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Procurement, Management, and Administration of Engineering and Design Related Services - Questions and Answers

III. Indirect Cost Rates and Audits

Minnesota and West Virginia are granted exceptions from the audit and indirect cost rate requirements established in 23 U.S.C. 112(b)(2)(B)-(E) (See 23 U.S.C. 112(b)(2)(F)). However, the allowability of consultant costs remains governed by the Federal Acquisition Regulations (FAR) cost principles (48 CFR 31) applicable to commercial, for-profit organizations (as specified in 23 U.S.C 112(b)(2) (B).

  1. Are audits required for FAHP funded engineering and design related services contracts? (Updated 08.01.2016)
  2. Are pre-negotiation/pre-award audits or reviews allowed for FAHP funded engineering and design related services contracts? (Updated 08.01.2016)
  3. What does a contracting agency audit risk assessment process/risk management framework consist of? (Updated 08.01.2016)
  4. What are the Federal requirements for use and application of indirect cost rates of a consulting engineering firm on FAHP funded engineering and design related services contracts? (Updated 08.01.2016)
  5. Do the cognizant audit requirements (as specified in 23 U.S.C. 112(b)(2)(C)-(D)) apply to sub-consultant indirect cost rates? (Updated 08.01.2016)
  6. What is a "cognizant agency"? (Updated 08.01.2016)
  7. Can a local public agency or some other non-State recipient or sub-recipient of FAHP funding be a cognizant agency? (Updated 08.01.2016)
  8. What is a "cognizant approved indirect cost rate"? (Updated 08.01.2016)
  9. How will a contracting agency know if a consulting engineering firm has a cognizant approved indirect cost rate? (Updated 08.01.2016)
  10. Must contracting agencies obtain permission from consulting engineering firms prior to sharing audit information with one another in complying with the cognizant audit requirements? (Updated 08.01.2016)
  11. What may potentially trigger a cognizant indirect cost rate approval? (Updated 08.01.2016)
  12. What factors should a consulting engineering firm or contracting agency consider in procuring CPA services to perform an indirect cost rate audit? (Updated 08.01.2016)
  13. What work should be performed by a State DOT to accept an audit performed by a CPA firm (hired by the consulting engineering firm or contracted and directed by the State DOT) and issue a cognizant letter of concurrence making the indirect cost rate cognizant approved? (Updated 08.01.2016)
  14. Are consulting engineering firms required to certify that "all known material transactions or events affecting the firm's ownership, organization and indirect cost rates have been disclosed" for FAHP funded engineering and design related services contracts? (Updated 08.01.2016)
  15. Are States required to perform cognizant approvals of indirect cost rates? (Updated 08.01.2016)
  16. May a State accept and use an indirect cost rate submitted by a consulting engineering firm if such rate has not received cognizant approval? (Updated 08.01.2016)
  17. What should a contracting agency do if an audit of a consulting engineering firm has not been performed to establish an indirect cost rate for the applicable one-year accounting period? (Updated 08.01.2016)
  18. When a cognizant approved indirect cost rate exists, may a contracting agency use an indirect cost rate other than the one established by the cognizant agency? (Updated 08.01.2016)
  19. May a contracting agency request or negotiate a lower indirect cost rate than was established by a cognizant approved audit? (Updated 08.01.2016)
  20. May a contracting agency adjust or modify a consulting engineering firm's cognizant approved indirect cost rate, such as through disallowance of certain cost items? (Updated 08.01.2016)
  21. Are State and local income taxes an allowable cost item in accordance with the FAR cost principles for inclusion in the development of a consulting engineering firm's indirect cost rate for application on FAHP funded engineering and design related services contracts? (Updated 08.01.2016)
  22. May a contracting agency use a definition of compensation that differs from the FAR cost principles to determine what costs are to be allowed under compensation? (Updated 08.01.2016)
  23. What is the Benchmark Compensation Amount (BCA) and how does it apply to compensation on FAHP funded engineering and design related services contracts? (Updated 08.01.2016)
  24. May a consulting engineering firm choose to develop a national (company-wide), a State/regional/branch, or a business segment/discipline indirect cost rate(s)? (Updated 08.01.2016)
  25. If engineering and design related services require establishment of a field office or performance of services in an office provided by the contracting agency, may the contracting agency require establishment of a field indirect cost rate? (Updated 08.01.2016)
  26. What parties may dispute a cognizant approved indirect cost rate, and under what conditions may a rate be disputed? (Updated 08.01.2016)
  27. What steps may be included in a dispute resolution process for a disputed cognizant approved indirect cost rate? (Updated 08.01.2016)
  28. How may an indirect cost rate be obtained if the cognizant approved rate is under dispute? (Updated 08.01.2016)
  29. How long is an audited indirect cost rate valid? (Updated 08.01.2016)
  30. What happens if a cognizant approved indirect cost rate expires during the contract period? (Updated 08.01.2016)

1. Are audits required for each FAHP funded engineering and design related services contract? (Updated 08.01.2016)

Neither 23 U.S.C. 112(b)(2) nor 23 CFR 172 specifically require audits be performed on individual engineering and design related services contracts funded in whole or in part with FAHP funds.

