Unallowable costs are a part of every organization, and most are legitimate business expenses incurred by the company. However when they are not identified correctly, unallowable costs can pose problems for a business and have a negative impact on things like proposals, post awards, incurred cost audits, or even system adequacy reviews. Improving contract profitability and minimizing audit headaches can be as simple as understanding the differences between non-billable costs and unallowable costs. This webinar will dive into the concepts & principles of unallowable costs, discuss the common issues and regulations as well as share best practices for the treatment of unallowable costs.

1. Unallowable
Costs

2. We Know Government
Contract Accounting

3. Who we are
Left Brain Professionals is a boutique accounting firm that serves
government contractors. We specialize in accounting system design
& implementation, audit support, training, and cybersecurity
compliance.

4. Our Services

5. Our Team
Robert E. Jones
Government Contracts &
Accounting Expert
CPA, CPCM, NCMA Fellow
Melissa Metzger
Government Accounting &
Finance Advisor
MAFM, CPA Candidate
Steven Bressler
Government Contract
Associate
steve@LeftBrainPro.commelissa@LeftBrainPro.comrobert@LeftBrainPro.com

6. Learning
Objectives
• Describe FAR 31 Cost Principles
• List common unallowable costs &
related issues
• Explain best practices for treatment
of unallowable costs
• Describe the impact of unallowable
costs on indirect rates

7. Room Poll
What is your level of knowledge on unallowable costs?
A. What are unallowable costs?
B. I know a little, but I’m not sure how to categorize them.
C. I’m fairly proficient, but I could use some best practices.
D. I’m a pro!

8. Definition: Unallowable Costs
Unallowable costs are those costs the Government determined
are not necessary for contract performance.
1. They are usually legitimate business expenses.
2. These may or may not be tax deductible.*
*Please consult with your tax advisor.

9. Describe FAR 31 Cost
Principles

10. FAR 31 Scope
“This part contains cost principles and procedures for-
a) The pricing of contracts, subcontracts, and modifications to
contracts and subcontracts whenever cost analysis is
performed (see 15.404-1(c)); and
b) The determination, negotiation, or allowance of costs when
required by a contract clause.”

11. Guidance for Specific Contract Types
31.102 Fixed-price contracts.
31.103 Contracts with commercial organizations.
31.104 Contracts with educational institutions.
31.105 Construction and architect-engineer contracts.
31.106 (Reserved)
31.107 Contracts with State, local and federally recognized
Indian tribal governments.
31.108 Contracts with nonprofit organizations.
31.109 Advance agreements.

12. Cost Allowability
“(a) A cost is allowable only when the cost complies with all of the
following requirements:
1) Reasonableness.
2) Allocability.
3) Standards promulgated by the CAS Board, if applicable, otherwise,
generally accepted accounting principles and practices appropriate
to the circumstances.
4) Terms of the contract.
5) Any limitations set forth in this subpart.” FAR 31.201-2

13. Room Poll
A cost is allowable only when it complies with the following
requirements:
A. Reasonableness.
B. Allocability.
C. Terms of the contract.
D. All of the above.

14. Reasonableness
“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.” FAR 31.201-3(a)

15. Allocability
“A cost is allocable if it is assignable or chargeable to one or more cost
objectives on the basis of relative benefits received or other equitable
relationship. Subject to the foregoing, a cost is allocable to a
Government contract if it-
(a) Is incurred specifically for the contract; (Direct)
(b) Benefits both the contract and other work, and can be distributed
to them in reasonable proportion to the benefits received;
(Overhead) or
(c) Is necessary to the overall operation of the business, although a
direct relationship to any particular cost objective cannot be
shown." (G&A) FAR 31.204

16. CAS and GAAP
Cost Accounting Standards (CAS)
Generally Accepted Accounting Principles (GAAP)
In other words, you must have acceptable treatment of a cost for financial
reporting purposes.
Cont…

17. Terms of Contract
Individual contracts may dictate the treatment of certain costs:
1. Clearly enumerate specifically unallowable costs.
2. Simply may not include costs (unallowable by omission) such as travel.
3. Call for a cost to be treated as direct that is normally treated as
indirect by a contractor.
Cont…

18. FAR 31.205
List of 52 enumerated costs with prescribed
treatment.
These are generally referred to as “expressly
unallowable” (which also includes those
identified at a contract level).
Burden of Proof
Proving unallowable Government
Proving reasonable Contractor
Proving allocable Contractor

19. Room Poll
A cost is reasonable if, in its nature and amount, it does not
exceed that which would be incurred by a prudent person.
A. True.
B. False.

20. List Common
Unallowable Costs &
Related Issues

21. Common Unallowable Costs & Issues
Job postings – allowable.
General advertising – generally
unallowable, limited allowability when
required by a contract.
Public relations – generally
unallowable unless it deals with public
safety.
Advertising FAR 21.205-1
Cont…

22. Common Unallowable Costs & Issues, Continued…
Unallowable
Alcohol FAR 31.205-51
Cont…
Unallowable
Bad Debt FAR 31.205-3
Unallowable, except advertisements for events like a blood drive
Charitable Contributions FAR 31.205-8
Health clinics, wellness, fitness, counseling – allowable
Weekly donuts and snacks - unallowable
Employee Morale FAR 31.205-13

23. Common Unallowable Costs & Issues, Continued…
Generally unallowable
Interest & Finance Charges FAR 31.205-20
Cont…
Generally unallowable. Watch out for those “directly associated costs”.
Lobbying FAR 31.205-21

