UNITED STATES GOVERNMENT PRINTING OFFICE 

Washington, DC 20401 

Instruction 

1TILE SUBJECT CLASSIFICATION 

Contract Cost Principles 305.9 

and Procedures TOPIC 

General 

1. Purpose. To prescribe principles and procedures to be followed for (a) the pricing of 

contracts, subcontracts, and modifications to contracts and subcontracts whenever cost analysis 

is performed and (b) the determination, negotiation, or allowance of costs when required by a 

contract clause. 

2. Cancellation. This Instruction supersedes Procurement Directive PRA 306.2, Contract 

Cost Principles and Procedures, dated April 1, 1988. 

3. Inquiries. Inquiries, changes, or requests for an individual deviation to this Instruction 

shall be addressed to the Director, Analysis and Review Staff. 

MICHAEL F. DiMARIO 

Public Printer 

DISTR.IBUITON ORIGINATING OFFICE EFFECTIVE DATE ISSUE DATE 

F pp May 25, 1999 May 25, 1999 
Section 

1. 

2. 

3. 

4. 

GPO 305.9 

May 25, 1999 

pp 

CONTENTS 

General ................................................................................... . 

1. Scope .............................................................................. . 

2. Definitions ...................................................................... . 

Applicability .......................................................................... . 

I. Scope .............................................................................. . 

2. Objectives ....................................................................... . 

3. Fixed-price contracts ...................................................... . 

4. Contracts with commercial and other organizations ..... . 

5. Construction and architect-engineer contracts .............. . 

6. Advance agreements ..................................................... .. 

Principles and Standards ....................................................... . 

1 . General-Composition of total cost .............................. . 

2. Determining allowability ................................................ . 

3. Determining reasonableness ........................................... . 

4. Determining allocability ................................................. . 

5. Credits ............................................................................. . 

6. Accounting for unallowable costs ................................. . 

7. Construction and architect-engineer contracts .............. . 

8. Direct costs ..................................................................... . 

9. Indirect costs .................................................................. . 

I 0. Application of principles and procedures ...................... . 

Selected costs ........................................................................ . 

I. Public relations and advertising costs ........................... . 

2. Bad debts ........................................................................ . 

3. Bonding costs ................................................................. . 

4. Compensation for personal services .............................. . 

5. Contingencies ................................................................. . 

6. Contributions or donations ............................................. . 

7. Cost of money ................................................................ . 

8. Depreciation .................................................................... . 

9. Economic planning costs ............................................... . 

10. Employee morale, health, welfare, food service, and 

dormitory costs and credits. 

11. Entertainment costs ........................................................ . 

12. Fines and penalties ......................................................... . 

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Section 

13. Gains and losses on disposition or impairment of 

depreciable property or other capital assets. 

14. Idle facilities and idle capacity costs ............................ . 

15. Bid and proposal costs ................................................... . 

16. Insurance and indemnification ...................................... .. 

17. Interest and other financial costs ................................... . 

18. Labor relations costs ...................................................... . 

19. Legislative and political activity costs .......................... . 

20. Losses on other contracts ............................................... . 

21. Maintenance and repair costs ........................................ . 

22. Manufacturing and production engineering costs ......... . 

23. Material costs ................................................................. . 

24. Organization costs .......................................................... . 

25. Other business expenses ................................................ . 

26. Plant protection costs ..................................................... . 

27. Patent costs ..................................................................... . 

28. Plant reconversion costs ................................................. . 

29. Precontract costs ............................................................. . 

30. Professional and consultant service costs ...................... . 

31. Recruitment costs ........................................................... . 

32. Relocation costs .............................................................. . 

33. Rental costs .................................................................... . 

34. Royalties and other costs for use of patents ................. . 

35. Selling costs .................................................................... . 

36. Taxes ............................................................................... . 

37. Termination costs ........................................................... . 

38. Trade, business, technical, and professional activity 

costs. 

39. Training and educational costs ...................................... . 

40. Transportation costs ....................................................... . 

41. Travel costs .................................................................... . 

42. Costs related to legal and other proceedings ................ . 

43. Goodwill ......................................................................... . 

44. Costs of alcoholic beverages ......................................... . 

45. Asset valuations resulting from business combinations 

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GPO 305.9 

May 25, 1999 

pp 

CONTRACT COST PRINCIPLES AND PROCEDURES 

SECTION 1. GENERAL 

1. Scope. 

This Instruction contains cost principles and 

procedures for (a) the pricing of contracts, subcontracts, and modifications to contracts and subcontracts whenever cost analysis is performed and 

(b) the determination, negotiation, or allowance of 

costs when required by a contract clause. 

2. Definitions. 

"Accrued benefit cost method" means an actuarial cost method under which units of benefit are 

assigned to each cost accounting period and are 

valued as they accrue; i.e., based on the services 

performed by each employee in the period involved. The measure of normal cost under this 

method for each cost accounting period is the 

present value of the units of benefit deemed to be 

credited to employees for service in that period. 

The measure of the actuarial accrued liability at a 

plan's inception date is the present value of the 

units of benefit credited to employees for service 

prior to that date. (This method is also known as 

the unit credit cost method without salary projection.) 

"Accumulating costs" means collecting cost data 

in an organized manner, such as through a system 

of accounts. 

"Actual cash value" means the cost of replacing 

damaged property with other property of like kind 

and quality in the physical condition of the property immediately before the damage. 

"Actual costs" means amounts determined on 

the basis of costs incurred, as distinguished from 

forecasted costs. Actual costs include standard 

costs properly adjusted for applicable variances. 

"Actuarial accrued liability'' means pension cost 

attributable, under the actuarial cost method in 

use, to years prior to the current period considered 

by a particular actuarial valuation. As of such 

date, the actuarial accrued liability represents the 

excess of the present value of future benefits and 

administrative expenses over the present value of 

future normal costs for all plan participants and 

beneficiaries. The excess of the actuarial accrued 

1 

liability over the actuarial value of the assets of a 

pension plan is the unfunded actuarial liability. 

The excess of the actuarial value of the assets of 

a pension plan over the actuarial accrued liability 

is an actuarial surplus and is treated as a negative 

unfunded actuarial liability. 

"Actuarial assumption" means an estimate of future conditions affecting pension costs; e.g., mortality rate, employee turnover, compensation levels, earnings on pension plan assets, and changes 

in values of pension plan assets. 

"Actuarial cost method" means a technique that 

uses actuarial assumptions to measure the present 

value of future pension benefits and pension plan 

administrative expenses, and that assigns the cost 

of such benefits and expenses to cost accounting 

periods. The actuarial cost method includes the 

asset valuation method used to determine the actuarial value of the assets of a pension plan. 

"Actuarial gain and loss" means the effect on 

pension cost resulting from differences between actuarial assumptions and actual experience. 

