Executive Comp

[Kafka Esquire]

On June 24, the FAR Councils issued an Interim Rule, effective immediately, that changes the amount of allowable executive comp. The Rule applies to “contracts” issued after June 24. The FAC states that the revised compensation cap “will apply to the costs of compensation … for contracts awarded, and costs incurred, on or after June 24, 2014. The Rule is just vague enough -- or we are simple-minded enough -- that our contracts and finance teams are scratching our heads (each scratching his/her own, not each others' ... that would just be weird. ).

Here is a link to the FedReg: https://www.federalregister.gov/articles/2014/06/24/2014-14379/federal-acquisition-regulation-limitation-on-allowable-government-contractor-compensation-costs?utm_content=next&utm_medium=PrevNext&utm_source=Article

Here are the issues / questions on which we are grappling:

First, as to costs, the rule as written applies to contracts awarded, AND costs incurred on or after June 24. Is it reasonable to suggest that the new cap would apply to costs incurred AFTER June 24 even if they were incurred under a contract that was awarded BEFORE June 24? Or, just to costs incurred under a contract that was awarded after June 24?

Second, as to the word “contract,” the FAR definition of contract includes “orders.” The definitions of task and delivery orders include the phrase “an order … placed against an established contract.” In the context of an IDIQ contract, we are confused. The rule clearly applies to IDIQ, MAC, Basic Ordering Agreements and other top-level ordering vehicles awarded AFTER to 6/24 (and to all task/delivery orders issued under those top-level agreements). But:

1. For IDIQ, GWAC, Basic Ordering Agreements and other top-level ordering vehicles awarded BEFORE to 6/24, are task / delivery orders issued after 6/24 subject to the new FAR compensation cap?

2. For multi-year contracts that contain unexercised options as of 6/24, are the options that are exercised after 6/24 subject to the new FAR compensation cap?

3. For incrementally funded contracts awarded prior to 6/24, will an incremental funding mod issued after 6/24 be subject to the new FAR compensation cap?

4. For proposals submitted prior to 6/24, what is a company’s obligation (or ability) to update the proposal for the new FAR compensation cap?

Thoughts/comments appreciated.

[Guest Vern Edwards]

See FAR 1.108(d).

[Retreadfed]

Every FAR clause that incorporates the cost principles into a contract refers to the cost principles in effect on the date of the contract. Thus, if a contract subject to the cost principles was awarded prior to 24 June 2014, in accordance with should be the terms of that contract, the new cap would not apply. That would include in-scope modifications, including funding mods, to that contract and the exercise of options under the contract.

Do not assume that task/delivery orders are considered contracts for all purposes. For example, under the T&M Payments clause, the government is given the option to withhold up to $50,000 due for labor,but this withholding applies only at the contract level and not to individual orders issued. At the same time, ASBCA decisions have held that some clauses, such as the Limitation of Cost clause, apply at the contract and order level while other decisions, such as the Semcor decision indicate that task orders are not to be treated as separate contracts. To my way of thinking, it is the cost principles in effect when an IDIQ contract is issued that determine which costs are allowable on individual orders, not the cost principles in effect when an order is issued.

Recall that a BOA is not a contract but orders under it are considered separate contracts. Thus the new cap would apply to orders issued on or after June 24 under a BOA.

[wvanpup]

The FAC states that the revised compensation cap “will apply to the costs of compensation … for contracts awarded, and costs incurred, on or after June 24, 2014.

My reading: The revised compensation cap applies to contracts awarded on or after June 24. Compensation paid to an employee through June 23 is not subject to the cap (if the compensation already exceeds the cap it is therefore allowable, subject to any prior caps). QUERY: Is compensation earned prior to June 24 but paid after June 24 subject to the cap? Whether it should be or should not be, he language of the FAC seems to say it is.

[here_2_help]

wvanpup,

Good question. I daresay that the vast majority (if not the entirety) of unallowable executive compensation will be in found in the salaries of indirect employees. (I acknowledge there may well be super program managers whose compensation exceeds the new (lower) threshold, but I don't think there will be many of them.) Thus, the expected impact will be to indirect cost rates (such as Engineering Overhead and G&A Expense). Those rates are always calculated on a YTD basis (see CAS 406). Consequently, unless the contractor will have two sets of rates for its CY 2014, I expect the line of least resistance will be to implement the new ceiling on all 2014 compensation.

When you add in the various factors (such as contracts awarded after the rule vs. contracts awarded before the rule, fixed price vs. flex price, compensation incurred before the rule vs. after the rule, etc.) you get a bit of a nightmare from a cost compliance standpoint. At the end of the day I expect contractors will simply shrug and apply the rule to everything because doing it correctly will be too hard.

