[Federal Register: January 30, 2003 (Volume 68, Number 20)]
[Proposed Rules]               
[Page 4875-4877]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]

[[Page 4875]]


Part VI

Department of Defense

General Services Administration

National Aeronautics and Space Administration


48 CFR Parts 2 and 31

Federal Acquisition Regulation; Depreciation Cost Principle; Proposed 

[[Page 4876]]




48 CFR Parts 2 and 31

[FAR Case 2001-026]
RIN 9000-AJ56

Federal Acquisition Regulation; Depreciation Cost Principle

AGENCIES: Department of Defense (DoD), General Services Administration 
(GSA), and National Aeronautics and Space Administration (NASA).

ACTION: Proposed rule.


SUMMARY: The Civilian Agency Acquisition Council and the Defense 
Acquisition Regulations Council (Councils) are proposing to amend the 
Federal Acquisition Regulation (FAR) to revise the depreciation cost 

DATES: Interested parties should submit comments in writing on or 
before March 31, 2003 to be considered in the formulation of a final 

ADDRESSES: Submit written comments to--General Services Administration, 
FAR Secretariat (MVA), 1800 F Street, NW., Room 4035, Attn: Laurie 
Duarte, Washington, DC 20405.
    Submit electronic comments via the Internet to--farcase.2001-
    Please submit comments only and cite FAR case 2001-026 in all 
correspondence related to this case.

Building, Washington, DC 20405, at (202) 501-4755 for information 
pertaining to status or publication schedules. For clarification of 
content, contact Mr. Ralph De Stefano at (202) 501-1758. Please cite 
FAR case 2001-026.


A. Background

    The Councils performed a comprehensive review of the cost principle 
at FAR 31.205-11, Depreciation, to evaluate the need for each specific 
requirement. As a result of the review, the Councils are proposing to 
revise the cost principle as follows:
    1. Definition of depreciation. The language currently at FAR 
31.205-11(a) is a definition for the term ``depreciation.'' Since the 
term is used throughout the FAR, the definition was moved to FAR 2.101, 
    2. Residual values. The depreciation cost principle is more 
restrictive than cost accounting standards (CAS) because it requires a 
contractor to use residual values in establishing depreciation costs, 
while the cost accounting standard for depreciation of tangible capital 
assets at 48 CFR 9904.409-50(h) allows contractors to ignore residual 
values under 10 percent for tangible personal property. The rule adds 
language at FAR 31.205-11(a) to make the policy on residual values 
consistent with CAS.
    3. Depreciation claimed for tax purposes. Currently, FAR 31.205-
11(e) limits allowable depreciation to the lesser of the depreciation 
used for Federal income tax purposes or for financial statements. This 
policy encourages contractors to use the same depreciation for both tax 
and financial reporting purposes. The Councils have eliminated all 
references to Federal income tax accounting since it is unnecessary to 
tie allowable depreciation to depreciation claimed for tax purposes, 
and to penalize contractors because they use an acceptable depreciation 
method for tax purposes that is different from that used for financial 
    4. Write-down due to business combinations/impaired assets. The 
Councils added ``except as indicated in paragraphs (g) and (h) of this 
subsection'' to FAR 31.205-11(c) of the proposed rule to eliminate any 
potential inequity caused among these paragraphs. In the proposed rule, 
the language currently in paragraphs FAR 31.205-11(n) and (o) are moved 
to new paragraphs (g) and (h) to specifically disallow the effect on 
depreciation when contractors are involved in the write-down of assets 
from carrying value to fair market value as a result of business 
combinations or impairments. In effect, these paragraphs require 
contractors to continue to use their depreciation schedules as if the 
business combination (paragraph (g)) or impaired asset write-down 
(paragraph (h)) never occurred. However, if there is an asset write-
down due to either of these events, the depreciation calculated based 
on generally accepted accounting principles (GAAP) will be lower than 
the depreciation generated by the use of the contractor's previous 
depreciation schedule. Without a stated exception to the general rule 
in the proposed paragraph (c) that allowable depreciation cannot exceed 
the amount calculated based on GAAP, one might misinterpret the cost 
principle and inappropriately disallow the depreciation in excess of 
GAAP when a write-down of an asset due to a business combination or 
impairment occurs.
    5. Emergency facilities. The current paragraph at FAR 31.205-11(i) 
has been deleted since the Councils are not aware of any existing 
contracts supporting the operation of emergency facilities covered by 
certificates of necessity.
    6. The rule makes other changes to clarify, improve the structure, 
and remove redundancies throughout the cost principle.
    This is not a significant regulatory action and, therefore, was not 
subject to review under section 6(b) of Executive Order 12866, 
Regulatory Planning and Review, dated September 30, 1993. This rule is 
not a major rule under 5 U.S.C. 804.