"Actuarial valuation" means the determination, 

as of a specified date, of the normal cost, actuarial 

accrued liability, actuarial value of the assets of a 

pension plan, and other relevant values for the 

pension plan. 

"Allocate" means to assign an item of cost, or a 

group of items of cost, to one or more cost objectives. This term includes both direct assignment of 

cost and the reassignment of a share from an indirect cost pool. 

''Business unit" means any segment of an organization, or an entire business organization which 

is not divided into segments. 

"Compensated personal absence" means any absence from work for reasons such as illness, vacation, holidays, jury duty, military training, or personal activities for which an employer pays compensation directly to an employee in accordance 

with a plan or custom of the employer. 

"Cost input" means the cost, except general and 

administrative (G&A) expenses, which for contract 

costing purposes is allocable to the production of 

goods and services during a cost accounting period. 
GPO 305.9 

May 25, 1999 

pp 

"Cost objective" means a function, organizational 

subdivision, contract; or other work unit for which 

cost data are desired and for which provision is 

made to accumulate and measure the cost of processes, products, jobs, capitalized projects, etc. 

"Cost of capital committed to facilities" means 

an imputed cost determined by applying a cost of 

money rate to facilities capital. 

"Deferred compensation" means an award made 

by an employer to compensate an employee in a 

future cost accounting period or periods for services rendered in one or more cost accounting periods before the date of the receipt of compenl')ation 

by the employee. This definition shall not include 

the amount of year end accruals for salaries, 

wages, or bonuses that are to be paid within a reasonable period of time after the end of a cost accounting period. 

"Defined-benefit pension plan" means a pension 

plan in which the benefits to be paid, or the basis 

for determining such benefits, are established in 

advance and the contributions are intended to provide the stated benefits. 

"Defined-contribution pension plan" means a 

pension plan in which the contributions to be 

made are established in advance and the benefits 

are determined thereby. 

"Directly associated cost" means any cost which 

is generated solely as a result of the incidence of 

another cost, and which would not have been incurred had the other cost not been incurred. 

"Estimating costs" means the process of forecasting a future result in terms of cost, based upon information available at the time. 

"Expressly unallowable cost" means a particular 

item or type of cost which, under the express provisions of an applicable law, regulation, or contract, is specifically named and stated to be unallowable. 

"Facilities capital" means the net book value of 

tangible capital assets and of those intangible capital assets that are subject to amortization. 

"Final cost objective" means a cost objective that 

has allocated to it both direct and indirect costs 

and, in the contractor's accumulation system, is 

one of the final accumulation points. 

"Fiscal year" means the accounting period for 

which annual financial statements are regularly 

prepared, generally a period of 12 months, 52 

weeks, or 53 weeks. 

2 

"Funded pension costs" means the portion of 

pension cost for a current or prior cost accounting 

period that has been paid to a funding agency. 

"General and administrative (G&A) expense" 

means any management, financial, and other expense which is incurred by or allocated to a business unit and which is for the general management and administration of the business unit as a 

whole. G&A expense does not include those management expenses whose beneficial or causal relationship to cost objectives can be more directly 

measured by a base other than a cost input base 

representing the total activity of a business unit 

during a cost accounting period. 

"Home office" means an office responsible for directing or managing two or more, but not necessarily all, segments of an organization. It typically establishes policy for, and provides guidance 

to, the segments in their operations. It usually 

performs management, supervisory, or administrative functions, and may also perform service functions in support of the operations of the various 

segments. An organization which has intermediate 

levels, such as groups, may have several home offices which report to a common home office. An intermediate organization may be both a segment 

and a home office. 

"Immediate-gain actuarial cost method" means 

any of the several actuarial cost methods under 

which actuarial gains and losses are included as 

part of the unfunded actuarial liability of the pension plan, rather than as part of the normal cost 

of the plan. 

"Indirect cost pools" as used in this part means 

groupings of incurred costs identified with two or 

more cost objectives but not identified specifically 

with any final cost objective. 

"Insurance administration expenses" means the 

contractor's costs of administering an insurance 

program; e.g., the costs of operating an insurance 

or risk-management department, processing 

claims, actuarial fees, and service fees paid to insurance companies, trustees, or technical consultants. 

"Intangible capital asset" means an asset that 

has no physical substance, has more than minimal 

value, and is expected to be held by an enterprise 

for continued use or possession beyond the current 

accounting period for the benefits it yields. 

"Job" means a homogeneous cluster of work 

tasks, the completion of which services an enduring purpose for the organization. Taken as a 
whole, the collection of tasks, duties, and responsibilities constitutes the assignment for one or 

more individuals whose work is of the same nature 

and is performed at the same skill/responsibility 

level-as opposed to a position, which is a collection of tasks assigned to a specific individual. 

Within a job, there may be pay categories which 

are dependent on the degree of supervision required by the employee while performing assigned 

tasks which are performed by all persons with the 

same job. 

"Job class of employees" means employees performing in positions within the same job. 

"Labor cost at standard" means a preestablished 

measure of the labor element of cost, computed by 

multiplying labor-rate standard by labor-time 

standard. 

"Labor market" means a place where individuals 

exchange their labor for compensation. Labor markets are identified and defined by a combination of 

the following factors-

(1) Geography, 

(2) Education and/or technical background required, 

(3) Experience required by the job, 

( 4) Licensing or certification requirements, 

(5) Occupational membership, and 

(6) Industry. 

"Labor-rate standard" means a preestablished 

measure, expressed in monetary terms, of the 

price of labor. 

"Labor-time standard" means a preestablished 

measure, expressed in temporal terms, of the 

quantity of labor. 

"Material cost at standard" means a 

preestablished measure of the material elements of 

cost, computed by multiplying material-price 

standard by material-quantity standard. 

"Material-price standard" means a 

preestablished measure, expressed in monetary 

terms, of the price of material. 

"Material-quantity standard" means a 

preestablished measure, expressed in physical 

terms, of the quantity of material. 

"Moving average cost" means an inventory costing method under which an average unit cost is 

computed after each acquisition by adding the cost 

of the newly acquired units to the cost of the units 

of invent:>ry on hand and dividing this figure by 

the new total number of units. 

3 

GPO 305.9 

May 25, 1999 

pp 

"Non qualified pension plan' means any pension 

plan other than a qualified pension plan as defined 

in this Instruction. 

"Normal cost" means the annual cost attributable, under the actuarial cost method in use, to 

current and future years as of a particular valuation date excluding any payment in respect of an 

unfunded actuarial liability. 

"Original complement of low cost equipment" 

means a group of items acquired for the initial 

outfitting of a tangible capital asset or an operational unit, or a new addition to either. The items 

in the group individually cost less than the minimum amount established by the contractor for capitalization for the classes of assets acquired but in 

the aggregate they represent a material investment. The group, as a complement, is expected to 

be held for continued service beyond the current 

period. Initial outfitting of the unit is completed 

when the unit is ready and available for normal 

operations. 