However, contracting agencies must provide assurance that any indirect cost rate considered for acceptance and use in its contracts has been developed in accordance with the FAR cost principles (as specified in 23 U.S.C. 112(b)(2)(B), 23 CFR 172.11(c)(2), and 48 CFR 31). A contracting agency may determine, in accordance with its established risk assessment process/risk management framework (See Indirect Cost Rates and Audits Question & Answer No. 3) and its approved written policies and procedures (as specified in 23 CFR 172.5(c)), when an audit is required and the scope of the audit to be performed. When contracting agency procedures call for audits of contracts or subcontracts, these audits shall be performed to test compliance with the requirements of the cost principles contained in the FAR (as specified in 23 CFR 172.11(c)(2)(ii)(A)).

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2. Are pre-negotiation/pre-award audits or reviews allowed for FAHP funded engineering and design related services contracts? (Updated 08.01.2016)

Yes, contracting agencies may perform pre-negotiation/pre-award audits or reviews and the costs to perform those audits or reviews are eligible for Federal-aid participation.

A contracting agency may determine, in accordance with its established risk assessment process/risk management framework and its approved written policies and procedures (as specified in 23 CFR 172.5(c)), when a pre-negotiation/pre-award audit is required and the scope of the audit to be performed. In some cases, a contracting agency may have to perform a pre-negotiation audit to ensure that the consulting firm has an acceptable accounting system, has adequate and proper justification for the various rates charged to perform work, and is aware of cost eligibility and documentation requirements. Costs of project related audits performed in accordance with Generally Accepted Government Auditing Standards (GAGAS) and benefiting Federal-aid highway projects are eligible for Federal participation (as specified in 23 CFR 140.803).

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3. What does a contracting agency audit risk assessment process/risk management framework consist of? (Updated 08.01.2016)

The primary objective of contracting agency evaluation and acceptance of consulting firm indirect cost rates is to ensure such rates are developed in accordance with the FAR cost principles (as specified in 48 CFR 31). A risk management framework may be employed by a contracting agency to provide reasonable assurance that consulting firm costs, including those stemming from indirect cost rates, are established in accordance with the FAR cost principles.

A contracting agency risk management framework may include, but is not limited to, the following tools: FAR cost principles compliant audits (which may result in cognizant approved indirect cost rates), desk reviews, reliance on work performed by other State DOTs (in accepting an indirect cost rate for use in their respective State), or other procedures, as appropriate. The scope of a risk management framework may include pre-award and post-award audits, where appropriate. The framework should consider the following risk criteria: dollar thresholds; history/reputation of the consulting firm; the number of States in which the consulting firm does business; audit frequency; experience of the CPA firm performing audits on the consulting firm's indirect cost rate; responses to the consulting firm's internal control questionnaire; and/or other risk criteria, as deemed appropriate.

An audit risk assessment process/risk management framework employed by a contracting agency should be established as a component of the contracting agency's approved written policies and procedures (as specified in 23 CFR 172.5(c)).

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4. What are the Federal requirements for use and application of indirect cost rates of a consulting engineering firm on FAHP funded engineering and design related services contracts? (Updated 08.01.2016)

Contracting agencies shall accept cognizant approved indirect cost rates established in accordance with the FAR cost principles (as specified in 48 CFR 31) for a consulting firm's applicable one-year accounting period, if such rates are not currently under dispute (as specified in 23 U.S.C. 112(b)(2)(C) and 23 CFR 172.11(b)(1)). Contracting agencies shall apply accepted (cognizant approved) indirect cost rates for the purposes of contract estimation, negotiation, administration, reporting, and contract payment; and the rate shall not be limited by administrative or de facto ceilings of any kind (as specified in 23 U.S.C. 112(b)(2)(D) and 23 CFR 172.11(b)(1)).