B. Regulatory Flexibility Act

    The Councils do not expect this proposed rule to have a significant 
economic impact on a substantial number of small entities within the 
meaning of the Regulatory Flexibility Act, 5 U.S.C. 601, et seq., 
because most contracts awarded to small entities use simplified 
acquisition procedures or are awarded on a competitive, fixed-price 
basis, and do not require application of the cost principles discussed 
in this rule. An Initial Regulatory Flexibility Analysis has, 
therefore, not been performed. We invite comments from small businesses 
and other interested parties. The Councils will consider comments from 
small entities concerning the affected FAR parts in accordance with 5 
U.S.C. 610. Interested parties must submit such comments separately and 
should cite 5 U.S.C. 601, et seq. (FAR case 2001-026), in 

C. Paperwork Reduction Act

    The Paperwork Reduction Act does not apply because the proposed 
changes to the FAR do not impose information collection requirements 
that require the approval of the Office of Management and Budget under 
44 U.S.C. 3501, et seq.

List of Subjects in 48 CFR Parts 2 and 31

    Government procurement.

    Dated: January 23, 2003.
Al Matera,
Director, Acquisition Policy Division.
    Therefore, DoD, GSA, and NASA propose amending 48 CFR parts 2 and 
31 as set forth below:
    1. The authority citation for 48 CFR parts 2 and 31 continues to 
read as follows:

    Authority: 40 U.S.C. 486(c); 10 U.S.C. chapter 137; and 42 
U.S.C. 2473(c).

[[Page 4877]]


    2. Amend section 2.101 in paragraph (b) by adding, in alphabetical 
order, the definition ``Depreciation'' to read as follows:

2.101  Definitions.

* * * * *
    Depreciation means a charge to current operations that distributes 
the cost of a tangible capital asset, less estimated residual value, 
over the estimated useful life of the asset in a systematic and logical 
manner. It does not involve a process of valuation. Useful life refers 
to the prospective period of economic usefulness in a particular 
contractor's operations as distinguished from physical life; it is 
evidenced by the actual or estimated retirement and replacement 
practice of the contractor.
* * * * *


    3. Revise section 31.205-11 to read as follows:

31.205-11  Depreciation.