"Pay-as-you-go cost method" means a method of 

recognizing pension cost only when benefits are 

paid to retired employees or their beneficiaries. 

"Pension plan" means a deferred compensation 

plan established and maintained by one or more 

employers to provide systematically for the payment of benefits to plan participants after their retirements; provided, that the benefits are paid for 

life or are payable for life at the option of the employees. Additional benefits such as permanent 

and total disability and death payments, and survivorship payments to beneficiaries of deceased 

employees may be an integral part of a pension 

plan. 

"Pension plan participant" means any employee 

or former employee of an employer or any member 

or former member of an employee organization, 

who is or may become eligible to receive a benefit 

from a pension plan which covers employees of 

such employer or members of such organization 

who have satisfied the plan's participation requirements, or whose beneficiaries are receiving or may 

be eligible to receive any such benefit. A participant whose employment status with the employer 

has not been terminated is an active participant of 

the employer's pension plan. 

"Pricing'' means the process of establishing a 

reasonable amount or amounts to be paid for supplies or services. 

"Profit center" as used in this part means the 

smallest organizationally independent segment of 
GPO 305.9 

May 25, 1999 

pp 

a company charged by management with profit 

and loss responsibilities. 

"Projected average loss" means the estimated 

long-term average loss per period for periods of 

comparable exposure to risk of loss. 

"Projected benefit cost method" means either-

(1) Any of the several actuarial cost methods 

which distribute the estimated total cost of all 

the employees' prospective benefits over a period 

of years, usually their working careers; 

(2) A modification of the accrued benefit cost 

method that considers projected compensation 

levels. 

"Proposal" means any offer or other submission 

used as a basis for pricing a contract, contract 

modification, or termination settlement or for securing payments thereunder. 

'Qualified pension plan' means a pension comprising a definite written program communicated 

to and for the exclusive benefit of employees that 

meets the criteria deemed essential by the Internal Revenue Service as set forth in the Internal 

Revenue code for preferential tax treatment regarding contributions, investments, and distributions. Any other plan is a nonqualified pension 

plan. 

"Residual value" means the proceeds, less removal and disposal costs, if any, realized upon disposition of a tangible capital asset. It usually is 

measured by the net proceeds from the sale or 

other disposition of the asset, or its fair value if 

the asset is traded in on another asset. The estimated residual value is a current forecast of the 

residual value. 

"Segment" means one of two or more divisions, 

product departments, plants, or other subdivisions 

of an organization reporting directly to a home office, usually identified with responsibility for profit 

and/or producing a product or service. The term includes Government-owned contractor-operated 

(GOCO) facilities, and joint ventures and subsidiaries (domestic and foreign) in which the organization has a majority ownership. The term also includes those joint ventures and subsidiaries (domestic and foreign) in which the organization has 

less than a majority of ownership, but over which 

it exercises control. 

"Self-insurance" means the assumption or retention of the risk of loss by the contractor, whether 

voluntarily or involuntarily. Self-insurance includes the deductible portion of purchased insurance. 

4 

"Self-insurance charge" means a cost which represents the projected average loss under a self-insurance plan. 

"Service life" means the period of usefulness of 

a tangible capital asset (or group of assets) to its 

current owner. The period may be expressed in 

units of time or output. The estimated service life 

of a tangible capital asset (or group of assets) is a 

current forecast of its service life and is the period 

over which depreciation cost is to be assigned. 

"Spread-gain actuarial cost method" means any 

of the several projected benefit actuarial cost 

methods under which actuarial gains and losses 

are included as part of the current and future normal costs of the pension plan. 

"Standard cost" means any cost computed with 

the use of preestablished measures. 

"Tangible capital asset" means an asset that has 

physical substance, more than minimal value, and 

is expected to be held by an enterprise for continued use or possession beyond the current accounting period for the services it yields. 

"Termination of employment gain or loss" means 

an actuarial gain or loss resulting from the difference between the assumed and actual rates at 

which pension plan participants separate from employment for reasons other than retirement, disability, or death. 

"Unallowable cost" means any cost which, under 

the provisions of any pertinent law, regulation, or 

contract, cannot be included in prices cost-reimbursements, or settlements under a GPO contract 

to which it is allocable. 

''Variance" means the difference between a 

preestablished measure and an actual measure. 

"Weighted average cost" means an inventory 

costing method under which an average unit cost 

is computed periodically by dividing the sum of the 

cost of beginning inventory plus the cost of acquisitions by the total number of units included m 

these two categories. 

SECTION 2. APPLICABILITY 

1. Scope. 

This section describes the applicability of the 

cost principles and procedures in succeeding subsections to various types of contracts and subcontracts. It also describes the need for advance 

agreements. 

2. Objectives. 

The overall objective is to provide that, to the 

extent practicable, all organizations of similar 
types doing similar work will follow the same cost 

principles and procedures. To achieve this uniformity, individual deviations concerning cost principles require advance approval of the Deputy 

Public Printer or designee. 

3. Fixed-price contracts. 

The applicable paragraphs of this Instruction 

shall be used in the pricing of fixed-price contracts, 

subcontracts, and modifications to contracts and 

subcontracts whenever (a) cost analysis is performed, or (b) a fixed-price contract clause requires 

the determination or negotiation of costs. However, 

application of cost principles to fixed-price contracts and subcontracts shall not be construed as 

a requirement to negotiate agreements on individual elements of cost in arriving at agreement on 

the total price. The final price accepted by the parties reflects agreement only on the total price. Further, notwithstanding the mandatory use of cost 

principles, the objective will continue to be to negotiate prices that are fair and reasonable, cost 

and other factors considered. 

4. Contracts with commercial and other organizations. 

This category includes all contracts and contract 

modifications for supplies or services, negotiated 

with organizations other than construction and architect-engineer and nonprofit organizations on the 

basis of cost. 

(a) The cost principles and procedures in sections 3 and 4 shall be used in pricing negotiated 

supply or service contracts and contract modifications with organizations cost analysis is performed. 

(b) In addition, the contracting officer shall incorporate the cost principles and procedures in sections 3 and 4 by reference in contracts with commercial organizations as the basis for-

(1) Determining reimbursable costs under-

(i) cost-reimbursement contracts and cost-reimbursement subcontracts under these contracts performed by commercial organizations 

and; 

(ii) the cost-reimbursement portion of timeand-materials contracts except when material 

is priced on a basi~ other than at cost; 

(2) Negotiating indirect cost rates; 

(3) Proposing, negotiating, or determining 

costs under terminated contracts; 

(4) Price revision of fixed-price incentive contracts; 

5 

GPO 305.9 

May 25, 1999 

pp 

(5) Price redetermination of price redetermination contracts; 

(6) Pricing changes and other contract modifications. 

