to a particular task order or contract and to be consistent with the treatment of similar expenses with similar purposes. Various contractors handle the treatment of direct unallowable costs differently as allowed by the FAR, but again consistency is the key.

Professional Accounting Help

As you can see, there are many variables related to cost, and compliance is vital. Make sure you cost accounting is completed properly, the first time. With professional help, consulting, and accounting, you can spend more time with your business. At Strategic Consulting Solutions, we can help you properly sort through and allocate costs related to Federal Government contracts by providing knowledgeable and professional accounting from experts in government contracting affairs.

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