Another fine mess from the FAR Council, courtesy of the NDAA. Or so it seems to me.

Hope this helps.

[Retreadfed]

H2H may be correct in his conclusion as to how contractors might react to the new cap. In this regard, it is good to remember that some contractors may have deifferent universes of contracts that are subject to three compensation caps in 2014.

As to what the new cap applies to, looking at the NDAA and the language of the FAR, it is clear that it applies only to compensation allocated to contracts awarded on or after June 24, 2014. It does not apply to contracts awarded before that date.

[Guest Vern Edwards]

Please note that the new cap of $487,000 applies to all employees, not just (senior) executives.

[here_2_help]

Vern,

Correct. But I still think my analysis is correct.

H2H

[Guest Vern Edwards]

I do suppose that the "majority of unallowable executive compensation" will be in indirect costs pools. I don't know for sure, but it seems right, and I take your word for it.

It would seem to follow that "the expected impact will be to indirect cost rates."

I agree that "Those rates are always calculated on a YTD basis (see CAS 406)."

"Consequently, unless the contractor will have two sets of rates for its CY 2014, I expect the line of least resistance will be to implement the new ceiling on all 2014 compensation." I'm not sure about that, but again, I take your word for it.

Yes, it does seem to be a compliance conundrum. The FAR councils might have been able to make things clearer, although I'm not sure that they're capable. We can submit public comments seeking clarification until August 25.

The new rule did not originate in an NDAA, but in The Bipartisan Budget Act of 2013, P.L. 113-67 (Dec. 26, 2013). Consider it a Christmas present. It may well cost more than it will save in the long run.

[here_2_help]

Vern,

Another wrinkle is that the current OMB ceiling (applied to all employees) of roughly $960,000 applies to compensation recorded between 1/1/2014 and 6/23/2014, after which time the current ceiling of $575,000 applies. And you are correct that it was the BBA and not the NDAA. The NDAA had a different, higher, ceiling that was superseded by the BBA by ... what? ... a matter of hours, right?

Gotta love this stuff....

H2H

[Guest Vern Edwards]

It's lunacy.

[Retreadfed]

Even more confusion is caused by the application of the old OFPP ceiling to the five highest paid employees in managment positions for contracts awarded by agencies other than DoD, NASA and the Coast Guard, but to all employees for DoD, NASA and Coast Guard contracts.

H2H, I have to disagree that the new ceiling applies to contracts awarded before June 24, 2014. There is absolutely nothing in the cost principle that leads to that result. Further, this would be inconsistent with the provisions of the Allowable Cost and Payment clause which requires application of the cost principles in effect on the date of the contract.

[here_2_help]

Retreadfed, did I say that?

If so let me retract and correct: The new (lower) ceiling applies to contracts awarded AFTER 6/24/2104. The old (higher) ceiling applies to contracts awarded BEFORE 6/24/2014. The new (lower) ceiling applies to all employees. As you stated, the old (higher) ceiling applied to all employees for DOD/NASA/CG contracts but only to the Top 5 (of each segment) for civilian contracts.

Lawyers have got to be licking their chops over this debacle of a rule.

[Guest Vern Edwards]

Help:

I do not think you said that the new ceiling applies to contracts awarded before June 24.

However, the new ceiling applies to contracts awarded on or after June 24, not just to contracts awarded after June 24.

[Guest Vern Edwards]

Back to Kafka's questions.

First, as to costs, the rule as written applies to contracts awarded, AND costs incurred on or after June 24. Is it reasonable to suggest that the new cap would apply to costs incurred AFTER June 24 even if they were incurred under a contract that was awarded BEFORE June 24? Or, just to costs incurred under a contract that was awarded after June 24?

I do not think it is a reasonable interpretation of the rule to suggest that the new cap applies to costs incurred after June 24 under contracts awarded before June 24. The rule changes FAR 31.205-6(p) by revising subparagraph (3), formerly "Definitiions," now entitled, "All employee compensation limit for contracts awarded on or after June 24, 2014." Subparagraph (p)(3)(i), "Applicability" says: "This paragraph (p)(3) applies to all executive agency contracts awarded on or after June 24, 2014, and any subcontracts thereunder." Thus, subparagraph (p)(3)(ii), which addresses "Costs incurred on or after June 24," applies only to contracts awarded on or after June 24.

Second, as to the word “contract,” the FAR definition of contract includes “orders.” The definitions of task and delivery orders include the phrase “an order … placed against an established contract.” In the context of an IDIQ contract, we are confused.