24. Common Unallowable Costs & Issues, Continued…
Cont…
Related party rent is limited to the effective cost of ownership which
includes:
Rental Costs FAR 31.205-36
• Depreciation
• Utilities
• Taxes
• Insurance
• Repairs & Maintenance
• Cost of Money

25. Common Unallowable Costs & Issues, Continued…
Must be in compliance with Federal Travel
Regulations (FTR) and Joint Travel Regulations
(JTR).
• Per diem
• Hotel and taxes
• Meals and incidentals
Travel FAR 31.205-46
Cont…

26. Common Unallowable Costs & Issues, Continued…
• Airfare - "Airfare costs in excess of the lowest priced airfare available
to the contractor during normal business hours are unallowable
except when such accommodations require circuitous routing, require
travel during unreasonable hours, excessively prolong travel, result in
increased cost that would offset transportation savings, are not
reasonably adequate for the physical or medical needs of the traveler,
or are not reasonably available to meet mission requirements." FAR
31.205-46(b)
Travel FAR 31.205-46, Continued…
Cont…

27. Common Unallowable Costs & Issues, Continued…
"A directly associated cost is any cost that is generated solely as a result
of incurring another cost, and that would not have been incurred had the
other cost not been incurred. When an unallowable cost is incurred, its
directly associated costs are also unallowable." FAR 31.206-1(a)
Example:
Labor and travel associated with lobbying efforts, trade shows, or holiday
parties.
Directly Associated Costs

28. Room Poll
Which is considered an allowable cost?
A. General advertising.
B. Lobbying.
C. Job postings.
D. Alcohol.

29. Best Practices for
Treatment of
Unallowable Costs

30. Best Practices
• Segregate chart of accounts
• Separate G/L accounts
• WE prefer the 9xxx series of accounts
• Put “UN” or “Unallowable” in the description
• Track directly associated costs
• Report of unallowable costs
• Part of expense report policy
• Annual training
Cont…

31. Best Practices, Continued…
Ability to identify unallowable costs on expense reports, requisitions
and purchase orders.
Document, document, document!
• Travel – take screenshots of airfare, hotel and rental car rates.
• Write-up any instance where you claim higher than FTR/JTR/per diem
such as location, availability of rooms, etc..
Cont…

32. Best Practices, Continued…
Eliminate low-hanging fruit before audit.
• Alcohol
• Travel
• Charitable contributions
• Interest expense/finance charges
• Related Party Transactions

33. Penalties
FAR 42.709
Amount claimed that are expressly unallowable-
• Penalty equals amount disallowed
• $25,000 disallowed + $25,000 penalty + interest
If determined unallowable for that contractor prior to proposal submittal-
• Penalty equals 2x amount disallowed
• $25,000 disallowed + $50,000 penalty + interest
It is not necessary for unallowable costs to have been paid to the contractor in order to assess a penalty.
Cont…

34. Penalties, Continued…
Principle​ Period​
Interest
Rate​ Amount​
$ 50,000.00 7/1/2013 - 12/31/2013​ 1.750%​ $ 50,875.00
$ 50,875.00 1/1/2014 - 6/30/2014​ 2.125%​ $ 51,956.09
$ 51,956.09 7/1/2014 - 12/31/2014​ 2.000%​ $ 52,995.22
$ 52,995.22 1/1/2015 - 6/30/2015​ 2.125%​ $ 54,121.36
$ 54,121.36 7/1/2015 - 12/31/2015​ 2.375%​ $ 55,406.75
$ 55,406.75 1/1/2016 - 6/30/2016​ 2.500%​ $ 56,791.92
$ 56,791.92 7/1/2016 - 12/31/2016​ 1.875%​ $ 57,856.76
$ 57,856.76 1/1/2017 - 6/30/2017​ 2.500%​ $ 59,303.18
$ 59,303.18 7/1/2017 - 12/31/2017​ 2.375%​ $ 60,711.63
$ 60,711.63 1/1/2018 - 6/30/2018​ 2.625%​ $ 62,305.31
$ 62,305.31 7/1/2018 - 12/31/2018​ 3.500%​ $ 64,486.00
$ 64,486.00 1/1/2019 - 6/30/2019​ 3.625%​ $ 66,823.62
$ 66,823.62 7/1/2019 - 12/31/2019​ 2.625%​ $ 68,577.74
Interest​ $ 18,577.74
Unallowable Cost​ $ 25,000.00
Penalty​ $ 25,000.00
Total​ $ 68,577.74
$25,000 unallowable
cost results in owing the
government more than
$68,577.

35. Room Poll
Claimed unallowable costs on ICP and billings results in-
A. 1x penalty.
B. 1x penalty plus interest.
C. 2x penalty.
D. 2x penalty plus interest.

36. Impact of Unallowable
Costs on Indirect Rates

37. Impact on Indirect Rates
Unallowable costs are excluded from the pools, but included in the base
as appropriate. CAS 405.
If unallowable cost is otherwise direct in nature, it’s included in the base
of Fringe, OH and G&A as appropriate.
Cont…

38. Impact on Indirect Rates, Continued…
Result is unallowable costs + unrecovered indirect costs = total
unrecovered costs.

39. Room Poll
Unallowable costs + unrecovered indirect costs = __________
A. Total unrecovered costs.
B. Unrecovered G&A.
C. Unrecovered Fringe.
D. Unrecovered Overhead.

40. Unallowable costs are a part of every
organization, and most are legitimate business
expenses incurred by the company. However
when they are not identified correctly,
unallowable costs can pose problems for a
business and have a negative impact on things
like proposals, post awards, incurred cost
audits, or even system adequacy reviews.
Improving contract profitability and minimizing
audit headaches can be as simple as
understanding the differences between non-
billable costs and unallowable costs.
Unallowable Costs

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