Note that the States of Minnesota and West Virginia are granted statutory exceptions from the audit and indirect cost rate requirements established in 23 U.S.C. 112(b)(2)(B)-(E) (as specified in 23 U.S.C. 112(b)(2)(F)). However, the allowability of consultant costs remains governed by the FAR cost principles (48 CFR 31) applicable to commercial, for-profit organizations (as specified in 23 U.S.C. 112(b)(2)(B)-(D). (See Indirect Cost Rates and Audits Question & Answer No. 5 for sub-consultant audit requirements and Nos. 17-32 for additional discussion regarding acceptance, use, and application of indirect cost rates).

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5. Do the cognizant audit requirements (as specified in 23 U.S.C. 112(b)(2)(C)-(D)) apply to sub-consultant indirect cost rates? (Updated 08.01.2016)

No, the cognizant audit requirements do not apply to sub-consultant indirect cost rates.

Prime consultants, who were selected under a competitive negotiation/qualifications based selection (Brooks Act) procurement process, will frequently hire sub-consultants to perform specialty work. Sub-consultants hired by the prime consultant do not fall under the requirements of 23 U.S.C. 112(b)(2)(C)-(D). As such, sub-consultant indirect cost rates would not be subject to establishment via cognizant agency audit. However, subcontracts must comply with the FAR cost principles (as specified in 23 U.S.C. 112(b)(2)(B) and 48 CFR 31). Should a sub-consultant have a cognizant approved indirect cost rate, a contracting agency may choose to accept and apply that rate. As required with all procurements for property and services under a Federal grant, State and local public agencies must follow all State and local laws, regulations, policies, and procedures which are not in conflict with applicable Federal laws and regulations (as specified in 2 CFR 200.101 and 2 CFR 200.317).

Although an audit of an indirect cost rate of a sub-consultant on a FAHP funded contract is not required, State and local public agencies are not precluded from prescribing sub-consultant audit requirements in their laws, policies, and/or procedures. As such, and in accordance with a State's established audit risk assessment process/risk management framework, the requirement to audit or require sub-consultants to prepare an audit may be incorporated as an acceptable policy and/or procedure of a State or local public agency consultant services program. Such policies and procedures, which are subject to approval by FHWA (as specified in 23 CFR 172.5(c)), may be warranted to ensure sub-consultant costs are properly accumulated and allowable in accordance with the FAR cost principles. Care should be taken by contracting agencies to avoid placing an undue burden on small firms as a result of such policies and procedures.

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6. What is a "cognizant agency"? (Updated 08.01.2016)

The term "cognizant agency" means any governmental agency that has performed an audit and issued an audit report of a consulting firm's indirect cost rate established in accordance with the FAR cost principles (48 CFR 31) (as defined in 23 CFR 172.3). When providing a cognizant indirect cost rate approval, a cognizant agency may either perform an audit and issue an audit report or review work papers related to an audit performed by a CPA and then issue a cognizant letter of concurrence. A cognizant agency may be any of the following: (1) a Federal agency; (2) a transportation agency of the State where the consulting firm's accounting and financial records are located); or (3) a State transportation agency to which cognizance for the particular indirect cost rate(s) of a consulting firm has been delegated or transferred in writing by the State transportation agency identified in subparagraph (2) above. (See Indirect Cost Rates and Audits Question & Answer Nos. 7-9)

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7. Can a local public agency or some other non-State recipient or sub-recipient of FAHP funding be a cognizant agency? (Updated 08.01.2016)

No, the law requires the cognizant agency to be either a Federal or State government agency (as defined in 23 CFR 172.3).

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8. What is a "cognizant approved indirect cost rate"? (Updated 08.01.2016)

The term "cognizant approved indirect cost rate" refers to the indirect cost rate established by an audit performed in accordance with GAGAS to test compliance with the FAR cost principles (as specified in 48 CFR 31) and accepted by a cognizant Federal or State agency.

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9. How will a contracting agency know if a consulting engineering firm has a cognizant approved indirect cost rate? (Updated 08.01.2016)

In the consulting firm's cost proposal, the firm is responsible for providing the contracting agency with its indirect cost rate along with evidence of cognizant approval, if cognizance has been established. Additionally, a State DOT may consult with DOTs in other States where the firm is located or where the firm has worked for the past year to ascertain whether cognizant approval of indirect cost rates has been provided. However, if audited cost or rate data pertaining to a consulting engineering firm is shared between contracting agencies (as specified in 23 U.S.C. 112(b)(2)(E) and 23 CFR 172.11(d)), notice must be given to the affected firm. (See Indirect Cost Rates and Audits Question & Answer No. 11)

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10. Must a contracting agency notify consulting engineering firms prior to sharing audit information with another contracting agency in complying with the cognizant audit requirements? (Updated 08.01.2016)

Yes. FAHP fund recipients and subrecipients may share audit information about a consulting firm with other recipients and subrecipients provided advance notice is given to the firm for each use or exchange of information (as specified in 23 U.S.C. 112(b)(2)(E) and 23 CFR 172.11(d)) to assist in complying with requirements for acceptance of indirect cost rates. Permission to share the information is not required. The notification should include the name of the requesting contracting agency, the name, title, and contact information of the agency official requesting the audit information, and the proposal/project name, number, or other identification information.