Your confusion is justified. The FAR councils ought to keep their own definitions in mind and be explicit as to whether the new cap applies to orders issued ("awarded") on or after June 24 under contracts awarded before June 24. I do not expect that the new cap applies to such orders, but given the FAR definition of contract and the Federal Circuit's emphasis on the plain language of regulations, I cannot be sure of the interpretation.

1. For IDIQ, GWAC, Basic Ordering Agreements and other top-level ordering vehicles awarded BEFORE to 6/24, are task / delivery orders issued after 6/24 subject to the new FAR compensation cap?

As I said above, I am not certain about orders under IDIQ contracts, including GWACs. BOA's are not contracts, so BOAs entered into before June 24 are not "contracts awarded before June 24." "Orders" issued against BOAs are actually new contracts. See FAR 16.703(a). Thus, the new cap does apply to orders issued on or after June 24 against BOAs entered into before June 24.

2. For multi-year contracts that contain unexercised options as of 6/24, are the options that are exercised after 6/24 subject to the new FAR compensation cap?

The Federal Circuit has held that the exercise of an option does not create a new contract. See Alliant Techsystems, Inc. v. U.S., 178 F.3d 1260 (1999):

Obligations arising from the exercise of an option are part of a new contract only when the option was the principal subject matter of the bargain, i.e., an option contract. See 3 Eric Mills Holmes, Corbin on Contracts § 11.1 (1996). That rule has consistently been applied to government contracts. See International Bus. Invs., Inc. v. United States, 21 Cl.Ct. 79 (1990); Ocean Tech., Inc. v. United States, 19 Cl.Ct. 288, 291 (1990); C.M.P., Inc. v. United States, 8 Cl.Ct. 743, 746–47 (1985).

The FAR definition of “option” supports the conclusion that options in government contracts generally create extensions of the obligations in the original contract rather than different obligations under a new contract. The FAR provides:

Option means a unilateral right in a contract by which, for a specified time, the government may elect to purchase additional supplies or services called for by the contract, or may elect to extend the term of the contract.

48 C.F.R. § 17.201 (emphasis added). Because the option in this case was not the principal subject matter of the original bargain, the parties' rights and obligations under the option clause are properly considered as part of the original contract between Alliant and the government.

Thus, the new cap does not apply to unexercised options under contracts awarded before June 24.

3. For incrementally funded contracts awarded prior to 6/24, will an incremental funding mod issued after 6/24 be subject to the new FAR compensation cap?

Altough incremental funding mods may be "contracts" as defined by FAR 2.101, they do not add work, but merely add funds to pay for work already under contract. Thus, the new cap does not apply to costs incurred for work performed using funds added by such mods if they were incurred for work required by a contract awarded before June 24.

4. For proposals submitted prior to 6/24, what is a company’s obligation (or ability) to update the proposal for the new FAR compensation cap?

The law does not require that proposals be updated. However, ordinarily, under FAR 1.108(d), changes to the FAR mandatorily apply only to contracts awarded under solicitations issued on or after the effective date of the change to FAR. But the new rule applies to contracts awarded on or after June 24, without regard to the date on which the solicitation for the contract was issued. It seems to me that COs who have solicitations out on the street ought to notify offerors or prospective offerors that the new rule will apply to the resultant contract. Offerors ought to be given a chance to modify or revise their proposals. If I had a proposal undergoing evaluation, and if I thought that the new rule would affect it in some way, I would not wait for the CO to contact me. I would contact the CO.

[pmh]

• Would this new rule apply to Nonprofit Organizations? This rule only references changing FAR 31.205-6, as a nonprofit we follow FAR 31.7. We always have the Allowable Cost and Payment clause tailored to add Alternate IV, which replaces 31.2 with 31.7. Although 52.216-7 does mention that established rates will be in accordance with FAR Subpart 42.7, which contains 10 USC 2324 (a).

• The federal register article above states "all" contractors, not just for-profit.

I would interpret all this to mean that it would apply to a nonprofit organization since it does reference the appropriate 10 USC 2324 section in 216-7, but we have some folks stating that it doesn't because FAR 31.7 hasn't been, or won't be changed.

Am I correct, or will this not apply?

[Retreadfed]

The new rule does not apply to non-profits. It only addressed 31.205-6. OMB will have to change its Circulars to implement the statute. In the meantime, FAR 52.216-7 requires you to comply with the cost principles in OMB Cir. 122 in effect on the date of a contract. The key, is when OMB changes its Circulars and when you receive a contract subject to the new version of the Circular.