5. Construction and architect-engineer contracts. 

(a) This category includes all contracts and contract modifications negotiated on the basis of cost 

for construction management, or construction alteration or repair of buildings, or other kinds of 

real property. It also includes architect-engineer 

contracts relating to construction contracts. 

(b) Except as otherwise provided in (d) of this 

subsection, the cost principles and procedures in 

sections 3 and 4 shall be used in the pricing of 

contracts and contract modifications in this category if cost analysis is performed. 

(c) In addition, the contracting officer shall incorporate the cost principles and procedures in sections 3 and 4 (as modified by (d) in this subsection) by reference in contracts in this category 

as the basis for-

(1) Determining reimbursable costs under 

cost-reimbursement contracts, including cost-reimbursement subcontracts thereunder; 

(2) Negotiating indirect cost rates; 

(3) Proposing, negotiating, or determining 

costs under terminated contracts; 

(4) Price revision of fixed-price incentive contracts; and 

(5) Pricing changes and other contract modifications. 

(d) Except as otherwise provided in this paragraph (d), the allowability of costs for construction 

and architect-engineer contracts shall be determined in accordance with section 3. 

(1) Because of widely varying factors such as 

the nature, size, duration, and location of the 

construction project, advance agreements as set 

forth in 2.6 for such items as horne office overhead, partners' compensation, employment of 

consultants, and equipment usage costs, are particularly important in construction and architect-engineer contracts. When appropriate they 

serve to express the parties' understanding and 

avoid possible subsequent disputes or disallowances. 

(2) "Construction equipment," as used in this 

subsection, means equipment in sound workable 

condition, either owned or controlled by the contractor or the subcontractor at any tier, or ob-
GPO 305.9 

May 25, 1999 

pp 

tained from a commercial rental source, and furnished for use under Government contracts. 

(i) Allowable ownership and operating costs 

shall be determined as follows: 

(A) Actual cost data shall be used when 

such data can be determined for both ownership and operating costs for each piece of 

equipment, or groups of similar serial or series equipment, from the contractor's accounting records. When such costs cannot be 

so determined, the contracting officer may 

specify the use of a schedule of predetermined rates or any part thereof to determine ownership and operating costs of construction equipment (see paragraphs (B) and 

(C) below). However, costs otherwise unallowable under this section shall not become 

allowable through the use of any schedule 

(see subsection 6(c) of this section). For example, schedules need to be adjusted for 

Government contract costing purposes if 

they are based on replacement cost, include 

unallowable interest costs, or use improper 

cost of money rates or computations. Contracting officers should review the computations and factors included within the specified schedule and ensure that unallowable 

or unacceptably computed factors are notallowed in cost submissions. 

(B) Predetermined schedules of construction equipment use rates (e.g., the Construction Equipment Ownership and Operating 

Expense Schedule, published by the U.S. 

Army Corps of Engineers, industry sponsored construction equipment cost guides, or 

commercially published schedules of construction equipment use cost) provide average ownership and operating rates for construction equipment. The allowance for operating costs may include costs for such 

items as fuel, filters, oil, and grease; servicing, repairs, and maintenance; and tire wear 

and repair. Costs of labor, mobilization, demobilization, overhead, and profit are generally not reflected in schedules, and separate consideration may be necessary. 

(C) When a schedule of predetermined use 

rates for construction equipment is used to 

determine direct costs, all costs of equipment that are included in the cost allowances provided by the schedule shall be 

identified and eliminated from the contrac6 

tor's other direct and indirect costs charged 

to the contract. If the contractor's accounting system provides for site or home office 

overhead allocations, all costs which are included in the equipment allowances may 

need to be included in any cost input base 

before computing the contractor's overhead 

rate. In periods of suspension of work pursuant to a contract clause, the allowance for 

equipment ownership shall not exceed an 

amount for standby cost as determined by 

the schedule or contract provision. 

(ii) Reasonable costs of renting construction 

equipment are allowable (but see paragraph 

(C) below). 

(A) Costs, such as maintenance and minor 

or running repairs incident to operating 

such rented equipment, that are not included in the rental rate are allowable. 

(B) Costs incident to major repair and 

overhaul of rental equipment are unallowable. 

(C) The allowability of charges for construction equipment rented from any division, subsidiary, or organization under common control, will be determined in accordance with 33(b)(3) in section 4. 

(3) Costs incurred at the job site incident to 

performing the work, such as the cost of superintendence, timekeeping and clerical work, engineering, utility costs, supplies, material handling, restoration and cleanup, etc., are allowable as direct or indirect costs, provided the accounting practice used is in accordance with the 

contractor's established and consistently followed cost accounting practices for all work. 

(4) Rental and any other costs, less any applicable credits incurred in acquiring the temporary use of land, structures, and facilities are 

allowable. Costs, less any applicable credits, incurred in constructing or fabricating structures 

and facilities of a temporary nature are allowable. 

6. Advance agreements. 

(a) The extent of allowability of the costs covered 

in this subsection applies broadly to many accounting systems in varying contract situations. 

Thus, the reasonableness and allocability and allowability of certain costs may be difficult to determine. To avoid possible subsequent disallowance 

or dispute based on unreasonableness, 

unallocability, or unallowability, contracting offi-
cers and contractors should seek advance agreement on the treatment of special or unusual costs. 

However, an advance agreement is not an absolute 

requirement and the absence of an advance agreement on any cost will not, in itself, affect the reasonableness, allocability, or allowability of that 

cost. 

(b) Advance agreements may be negotiated either before or during a contract but should be negotiated before incurrence of the costs involved. 

The agreements must be in writing, executed by 

both contracting parties, and incorporated into applicable current and future contracts. An advance 

agreement shall contain a statement of its applicability and duration. 

(c) The contracting officer is not authorized by 

this subsection 5 to agree to a treatment of costs 

inconsistent with this Instruction. For example, an 

advance agreement may not provide that, notwithstanding subsection 4.17, interest is allowable. 

(d) Advance agreements may be negotiated with 

a particular contractor for a single contract, a 

group of contracts, or all the contracts of a contracting office. 

(e) The cognizant contracting officer shall negotiate advance agreements except that an advance 

agreement affecting only one contract, or class of 

contracts from a single contracting office, shall be 

negotiated by a contracting officer in the contracting office, or an administrative contracting officer 

(ACO) when delegated by the contracting officer. 

When the negotiation authority is delegated, the 

ACO shall coordinate the proposed agreement with 

the contracting officer before executing the advance agreement. 

(f) Before negotiating an advance agreement, the 

Government negotiator shall-

(1) Determine if other contracting offices have 

a significant unliquidated dollar balance in contracts with the same contractor; 

(2) Inform any such office of the matters 

under consideration for negotiation; and 

(3) As appropriate, invite the office and the responsible audit unit to participate in 

prenegotiation discussions and/or in the subsequent negotiations. 