However, audit information shall not be provided to other consultants or any other government agency for a purpose unrelated to compliance with FAHP requirements without the written permission of the affected consulting firm. If prohibited by law, audit information may not be shared under any circumstance, but should a release be required by law or court order, such release of audit information shall make note of the confidential nature of the data (as specified in 23 CFR 172.11(d)).

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11. What may potentially trigger a cognizant indirect cost rate approval? (Updated 08.01.2016)

A consulting engineering firm that has had an indirect cost rate audit performed by a CPA firm or an agency contracting with the consulting engineering firm may request approval from a cognizant agency (See Indirect Cost Rates and Audits Question & Answer No. 6) or the cognizant audit agency may choose to provide approval as part of its audit risk assessment process/risk management framework (See Indirect Cost Rates and Audits Question & Answer No. 3).

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12. What work should be performed by a State DOT to accept an audit performed by a CPA firm (hired by the consulting engineering firm or contracted and directed by the State DOT) and issue a cognizant letter of concurrence making the indirect cost rate cognizant approved? (Updated 08.01.2016)

Regardless of who contracted for the work of the CPA firm, the State DOT should perform a review of the CPA's workpapers, using the Review Program for CPA Audits of Consulting Engineers' Indirect Cost Rates identified in Appendix A of the AASHTO Uniform Audit & Accounting Guide, in order to issue a cognizant letter of concurrence, making the rate cognizant approved. Inquiries, discussions, or other information provided by the CPA firm may be useful, but are not an acceptable substitute to a review of the CPA's workpapers.

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13. Are consulting engineering firms required to certify the allowability of costs used to establish indirect cost rates for FAHP funded engineering and design related services contracts? (Updated 08.01.2016)

Yes. To ensure overall compliance with FAR cost principles (as specified in 23 U.S.C. 112(b)(2)(B)-(D) and 23 CFR 172.11(b)(1), FHWA's policy is that an indirect cost rate proposal should not be accepted and no agreement should be made by a contracting agency to establish final indirect cost rates for application to FAHP funded engineering and design related services contracts, unless the costs have been certified by an official of the consulting firm as being allowable in accordance with the applicable FAR cost principles (as specified in 48 CFR 31).

The policies, procedures, requirements, and forms implemented to address FHWA's cost certification policy are specific to each contracting agency and subject to FHWA approval (as specified in 23 CFR 172.5(c)). (See FHWA Order 4470.1A and Indirect Cost Rates and Audits Question & Answer No. 16)

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14. Are consulting engineering firms required to certify that "all known material transactions or events affecting the firm's ownership, organization and indirect cost rates have been disclosed" for FAHP funded engineering and design related services contracts? (Updated 08.01.2016)

No. However, this language was included in the example contractor cost certification provided for illustrative purposes in Appendix A of FHWA Order 4470.1A - FHWA Policy for Contractor Certification of Costs in Accordance with Federal Acquisition Regulations (FAR) to Establish Indirect Cost Rates on Engineering and Design-related Services Contracts. Although included in the example cost certification provided with the Order, this sample language was not prescribed within the directive itself.

A contracting agency may choose to include this sample language in its cost certification requirements, but if used, additional clarifying language may be necessary related to the definition of "material", as well as to the time period covered under such certification. This type of statement may be better placed in an internal control questionnaire as the subject language is effectively an element of an assessment of internal controls with respect to changes in a firm's ownership and organizational structure and subsequent development of its indirect cost rate(s).

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15. Are States required to perform cognizant approvals of indirect cost rates? (Updated 08.01.2016)

No, States are not required to perform cognizant approvals of indirect cost rates. However, States are encouraged to perform cognizant audits or issue cognizant letters of concurrence since this will ultimately lead to a more efficient indirect cost rate approval process across all States.

