Thursday, August 30, 2018

Establishing Reasonable Compensation under Cost Reimbursable Contracts FAR 31.205-6

It would appear and, considering the recent decisions in Metron, Inc., ASBCA Nos. 55624, 56751, 56752 (Jun. 4, 2012) and  Appeals of J.F. Taylor, Inc., ASBCA Nos. 56105, 56322 (January 18, 2012)), the courts agree that this process of establishing reasonable limits in contractor personnel compensation should not be as complicated nor as simple as the auditors or Contracting Officers like to tell you it should be.
I am finding a worrying trend in Cost Reimbursable contracting where Contracting Officers’ ("CO") are unwilling to review any market data and, are, instead, focusing their review of contractors' personnel compensation solely by looking at each proposed candidate’s salary history.  Another worrying trend is that even those COs who claim they are looking at market data, are, in their own admission, only looking at the proposed rates by other contractors on different projects in the same country as the benchmark and panacea of market comparability.

This is an inherently flawed approach and is inconsistent with what compensation FAR cost principle requires at FAR 31.205-6.  Nor is it consistent with what the courts have decided again and again regarding the establishment of limits on reasonable compensation under USG contracts.

Not only a candidate’s salary history is not always indicative of the market where a specific contractor is purchasing its labor, it is unnecessarily limiting the ability of under-paid professionals, coming from areas where gender, social class, industry or other factors determine their earning ability, to be able to earn a fair and reasonable rate on projects funded by US Government. 

Comparing salaries proposed by other contractors for unidentified “other projects” does not represent relevant market data either, and, is not an adequate and fair method.  This is because such other contractors may be operating at a different revenue bin level, or paying most of their compensation through incentives, fringe and deferred plans or otherwise proposing a lower salary which is balanced elsewhere on an overall total compensation level.

The correct process is supposed to work something like this:

Step 1 Determine the position to be evaluated (scope of work, minimum qualifications, maximum qualifications) and total compensation you are proposing to offer, i.e. salary + bonus+ fringe+ allowances + other.  You could use two levels to establish range:  minimum quals and years of experience and maximum quals and years of experience, for example.

Step 2 Identify survey or surveys of compensation for the position to be evaluated which match your company in terms of revenues, financial performance, industry, geographic location of where the labor is being purchased and other relevant factors: e.g. only security cleared personnel, unique knowledge, minimum academic requirements for comparable positions, requirements to travel and live in unhealthy conditions, etc.    
Step 3 Update the surveys to a common data point for each year through the use of escalating factors.  So, if your survey is for 2017 and you are evaluating the salary in 2018, look for escalation factors in the survey to bring it to the mid-point of 2018

Step 4 Combine data from various surveys for the relevant compensation elements (i.e. salary, incentive comp, fringe, deferred comp, pension, relocation allowance es, hardship differentials etc) and array as the average (mean) at selected percentile (i.e. take survey data at 50% or 75% depending on your company’s particulars – see Step 2 or use a range) and develop a composite number for each element.

Step 5 Determine which of the element numbers to use for comparative purposes, i.e. salary + bonus only, salary + bonus + fringe + allowance etc

Step 6 Apply a range of reasonableness such as 10% (DCAA is particularly fond of this number) to the number or numbers selected

Step 7 Adjust the actual total cash compensation, which is being compared for lower than normal fringe benefits – i.e. lesser paid vacation, lesser medical or other benefits, no 401K etc. calculate the monetary value of the difference and deduct from the actual proposed total cash compensation of the candidate for comparability purposes.

Step 8 Compare adjusted compensation to the range of reasonableness.

If reasonable, look up to see if there are any salary billing limitations under your contract.  So, if the total cash compensation (i.e. salary plus bonus) appears reasonable at $200,000, but you can only bill the Government base salary of $176,500 (e.g. USAID Contractor SALARY threshold), then you may consider offering up to $23,500 as incentive comp based on your consistently applied incentive compensation policy for achieving performance milestones.  

Even though bigger contractors are using a much more sophisticated approach than this, with bell curves and statistical adjustments, this is a good start and is certainly better than any arbitrary decisions based on salary histories.

We understand the Government’s desire not to overpay on high risk cost reimbursable contracts.  

However, streamlining the compensation decisions by requiring that contractors develop and provide for approval compensation plans (based, essentially, on the above) and agreeing on the limitations arising from their proposed and accepted methodologies, would surely eliminate the administrative burden which contributes immensely to the cost of performance and the frustration of both contracting parties.

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