(g) Upon completion of the negotiation, the sponsor shall prepare and distribute to other interested 

offices, including the audit unit, copies of the executed agreement and a price negotiation memorandum, as applicable. 

7 

GPO 305.9 

May 25, 1999 

PP 

(h) Examples of costs for which advance agreements may be particularly important are-

(1) Compensation for personal services, including but not limited to allowances for off-site pay, 

incentive pay, location allowances, hardship pay, 

cost of living differential, and termination of defined benefit pension plans; 

(2) Use charges for fully depreciated assets; 

(3) Deferred maintenance costs; 

(4) Precontract costs; 

(5) Royalties and other costs for use of patents; 

(6) Selling and distribution costs; 

(7) Travel and relocation costs, as related to 

maximum per diem rates; 

(8) Costs of idle facilities and idle capacity; 

(9) Severance pay to employees on support 

service contracts; 

(10) Plant reconversion; 

(11) Professional services (e.g., legal, accounting, and engineering); 

(12) General and administrative costs (e.g., 

corporate, division, or branch allocations) attributable to the general management, supervision, 

and conduct of the contractor's business as a 

whole. These costs are particularly significant in 

construction, job-site, architect-engineer, facilities, and Government-owned contractor-operated 

(GOCO) plant contracts (see section 3.9([)); 

(13) Costs of construction plant and equipment; 

(14) Costs of public relations; and 

(15) Training and education costs. 

SECTION 3. PRINCIPLES AND STANDARDS 

1. General-Composition of total cost. 

(a) The total cost of a contract is the sum of the 

direct and indirect costs allocable to the contract, 

incurred or to be incurred, less any allocable credits, plus any allocable cost of money pursuant to 

4. 7. In ascertaining what constitutes a cost, any 

generally accepted method of determining or estimating costs that is equitable and is consistently 

applied may be used, including standard costs 

properly adjusted for applicable variances. 

(b) While the total cost of a contract includes all 

costs properly allocable to the contract, the allowable costs to the Government are limited to those 

allocable costs which are allowable pursuant to 

this Instruction. 
GPO 305.9 

May 25, 1999 

pp 

2. Determining allowability. 

(a) The factors to be considered in determining 

whether a cost is allowable include the following: 

(1) Reasonableness. 

(2) Allocability. 

(3) Standards promulgated by the CAS Board, 

if applicable; otherwise, generally accepted accounting principles and practices appropriate to 

the particular circumstances. 

(4) Terms of the contract. 

(5) Any limitations set forth in this section 3. 

(b) Certain cost principles in this section 3 incorporate the measurement, assignment, and 

allocability rules of selected CAS and limit the allowability of costs to the amounts determined 

using the criteria in those selected standards. Only 

those CAS or portions of standards specifically 

made applicable by the cost principles in this section are mandatory unless the contract is CAS-covered. Business units that are not otherwise subject 

to these standards under a CAS clause are subject 

to the selected standards only for the purpose of 

determining allowability of costs on Government 

contracts. Including the selected standards in the 

cost principles does not subject the business unit 

to any other CAS rules and regulations. The applicability of the CAS rules and regulations is determined by the CAS clause, if any, in the contract 

and the requirements of the standards themselves. 

(c) When contractor accounting practices are inconsistent with this Instruction, costs resulting 

from such inconsistent practices shall not be allowed in excess of the amount that would have resulted from using practices consistent with this Instruction. 

(d) A contractor is responsible for accounting for 

costs appropriately and for maintaining records, 

including supporting documentation, adequate to 

demonstrate that costs claimed have been incurred, are allocable to the contract, and comply 

with applicable cost principles in this Instruction. 

The contracting officer may disallow all or part of 

a claimed cost which is inadequately supported. 

3. Determining reasonableness. 

(a) 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. Reasonableness of specific costs 

must be examined with particular care in connection with firms or their separate divisions that 

may not be subject to effective competitive restraints. No presumption of reasonableness shall 

8 

be attached to the incurrence of costs by a contractor. If an initial review of the facts results in a 

challenge of a specific cost by the contracting officer or the contracting officer's representative, the 

burden of proof shall be upon the contractor to establish that such cost is reasonable. 

(b) What is reasonable depends upon a variety of 

considerations and circumstances including-

(!) Whether it is the type of cost generally recognized as ordinary and necessary for the conduct of the contractor's business or the contract 

performance; 

(2) Generally accepted sound business practices, arm's-length bargaining, Federal and State 

laws and regulations and Contract Terms and 

specifications; 

(3) The contractor's responsibilities to the Government, the owners of the business, employees, 

other customers, and the public at large; and 

(4) Any significant deviations from the contractor's established practices. 

4. Determining 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; 

(b) Benefits both the contract and other work, 

and can be distributed to them in reasonable proportion to the benefits received; or 

(c) Is necessary to the overall operation of the 

business, although a direct relationship to any 

particular cost objective cannot be shown. 

5. Credits. 

The applicable portion of any income, rebate, allowance, or other credit relating to any allowable 

cost and received by or accruing to the contractor 

shall be credited to the Government either as a 

cost reduction or by cash refund. See subsection 

5(j)(4) for rules governing refund or credit to the 

Government associated with pension adjustments 

and asset reversions. 

6. Accounting for unallowable costs. 

(a) Costs that are expressly unallowable or mutually agreed to be unallowable, including mutually agreed to be unallowable directly associated 

costs, shall be identified and excluded from any 

billing, claim, or proposal applicable to a Government contract. A directly associated cost is any 

cost which is generated solely as a result of incur-
ring another cost, and which 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. 

(b) Costs which specifically become designated 

as unallowable or as unallowable directly associated costs of unallowable costs as a result of a 

written decision furnished by a contracting officer 

shall be identified if included in or used in computing any billing, claim, or proposal applicable to a 

Government contract. This identification requirement applies also to any costs incurred for the 

same purpose under like circumstances as the 

costs specifically identified as unallowable under 

either this paragraph or paragraph (a) above. 

(c) The practices for accounting for, and presentation of, unallowable costs will be those as described in 48 CFR 9904.405, Accounting for Unallowable Costs. 

(d) If a directly associated cost is included in a 

cost pool which is allocated over a base that includes the unallowable cost with which it is associated, the directly associated cost shall remain in 

the cost pool. Since the unallowable costs will attract their allocable share of costs from the cost 

pool, no further action is required to assure disallowance of the directly associated costs. In all 

other cases, the directly associated costs, if material in amount, must be purged from the cost pool 

as unallowable costs. 

(e)(1) In determining the materiality of a directly associated cost, consideration should be 

given to the significance of-

(i) the actual dollar amount, 

(ii) the cumulative effect of all directly associated costs in a cost pool, or 

(iii) the ultimate effect on the cost of Government contracts. 