Contracting agencies must accept indirect cost rates established in accordance with the FAR cost principles (48 CFR 31) by a cognizant Federal or State agency, if such rates are not under dispute (as specified in 23 U.S.C. 112(b)(2)(C) and 23 CFR 172.11(b)(1)). There is no statutory or regulatory requirement for issuance of a cognizant approved rate, only acceptance and application of an established cognizant approved rate, if one exists.

However, if a cognizant approved rate does not exist, contracting agencies must provide assurance that any indirect cost rate considered for acceptance and use in its contracts has been developed in accordance with the FAR cost principles (as specified in 48 CFR 31). A contracting agency may determine, in accordance with its established risk assessment process/risk management framework (See Indirect Cost Rates and Audits Question & Answer No. 3) and its approved written policies and procedures (as specified in 23 CFR 172.5(c)), when an audit is required and the scope of the audit to be performed. When contracting agency procedures call for audits of contracts or subcontracts, these audits shall be performed to test compliance with the requirements of the cost principles contained in the FAR cost principles (as specified in 23 U.S.C. 112(b)(2)(B) and 23 CFR 172.11(c)(2)).

Contracting agencies should also require a consulting firm to certify the allowability of costs used to establish an indirect cost rate prior to acceptance and application to engineering and design related services contracts. (See Indirect Cost Rates and Audits Question & Answer Nos. 15-16)

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16. May a State accept and use an indirect cost rate submitted by a consulting engineering firm if such rate has not received cognizant approval? (Updated 08.01.2016)

Yes, a State may accept an indirect cost rate audit performed by a CPA firm or another State if a cognizant approved rate does not exist.

If a cognizant approved rate does not exist, contracting agencies must provide assurance that any indirect cost rate considered for acceptance and use in its contracts has been developed in accordance with the FAR cost principles (as specified in 48 CFR 31) as evaluated through an established risk assessment process/risk management framework (See Indirect Cost Rates and Audits Question & Answer No. 3) and its approved written policies and procedures (as specified in 23 CFR 172.5(c)). When contracting agency procedures call for audits of contracts or subcontracts, these audits shall be performed to test compliance with the requirements of the cost principles contained in the FAR cost principles (as specified in 23 U.S.C. 112(b)(2)(B) and 23 CFR 172.11(c)(2)).

Contracting agencies should also require a consulting firm to certify the allowability of costs used to establish an indirect cost rate prior to acceptance and application to engineering and design related services contracts. (See Indirect Cost Rates and Audits Question & Answer No. 15-16)

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17. What should a contracting agency do if an audit of a consulting engineering firm has not been performed to establish an indirect cost rate for the applicable one-year accounting period? (Updated 08.01.2016)

A contracting agency may perform its own audit or other evaluation of the consulting firm's indirect cost rate. A contracting agency may alternatively establish a provisional indirect cost rate and subsequently adjust contract costs based upon an audited final rate. The process employed by a contracting agency for providing assurance of compliance with the FAR cost principles must be consistent with the established risk assessment process/risk management framework (See Indirect Cost Rates and Audits Question & Answer No. 3) and its approved policies and procedures (as specified in 23 CFR 172.5(c)).

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18. When a cognizant approved indirect cost rate exists, may a contracting agency use an indirect cost rate other than the one established by the cognizant agency? (Updated 08.01.2016)

No, unless the rate is currently under dispute (as specified in 23 CFR 172.11(b)(1)). (See Indirect Cost Rates and Audits Question & Answer Nos. 28-30)

Contracting agencies shall use and apply a cognizant approved indirect cost rate established in accordance with the FAR cost principles (as specified in 48 CFR 31) for the purposes of contract estimation, negotiation, administration, reporting, and contract payment, and the rate shall not be limited by administrative or de facto ceilings of any kind (as specified in 23 U.S.C. 112(b)(2)(C)-(D) and 23 CFR 172.11(b)(1)).

Federal agencies can and do perform cognizant agency audits for indirect cost rate establishment and may not share their audit background information. In some cases, the cognizant agency may provide several rates, representing the various cost pools and business segments of the firm under audit. The result is still a cognizant approved indirect cost rate and must be used, as long as the audit was performed in accordance with GAGAS to ensure compliance with the FAR cost principles, covers the business segment applicable to contracts administered under the FAHP, and represents an equitable distribution of allowable costs to the benefiting cost objective (contract).

