The annual Incurred Cost Proposal (ICP) and subsequent DCAA incurred cost audits remain a cornerstone of DCAA compliance for government contractors. These audits verify that costs claimed by contractors are allowable, reasonable, and allocable under federal regulations. Recent DCAA reports and ongoing audit trends highlight specific areas where contractors frequently fall short. Understanding these trends and common pitfalls is crucial for a successful audit and avoiding disallowed costs.
DCAA’s Focus on Incurred Costs:
In Fiscal Year (FY) 2023, DCAA issued 583 incurred cost audit reports, evaluating a significant portion of the $253.6 billion in contract costs examined overall. While DCAA’s overall net savings from all audit types amounted to $3.5 billion in FY 2023, incurred cost audits consistently contribute to questioned costs. DCAA aims to complete incurred cost audits within 12 months of receiving an adequate submission, a priority to assist in achieving auditable financial statements and closing completed contracts.
Common Deficiencies in Incurred Cost Submissions:
Contractors frequently encounter deficiencies in their ICPs and associated audits. According to DCAA guidance and common audit findings, these often include:
- Improper Segregation of Direct and Indirect Costs: A persistent issue where costs are not consistently classified or are shifted between direct and indirect categories.
- Failure to Exclude Unallowable Costs: DCAA strictly enforces FAR Part 31 (Contract Cost Principles and Procedures) regarding unallowable costs (e.g., entertainment, certain lobbying costs, excessive executive compensation). Many contractors fail to properly identify and exclude these from indirect cost pools.
- Inadequate Timekeeping Procedures: Labor costs are a significant component of government contracts. Deficiencies often arise from employees not completing timesheets daily, failing to record all hours worked (including uncompensated overtime), or supervisors making unauthorized corrections. DCAA conducts “real-time labor evaluations” as unannounced audits to assess the credibility of labor costs.
- Lack of Proper Subcontractor Analysis: Contractors are responsible for ensuring their subcontractors’ costs are allowable and reasonable. Failing to perform adequate subcontract analysis or obtain necessary approvals for subcontracting can lead to audit findings.
- Inadequate Provisional Billing Rate Adjustments: Provisional billing rates are estimates. Contractors are expected to adjust these rates based on actual experience throughout the year and ensure unallowable costs are removed from projections. Failure to submit adjustment invoices in a timely manner is a common deficiency.
Strategies for Success:
To mitigate these risks, contractors should:
- Implement a Robust Accounting System: Your accounting system must be able to accurately segregate, accumulate, and report direct and indirect costs by contract. It should also have strong internal controls and generate compliant reports for ICPs.
- Maintain Detailed Documentation: Every expense charged to a government contract must be well-documented, reasonable, and directly related to contract performance.
- Regularly Review Provisional Billing Rates: Proactively adjust provisional billing rates and submit adjustment invoices as needed to reflect actual costs.
- Train Employees on DCAA Requirements: Ensure all employees involved in timekeeping and cost allocation are thoroughly trained on DCAA regulations and internal policies.
- Utilize DCAA Checklists: DCAA provides helpful checklists, such as the “Incurred Cost Submission Adequacy Checklist,” which contractors can use to ensure their submissions are complete and accurate.
Conclusion:
The incurred cost audit remains a critical area of DCAA oversight. By understanding the common deficiencies and implementing proactive strategies, government contractors can significantly improve their chances of a successful audit and avoid costly disallowances, safeguarding their financial health and reputation.
References:
- Unanet: “Key takeaways from DCAA’s FY 2023 Report to Congress” – unanet.com/blog/key-takeaways-from-dcaas-fy-2023-report-to-congress
- DCAA FY 2024 Budget Estimates – comptroller.defense.gov
- AccountingDepartment.com: “First-Time Contractor’s Guide to Avoiding Common Deficiencies” – accountingdepartment.com/blog/government-contractor-guide-avoid-common-deficiencies
- ICAT Systems: “DCAA Compliance Resources and Guidance” – icatsystems.com/Articles/DCAA_Compliance_Resources_and_Guidance.aspx