(2) Salary expenses of employees who participate 

in activities that generate unallowable costs shall 

be treated as directly associated costs to the extent 

of the time spent on the proscribed activity, provided the costs are material in accordance with 

paragraph (e)(1) above (except when such salary 

expenses are, themselves, unallowable). The time 

spent in proscribed activities should be compared 

to total time spent on company activities to determine if the costs are material. Time spent by employees outside the normal working hours should 

not be considered except when it is evident that an 

employee engages so frequently in company activities during periods outside normal working hours 

9 

GPO 305.9 

May 25, 1999 

pp 

as to indicate that such activities are a part of the 

employee's regular duties. 

(3) When a selected item of cost under subsections 4.1 through 4.45 provides that directly associated costs be unallowable, it is intended that 

such directly associated costs be unallowable only 

if determined to be material in amount in accordance with the criteria provided in paragraphs 

(e)(1) and (e)(2) above, except in those situations 

where allowance of any of the directly associated 

costs involved would be considered to be contrary 

to public policy. 

7. Construction and architect-engineer contracts. 

Specific principles and procedures for evaluating 

and determining costs in connection with contracts 

and subcontracts for construction, and architectengineer contracts related to construction projects 

are in 2.5. The applicability of these principles and 

procedures is set forth in 1.1 and 2.1. 

8. Direct costs. 

(a) A direct cost is any cost that can be identified specifically with a particular final cost objective. No final cost objective shall have allocated to 

it as a direct cost any cost, if other costs incurred 

for the same purpose in like circumstances have 

been included in any indirect cost pool to be allocated to that or any other final cost objective. 

Costs identified specifically with the contract are 

direct costs of the contract and are to be charged 

directly to the contract. All costs specifically identified with other final cost objectives of the contractor are direct costs of those cost objectives and 

are not to be charged to the contract directly or indirectly. 

(b) For reasons of practicality, any direct cost of 

minor dollar amount may be treated as an indirect 

cost if the accounting treatment-

(!) Is consistently applied to all final cost objectives; and 

(2) Produces substantially the same results as 

treating the cost as a direct cost. 

9. Indirect costs. 

(a) An indirect cost is any cost not directly identified with a single, final cost objective, but identified with two or more final cost objectives or an intermediate cost objective. It is not subject to treatment as a direct cost. After direct costs have been 

determined and charged directly to the contract or 

other work, indirect costs are those remaining to 

be allocated to the several cost objectives. An indi-
GPO 305.9 

May 25, 1999 

pp 

rect cost shall not be allocated to a final cost objective if other costs incurred for the same purpose in 

like circumstances have been included as a direct 

cost of that or any other final cost objective. 

(b) Indirect costs shall be accumulated by logical 

cost groupings with due consideration of the reasons for incurring such costs. Each grouping 

should be determined so as to permit distribution 

of the grouping on the basis of the benefits accruing to the several cost objectives. Commonly, manufacturing overhead, selling expenses, and general 

and administrative (G&A) expenses are separately 

grouped. Similarly, the particular case may require subdivision of these groupings, e.g., building 

occupancy costs might be separable from those of 

personnel administration within the manufacturing overhead group. This necessitates selecting a 

distribution base common to all cost objectives to 

which the grouping is to be allocated. The base 

should be selected so as to permit allocation of the 

grouping on the basis of the benefits accruing to 

the several cost objectives. When substantially the 

same results can be achieved through less precise 

methods, the number and composition of cost 

groupings should be governed by practical considerations and should not unduly complicate the allocation. 

(c) Once an appropriate base for distributing indirect costs has been accepted, it shall not be fragmented by removing individual elements. All items 

properly includable in an indirect cost base should 

bear a pro rata share of indirect costs irrespective 

of their acceptance as Government contract costs. 

For example, when a cost input base is used for 

the distribution of G&A costs, all items that would 

properly be part of the cost input base, whether allowable or unallowable, shall be included in the 

base and bear their pro rata share of G&A costs. 

(d) The contractor's method of allocating indirect 

costs shall be in accordance with standards promulgated by the CAS Board, if applicable to the 

contract; otherwise, the method shall be in accordance with generally accepted accounting principles 

which are consistently applied. The method may 

require examination when: 

(1) Substantial differences occur between the 

cost patterns of work under the contract and the 

contractor's other work; 

(2) Significant changes occur in the nature of 

the business, the extent of subcontracting, fixedasset improvement programs, inventories, the 

volume of sales and production, manufacturing 

10 

processes, the contractor's products, or other relevant circumstances; or 

(3) Indirect cost groupings developed for a contractor's primary location are applied to offsite 

locations. Separate cost groupings for costs allocable to offsite locations may be necessary to 

permit equitable distribution of costs on the 

basis of the benefits accruing to the several cost 

objectives. 

(e) A base period for allocating indirect costs is 

the cost accounting period during which such costs 

are incurred and accumulated for distribution to 

work performed in that period. The criteria and 

guidance in CAS 406 for selecting the cost accounting periods to be used in allocating indirect costs 

are incorporated herein for application to contracts 

subject to full CAS coverage. For contracts subject 

to modified CAS coverage and for non-CAS-covered 

contracts, the base period for allocating indirect 

costs will normally be the contractor's fiscal year. 

But a shorter period may be appropriate-

(1) For contracts in which performance involves only a minor portion of the fiscal year; or 

(2) When it is general practice in the industry 

to use a shorter period. 

When a contract is performed over an extended period, as many base periods shall be used as are required to represent the period of contract performance. 

(f) Special care should be exercised in applying 

the principles of paragraphs (b), (c), and (d) above 

when Government-owned contractor-operated 

(GOCO) plants are involved. The distribution of 

corporate, division, or branch office G&A expenses 

to such plants operating with little or no dependence on corporate administrative activities may require more precise cost groupings, detailed accounts screening, and carefully developed distribution bases. 

10. Application of principles and procedures. 

(a) Costs shall be allowed to the extent they are 

reasonable, allocable, and determined to be allowable under this section. These criteria apply to all 

of the selected items that follow, even if particular 

guidance is provided for certain items for emphasis 

or clarity. 

(b) Costs incurred as reimbursements or payments to a subcontractor under a cost-reimbursement, fixed-price incentive, or price redeterminable 

type subcontract of any tier above the first firmfixed-price subcontract or fixed-price subcontract 
with economic price adjustment provisions are allowable to the extent that allowance is consistent 

with the appropriate subsection of this Instruction 

applicable to the subcontract involved. Costs incurred as payments under firm-fixed-price subcontracts or fixed-price subcontracts with economic 

price adjustment provisions or modifications thereto, when cost analysis was performed, shall be allowable only to the extent that the price was negotiated in accordance with 2.3. 

(c) Section 4 does not cover every element of 

cost. Failure to include any item of cost does not 

imply that it is either allowable or unallowable. 