A contracting agency may accept an indirect cost rate lower than the cognizant approved rate, but only if voluntarily offered by a firm. (See Indirect Cost Rates and Audits Question & Answer No. 21)

If a consulting firm does not currently have a field indirect cost rate or does not propose such a rate for a field-based contract, it may be appropriate to negotiate the use of a field indirect cost rate to reflect an equitable distribution of allowable costs to a field-based contract (as specified in 48 CFR 31.203(f)). (See Indirect Cost Rates and Audits Question & Answer No. 27)

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19. May a contracting agency request or negotiate a lower indirect cost rate than was established by a cognizant approved audit? (Updated 08.01.2016)

No, a contracting agency shall not request or start negotiations of a lower indirect cost rate than was established by a cognizant approved audit (as specified in 23 U.S.C 112(b)(2)(C)-(D)).

However, a consulting firm may wish to voluntarily offer a lower rate than was established by a cognizant approved audit. As such, a contracting agency is free to accept a lower rate if offered by a consulting firm on its own volition. A lower indirect cost rate may be accepted and used only if offered/submitted voluntarily by a consulting firm as part of a cost proposal during contract negotiations. A consulting firm's offer of a lower indirect cost rate shall not be a condition or qualification to be considered for the work or contract award (as specified in 23 CFR 172.11(b)(1)). (See Contract Negotiation Question & Answer Nos. 3 and 4)

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20. May a contracting agency adjust or modify a consulting engineering firm's cognizant approved indirect cost rate, such as through disallowance of certain cost items? (Updated 08.01.2016)

No, unless such rate is currently in dispute. The allowability of a consulting engineering firm's costs is governed by the FAR cost principles (48 CFR 31) (as specified in 23 U.S.C. 112(b)(2) and 23 CFR 172.11).

Contracting agencies are not permitted to place limitations on indirect cost rates established in accordance with applicable FAR cost principles and must apply the firm's cognizant approved indirect cost rate for estimation, negotiation, administration, and payment of contracts for engineering and design related services that utilize FAHP funding and directly relate to a construction project (as specified in 23 U.S.C. 112(b)(2)(C)-(D) and 23 CFR 172.11(b)(1)).

Exclusion of cost elements that are allowable under the FAR cost principles from calculation or application of the indirect cost rate effectively places a ceiling on the firm's rate, and is in direct conflict with 23 U.S.C. 112(b)(2)(D).

For firms required to submit a Cost Accounting Standards Board (CASB) Disclosure Statement, contracting agencies may not request reclassifications between direct and indirect cost elements. Consulting firms required to comply with the Cost Accounting Standards (CAS) must disclose their cost accounting practices in writing and follow them consistently (as specified in 41 U.S.C. 1502). Therefore, any such request/requirement to reclassify costs between direct and indirect cost categories may cause a CAS compliant consulting firm to be in violation of Federal statutes.

A contracting agency shall not request or start negotiations of a lower indirect cost rate than was established by a cognizant approved audit, but may accept a lower rate only if voluntarily offered by a consulting engineering firm. (See Indirect Cost Rates and Audits Question & Answer No. 21)

If a consulting firm does not currently have a field indirect cost rate or does not propose such a rate for a field-based contract, it may be appropriate to negotiate the use of a field indirect cost rate to reflect an equitable distribution of allowable costs to a field-based contract (as specified in 48 CFR 31.203(f)). (See Indirect Cost Rates and Audits Question & Answer No. 27)

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21. Are State and local income taxes an allowable cost item in accordance with the FAR cost principles for inclusion in the development of a consulting engineering firm's indirect cost rate for application on FAHP funded engineering and design related services contracts? (Updated 08.01.2016)

Yes, in accordance with 48 CFR 31.205-41(a)(1), required Federal, State, and local taxes paid by a consulting firm are allowable except as provided in paragraph (b) of the same part which expressly disallows Federal income and excess profits taxes. While Federal income taxes are expressly disallowed, State and local income taxes are not specifically identified as disallowed within the FAR cost principles. As such, the FHWA has determined these types of taxes are allowable cost items and therefore must be accepted as allowable by a contracting agency when submitted in a consulting firm's indirect cost rate proposal for application to FAHP funded engineering and design related services contracts.

Exclusion of cost elements that are allowable under the FAR cost principles from calculation or application of the indirect cost rate effectively places a ceiling on the firm's rate, and is in direct conflict with 23 U.S.C. 112(b)(2)(D).

When procuring property and services under a Federal grant, States and local public agencies must use their own procurement procedures, except if a Federal statute or regulation has more specific requirements in conflict with State procedures (as specified in 2 CFR 200.101 and 2 CFR 200.317 and 2 CFR 200.318). When FAHP funds are involved and State or local procedures are in conflict with Federal requirements, the Federal requirements prevail. As such, even if State and local income taxes are disallowed under State or local laws and regulations, these taxes must be treated as allowable for participation of FAHP funding in the contract.