    (a) Depreciation on a contractor's plant, equipment, and other 
capital facilities is an allowable contract cost, subject to the 
limitations contained in this cost principle. For tangible personal 
property, only estimated residual values that exceed 10 percent of the 
capitalized cost of the asset shall be used in establishing depreciable 
costs. Depreciation cost that would reduce the book value of a tangible 
capital asset below its residual value is unallowable.
    (b) Contractors having contracts subject to 48 CFR 9904.409, 
Depreciation of Tangible Capital Assets, shall adhere to the 
requirement of that standard for all fully CAS-covered contracts and 
may elect to adopt the standard for all other contracts. All 
requirements of 48 CFR 9904.409 are applicable if the election is made, 
and contractors shall continue to follow it until notification of final 
acceptance of all deliverable items on all open negotiated Government 
    (c) For contracts to which 48 CFR 9904.409 is not applied: Except 
as indicated in paragraphs (g) and (h) of this subsection, allowable 
depreciation shall not exceed the amount used for financial accounting 
purposes and shall be determined in a manner consistent with the 
depreciation policies and procedures followed in the same segment on 
non-Government business.
    (d) Depreciation, rental, or use charges are unallowable on 
property acquired from the Government at no cost by the contractor or 
by any division, subsidiary, or affiliate of the contractor under 
common control.
    (e) The depreciation on any item that meets the criteria for 
allowance at price under 31.205-26(e) may be based on that price, 
provided the same policies and procedures are used for costing all 
business of the using division, subsidiary, or organization under 
common control.
    (f) No depreciation or rental is allowed on property fully 
depreciated by the contractor or by any division, subsidiary, or 
affiliate of the contractor under common control. However, a reasonable 
charge for using fully depreciated property may be agreed upon and 
allowed (but see 31.109(h)(2)). In determining the charge, the 
contractor shall consider cost, total estimated useful life at the time 
of negotiations, effect of any increased maintenance charges or 
decreased efficiency due to age, and the amount of depreciation 
previously charged to Government contracts or subcontracts.
    (g) Whether or not the contract is otherwise subject to CAS, the 
contractor shall comply with the requirements of 31.205-52, which limit 
the allowability of depreciation.
    (h) In the event of a write-down from carrying value to fair value 
as a result of impairments caused by events or changes in 
circumstances, allowable depreciation of the impaired assets is limited 
to the amounts that would have been allowed had the assets not been 
written down (see 31.205-16(g)). However, this does not preclude a 
change in depreciation resulting from other causes such as permissible 
changes in estimates of service life, consumption of services, or 
residual value.
    (i) A ``capital lease'' as defined in Statement of Financial 
Accounting Standard No. 13 (FAS-13), Accounting for Leases, is subject 
to the requirements of this cost principle. FAS-13 requires that 
capital leases be treated as purchased assets; i.e., be capitalized, 
and the capitalized value of such assets be distributed over their 
useful lives as depreciation charges, or over the leased life as 
amortization charges, as appropriate. Capital leases under FAS-13 are 
subject to the requirements of 31.205-11. Operating leases are subject 
to the requirements of 31.205-36. The standards of financial accounting 
and reporting prescribed by FAS-13 are incorporated into this principle 
and govern its application, except as follows:
    (1) Rental costs under a sale and leaseback arrangement are 
allowable up to the amount that would have been allowed had the 
contractor retained title to the asset.
    (2) If it is determined that the terms of the capital lease have 
been significantly affected by the fact that the lessee and lessor are 
related, depreciation charges are not allowable in excess of those that 
would have occurred if the lease contained terms consistent with those 
found in a lease between unrelated parties.
    (j) The undepreciated balance of assets acquired before the 
effective date of this cost principle need not be retroactively 
adjusted if the assets were properly depreciated on Government 
contracts at the time the depreciation was charged. However, the 
remaining undepreciated balance as of the effective date of this cost 
principle shall be depreciated using the same method as used for 
financial statement purposes.

31.205-16  [Amended]

    4. Amend section 31.205-16 in the first sentence of paragraph (b) 
by removing ``31.205-11(m))'' and adding ``31.205-11(i))'' in its 
    5. Amend section 31.205-36 by revising paragraph (a); and removing 
paragraph (b)(4) to read as follows:

31.205-36  Rental costs.

    (a) This subsection is applicable to the cost of renting or leasing 
real or personal property acquired under ``operating leases'' as 
defined in Statement of Financial Accounting Standards No. 13 (FAS-13), 
Accounting for Leases. Compliance with 31.205-11(i) requires that 
assets acquired by means of capital leases, as defined in FAS-13, be 
treated as purchased assets; i.e., be capitalized and the capitalized 
value of such assets be distributed over their useful lives as 
depreciation charges, or over the lease term as amortization charges, 
as appropriate.
* * * * *
[FR Doc. 03-1962 Filed 1-29-03; 8:45 am]