The determination of allowability shall be based 

on the principles and standards in this section and 

the treatment of similar or related selected items. 

When more than one subsection in this section is 

relevant to a contractor cost, the cost shall be apportioned among the applicable subsections, and 

the determination of allowability of each portion 

shall be based on the guidance contained in the 

applicable subsection. When a cost, to which more 

than one subsection in this section is relevant, 

cannot be apportioned, the determination of allowability shall be based on the guidance contained in 

the subsection that most specifically deals with, or 

best captures the essential nature of, the cost at 

issue. 

SECTION 4.-SELECTED COSTS 

1. Public relations and advertising costs. 

(a) "Public relations" means all functions and activities dedicated to: 

(1) Maintaining, protecting, and enhancing the 

image of a concern or its products; or 

(2) Maintaining or promoting reciprocal understanding and favorable relations with the public 

at large, or any segment of the public. The term 

public relations includes activities associated 

with areas such as advertising, customer relations, etc. 

(b) "Advertising" means the use of media to promote the sale of products or services and to accomplish the activities referred to in paragraph (d) of 

this subsection, regardless of the medium employed, when the advertiser has control over the 

form and content of what will appear, the media 

in which it will appear, and when it will appear. 

Advertising media include but are not limited to 

conventions, exhibits, free goods, samples, magazines, newspapers, trade papers, direct mail, deal11 

GPO 305.9 

May 25, 1999 

PP 

er cards, window displays, outdoor advertising, 

radio, and television. 

(c) Public relations and advertising costs include 

the costs of media time and space, purchased services performed by outside organizations, as well as 

the applicable portion of salaries, travel, and 

fringe benefits of employees engaged in the functions and activities identified in paragraphs (a) 

and (b) of this subsection. 

(d) The only allowable advertising costs are 

those that are--

(1) Specifically required by contract, or that 

arise from requirements of Government contracts and that are exclusively for-

(i) Recruiting personnel required for performing contractual obligations, when considered in conjunction with all other recruitment 

costs (but see 4.31); 

(ii) Acquiring scarce items for contract performance; or 

(iii) Disposing of scrap or surplus materials 

acquired for contract performance. . 

(2) Cost of activities to promote sales of products normally sold to the U.S. Government, including trade shows, which contain a significant 

effort to promote exports from the United States. 

Such costs are allowable, notwithstanding subparagraphs (f)(1), (f)(3), (f)( 4)(ii), and (f)(5) of this 

subsection. However, such costs do not include 

the costs of memorabilia (e.g., models, gifts, and 

souvenirs), alcoholic beverages, entertainment, 

and physical facilities which are primarily used 

for entertainment rather than product promotion. 

(e) Allowable public relations costs include the 

following: 

(1) Costs specifically required by contract. 

(2) Costs of-

(i) Responding to inquiries on company policies and activities; 

(ii) Communicating with the public, press, 

stockholders, creditors, and customers; and 

(iii) Conducting general liaison with news 

media and Government public relations officers, to the extent that such activities are limited to communication and liaison necessary to 

keep the public informed on matters of public 

concern such as notice of contract awards, 

plant closings or openings, employee layoffs or 

rehires, financial information, etc. 
GPO 305.9 

May 25, 1999 

pp 

(3) Costs of participation in community service 

activities (e.g., blood bank drives, charity drives, 

savings bond drives, disaster assistance, etc.). 

(4) Costs of plant tours and open houses (but 

see paragraph (D(5)). 

(f) Unallowable public relations and advertising 

costs include the following: 

(1) All public relations and advertising costs, 

other than those specified in paragraphs (d) and 

(e) of this subsection, whose primary purpose is 

to promote the sale of products or services by 

stimulating interest in a product or product line 

(except for those costs made allowable under 

4.35(c)), or by disseminating messages calling favorable attention to the contractor for purposes 

of enhancing the company image to sell the company's products or services. 

(2) All costs of trade shows and other special 

events which do not contain a significant effort 

to promote the export sales of products normally 

sold to the U.S. Government. 

(3) Costs of sponsoring meetings, conventions, 

symposia, seminars, and other special events 

when the principal purpose of the event is other 

than dissemination of technical information or 

stimulation of production. 

( 4) Costs of ceremonies such as--

(i) Corporate celebrations and 

(ii) New product announcements. 

(5) Costs of promotional material, motion pictures, videotapes, brochures, handouts, magazines, and other media that are designed to call 

favorable attention to the contractor and its activities. 

(6) Costs of souvenirs, models, imprinted 

clothing, buttons, and other mementos provided 

to customers or the public. 

(7) Costs of memberships in civic and community organizations. 

2. Bad debts. 

Bad debts, including actual or estimated losses 

arising from uncollectible accounts receivable due 

from customers and other claims, and any directly 

associated costs such as collection costs, and legal 

costs are unallowable. 

3. Bonding costs. 

(a) Bonding costs arise when the Government requires assurance against financial loss to itself or 

others by reason of the act or default of the contractor. They arise also in instances where the 

contractor requires similar assurance. Included are 

12 

such bonds as bid, performance, payment, advance 

payment, infringement, and fidelity bonds. 

(b) Costs of bonding required pursuant to the 

terms of the contract are allowable. 

(c) Costs of bonding required by the contractor 

in the general conduct of its business are allowable 

to the extent that such bonding is in accordance 

with sound business practice and the rates and 

premiums are reasonable under the circumstances. 

4. Compensation for personal services. 

(a) General. Compensation for personal services 

includes all remuneration paid currently or accrued, in whatever form and whether paid immediately or deferred, for services rendered by employees to the contractor during the period of contract performance (except as otherwise provided 

for in other paragraphs of this subsection. It includes, but is not limited to, salaries; wages; directors' and executive committee members' fees; bonuses (including stock bonuses); incentive awards; 

employee stock options and stock appreciation 

rights; employee stock ownership plans; employee 

insurance; fringe benefits; contributions to pension, other post-retirement benefits, annuity, and 

employee incentive compensation plans; and allowances for off-site pay, incentive pay, location allowances, hardship pay, severance pay, and cost of living differential. Compensation for personal services is allowable subject to the following general 

criteria and additional requirements contained in 

other parts of this cost principle: 

(1) Compensation for personal services must 

be for work performed by the employee in the 

current year and must not represent a retroactive a<ljustment of prior years' salaries or 

wages (but see paragraphs (g), (h), (j), (k), and 

(1) below). 

(2) The compensation in total must be reasonable for the work performed; however, specific 

restrictions on individual compensation elements 

must be observed where they are prescribed. 

(3) The compensation must be based upon and 

conform to the terms and conditions of the contractor's established compensation plan or practice followed so consistently as to imply, in effect, an agreement to make the payment. 