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22. May a contracting agency use a definition of compensation that differs from the FAR cost principles to determine what costs are to be allowed under compensation? (Updated 08.01.2016)

No, compliance with the FAR cost principles (48 CFR 31) is required in the procurement, management, and administration of engineering and design related service contracts that utilize FAHP funding (as specified in 23 U.S.C. 112(b)(2) and 23 CFR 172.11).

The allowability of contract costs is governed by the FAR cost principles. As such, deviations from the definition of compensation and how total compensation is calculated, and more importantly, deviation from the basis for disallowance of associated costs as specifically provided for in the FAR cost principles is not permitted on contracts utilizing FAHP funding.

Consistent with the reasonableness provisions contained in the FAR cost principles(as specified in 48 CFR 31.201-3 and 31.205-6(b)(2)),a contracting agency may limit or benchmark total compensation. (See Chapter 7 of the AASHTO Uniform Audit & Accounting Guide)

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23. What is the Benchmark Compensation Amount (BCA) and how does it apply to compensation on FAHP funded engineering and design related services contracts? (Updated 08.01.2016)

An engineering consultant is permitted to charge reasonable compensation to FAHP funded contracts as either a direct cost, indirect cost, or a combination of both (as specified in 48 CFR 31.205-6). The BCA is a statutory limitation on allowable total compensation for senior executives which may be charged to FAHP funded contracts (as specified in 48 CFR 31.205-6(p)). While the BCA is established based on the compensation of executives of publicly-owned U.S. corporations with annual sales over $50 million for the fiscal year, it applies to the compensation of executives of firms at all sales levels, regardless of whether the firm is publicly or privately held.

The BCA must not be construed as an entitlement or guaranteed amount which may be claimed and charged to a FAHP funded contract. Instead, individual elements of compensation must be reviewed for allowability in compliance with the FAR cost principles. Compensation is reasonable if the aggregate of each measureable and allowable element sums to a reasonable total (as specified 31.205-6(b)(2)). (See Chapter 7 of the AASHTO Uniform Audit & Accounting Guide)

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24. May a consulting engineering firm choose to develop a national (company-wide), a State/regional/branch, or a business segment/discipline indirect cost rate(s)? (Updated 08.01.2016)

Yes. The consulting firm decides on the rate structure and it is up to the consulting firm to propose an indirect cost rate(s). There may be multiple rates for a single firm; however, once the firm develops its indirect cost rate(s), the rate(s) must be consistently and fairly applied. Regardless of the consulting firm's organization, consistency in allocating costs to cost objectives is critical.

While a firm may choose its accounting practices, those practices must meet applicable Federal requirements, including the FAR cost principles and applicable cost accounting standards. Specifically, a firm's indirect cost rate structure must result in an allocable distribution of indirect costs to the benefiting cost objectives on the basis of relative benefits received (as specified in 48 CFR 31.201-4).

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25. If engineering and design related services require establishment of a field office or performance of services in an office provided by the contracting agency, may the contracting agency require establishment of a field indirect cost rate? (Updated 08.01.2016)

For projects where the consulting firm employees do not work out of their established home or branch offices, some of the indirect costs incurred by the home or branch office may not equitably benefit the field-based contract. The purpose of a field rate is to pay the consulting firm for the fringe benefits, project employee management, and home/branch office administrative support provided to the field employees. Negotiation and application of a field rate, where appropriate to ensure only allocable indirect costs are charged to a contract, is not an administrative or de-facto ceiling (prohibited in 23 U.S.C. 112(b)(2)(D) and 23 CFR 172.11(b)(1)). Rather, it may help to achieve an appropriate allocation of costs to the project, based on the benefits received.

If a consulting engineering firm has a cognizant approved field indirect cost rate, the contracting agency may require its use on a field-based contract. If a consulting firm does not currently have a field indirect cost rate or does not propose such a rate for a field-based contract, it may be appropriate to negotiate the use of a field indirect cost rate to reflect an equitable distribution of allowable costs to the contract (as specified in 48 CFR 31.203(f)). However, a contracting agency may not unilaterally require establishment of a field indirect cost rate as part of a solicitation/advertisement for field-related services, pre-award audit process, or for a consulting firm to become pre-qualified to perform field-related services. Application of any field rate must remain consistent with the firm's CASB Disclosure Statement, if applicable (as specified in 48 CFR 9904.406)).

Regardless of the consulting firm's organization, consistency in allocating costs to benefiting cost objectives is critical. While a firm may choose its accounting practices, those practices must meet applicable Federal requirements. Indirect cost rate proposals must reflect an equitable distribution of allowable costs to the benefiting contract(s) in accordance with the FAR cost principles. Once a consulting firm has an established field rate, the rate must be consistently applied across all business segments and disciplines, as appropriate. For consistent cost accounting application, a single company-wide rate should not be used when home and field office indirect cost rates have been established and are in use.

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26. What parties may dispute a cognizant approved indirect cost rate, and under what conditions may a rate be disputed? (Updated 08.01.2016)

Except in the case of error or the failure to follow GAGAS, in which case the contracting agency may raise concerns, only the consulting firm may dispute the established cognizant approved indirect cost rate. If either an error is discovered in the established indirect cost rate, or if GAGAS were not followed in the establishment of the rate, any contracting agency may dispute the rate (as specified in 23 CFR 172.11(b)(1)). The term "error" does not refer to differing and legitimate interpretations of the FAR cost principles (as specified in 48 CFR 31). Errors may consist of complete misinterpretation or misapplication of the FAR cost principles or simple mathematical errors of calculation.

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27. What steps may be included in a dispute resolution process for a disputed cognizant approved indirect cost rate? (Updated 08.01.2016)

The cognizant agency, consulting firm, and its CPA/auditor, as applicable, should work together to resolve any issues. Involvement of the FHWA Division Office in discussions with the parties to a dispute may be a final step in dispute resolution, if necessary. In resolving such disputes, the FHWA Division Office may, at times, consult with FHWA Headquarters, as deemed necessary.

States may choose to employ dispute resolution policies and procedures to establish the dispute resolution processes within their respective jurisdictions. Such processes likely will include provisions for appeal within the State DOT audit organization, within the State DOT chain of command, and, as stated, to the local FHWA Division Administrator. Those policies and procedures may either be referenced or specifically cited within the provisions of a State's written procurement policies and procedures approved by FHWA (as specified in 23 CFR 172.5(c)), and/or they may be referenced specifically within the contract document itself.

States should work to develop a level of confidence in the audit work performed by other States. In the case where a contracting agency believes that there are obvious errors in the calculation of the cognizant indirect cost rate, or that GAGAS may not have been followed in the performance of the audit, that contracting agency should contact the cognizant agency to discuss its concerns. The contracting agency's objection to the cognizant approved rate must be based upon objective criteria and a reasonable factual basis.

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28. How may an indirect cost rate be obtained if the cognizant approved rate is under dispute? (Updated 08.01.2016)

If a cognizant approved indirect cost rate is under dispute (See Indirect Cost Rates and Audits Question & Answer No. 28), the contracting agency does not have to accept the rate. A contracting agency may perform its own audit or other evaluation of the consulting firm's indirect cost rate for application to a specific consultant contract, until or unless the dispute is resolved. A contracting agency may alternatively establish a provisional indirect cost rate and subsequently adjust contract costs based upon an audited final rate. The process employed by a contracting agency for providing assurance of compliance with the FAR cost principles must be consistent with the established risk assessment process/risk management framework and its approved policies and procedures (as specified in 23 CFR 172.5(c)).

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29. How long is an audited indirect cost rate valid? (Updated 08.01.2016)

One year. The one-year applicable accounting period means the annual accounting period for which financial statements are regularly prepared for the consulting engineering firm (as defined in 23 CFR 172.3). However, once an indirect cost rate is established for a contract, it may be extended beyond the one-year applicable accounting period provided all concerned parties agree (as specified in 23 CFR 172.11(b)(1)). Extension of the one-year applicable accounting period shall be only on a contract-by-contract basis where all concerned parties agree and shall not be a condition of contract award or requirement of the contract (as specified in 23 CFR 172.11(b)(1)(vi)).

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30. What happens if a cognizant approved indirect cost rate expires during the contract period? (Updated 08.01.2016)

In general and in accordance with the FAR cost principles (as specified in 48 CFR 31.203(e)), a new indirect cost rate should be established by a cognizant agency. However, once an indirect cost rate is established for a contract, it may be extended beyond the one-year applicable accounting period provided all concerned parties agree (as specified in 23 CFR 172.11(b)(1)). Extension of the one-year applicable accounting period shall be only on a contract-by-contract basis where all concerned parties agree and shall not be a condition of contract award or requirement of the contract.

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Updated: 08/17/2016
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