(4) No presumption of allowability will exist 

where the contractor introduces major revisions 

of existing compensation plans or new plans and 

the contractor-

(i) Has not notified the cognizant ACO of 

the changes either before their implementa-
tion or within a reasonable period after their 

implementation, and 

(ii) Has not provided the Government, either 

before implementation or within a reasonable 

period after it, an opportunity to review the 

allowability of the changes. 

(5) Costs that are unallowable under other 

paragraphs of this Instruction shall not be allowable under this subsection 4.4 solely on the 

basis that they constitute compensation for personal services. 

(b) Reasonableness. The compensation for personal services paid or accrued to each employee 

must be reasonable for the work performed. Compensation will be considered reasonable if each of 

the allowable elements making up the employee's 

compensation package is reasonable. This paragraph addresses the reasonableness of compensation, except when the compensation is set by provisions of a labor-management agreement under 

terms of the Federal Labor Relations Act or similar state statutes. The tests for reasonableness of 

labor-management agreements are set forth in 

paragraph (c) of this subsection. In addition to the 

provisions of 3.3., in testing the reasonableness of 

individual elements for particular employees or job 

classes of employees, consideration should be given 

to factors determined to be relevant by the contracting officer. 

(1) Among other factors which may be relevant include general conformity with the compensation practices of other firms of the same 

size, the compensation practices of other firms in 

the same industry, the compensation practices of 

firms in the same geographic area, the compensation practices of firms engaged in predominantly non-Government work, and the cost of 

comparable services obtainable from outside 

sources. The appropriate factors for evaluating 

the reasonableness of compensation depend on 

the degree to which those factors are representative of the labor market for the job being evaluated. The relative significance of factors will 

vary according to circumstances. In administering this principle, it is recognized that not every 

compensation case need be subjected in detail to 

the tests described in this cost principle. The 

tests need be applied only when a general review reveals amounts or types of compensation 

that appear unreasonable or unjustified. Based 

on an initial review of the facts, contracting officers or their representatives may challenge the 

13 

GPO 305.9 

May 25, 1999 

pp 

reasonableness of any individual element or the 

sum of the individual elements of compensation 

paid or accrued to particular employees or job 

classes of employees. In such cases, there is no 

presumption of reasonableness and, upon challenge, the contractor must demonstrate the reasonableness of the compensation item in question. In doing so, the contractor may introduce, 

and the contracting officer will consider, not only 

any circumstances surrounding the compensation item challenged, but also the magnitude of 

other compensation elements which may be 

lower than would be considered reasonable in 

themselves. However, the contractor's right to 

introduce offsetting compensation elements into 

consideration is subject to the following limitations: 

(i) Offsets will be considered only between 

the allowable elements of an employee's (or a 

job class of employees') compensation package 

or between the compensation packages of employees in jobs within the same job grade or 

level. 

(ii) Offsets will be considered only between 

the allowable portion of the following compensation elements of employees or job classes 

of employees: 

(A) Wages and salaries. 

(B) Incentive bonuses. 

(C) Deferred compensation. 

(D) Pension and savings plan benefits. 

(E) Health insurance benefits. 

(F) Life insurance benefits. 

(G) Compensated personal absence benefits. 

However, any of the above elements or portions 

thereof, whose amount is not measurable, shall not 

be introduced or considered as an offset item. 

(iii) In considering offsets, the magnitude of 

the compensation elements in question must 

be taken into account. In determining the 

magnitude of compensation elements, the timing of receipt by the employee must be considered. 

(2) Compensation costs under certain conditions give rise to the need for special consideration. Among such conditions are the following: 

(i) Compensation to--

(A) owners of closely held corporations, 

partners, sole proprietors, or members of 

their immediate families, or 
GPO 305.9 

May 25, 1999 

pp 

(B) persons who are contractually committed to acquire a substantial financial interest in the contractor's enterprise. 

Determination should be made that salaries are 

reasonable for the personal services rendered rather than being a distribution of profits. Compensation in lieu of salary for services rendered by partners and sole proprietors will be allowed to the extent that it is reasonable and does not constitute 

a distribution of profits. For closely held corporations, compensation costs covered by this subsection shall not be recognized in amounts exceeding those costs that are deductible as compensation under the Internal Revenue Code and regulations under it. 

(ii) Any change in a contractor's compensation policy that results in a substantial increase in the contractor's level of compensation, particularly when it was concurrent with 

an increase in the ratio of Government contracts to other business, or any change in the 

treatment of allowability of specific types of 

compensation due to changes in Government 

policy. Contracting officers or their representatives should normally challenge increased 

costs where major revisions of existing compensation plans or new plans are introduced 

by the contractor, and the contractor-

(A) Has not notified the cognizant contracting officer of the changes either before 

their implementation or within a reasonable 

period after their implementation; and 

(B) Has not provided the Government, either before implementation or within a reasonable period after it, an opportunity to review the reasonableness of the changes. 

(iii) The contractor's business is such that 

its compensation levels are not subject to the 

restraints that normally occur in the conduct 

of competitive business. 

(iv) The contractor incurs costs for compensation in excess of the amounts which are 

deductible under the Internal Revenue Code 

and regulations issued under it. 

(c) Labor-management agreements. If costs of 

compensation established under "arms's length" 

negotiated labor-management agreements are otherwise allowable, the costs are reasonable if they 

are not unwarranted by the character and circumstances of the work or discriminatory against 

the Government. The application of the provisions 

of a labor-management agreement designed to 

14 

apply to a given set of circumstances and conditions of employment (e.g., work involving extremely hazardous activities or work not requiring 

recurrent use of overtime) is unwarranted when 

applied to a Government contract involving significantly different circumstances and conditions of 

employment (e.g., work involving less hazardous 

activities or work continually requiring use of 

overtime). It is discriminatory against the Government if it results in employee compensation (in 

whatever form or name) in excess of that being 

paid for similar non-Government work under comparable circumstances. Disallowance of costs will 

not be made under this paragraph (c) unles&-

(1) The contractor has been permitted an opportunity to justify the costs; and 

(2) Due consideration has been given to 

whether unusual conditions pertain to Government contract work, imposing burdens, hardships, or hazards on the contractor's employees, 

for which compensation that might otherwise 

appear unreasonable is required to attract and 

hold necessary personnel. 

(d) Forms of payment. (1) Compensation for personal services includes compensation paid or to be . 

paid in the future to employees in the form of 

cash, corporate securities, such as stocks, bonds, 

and other financial instruments (see paragraph 

(d)(2) of this subsection regarding valuation), or 

other assets, products, or services. 

(2) When compensation is paid with securities of 

the contractor or of an affiliate, the following additional restrictions apply: 

(i) Valuation placed on the securities shall be 

the fair market value on the measurement date 

(i.e., the first date the number of shares awarded is known) determined upon the most objective 

basis available. 

(ii) Accruals for the cost of securities before issuing the securities to the employees shall be 

subject to adjustment according to the possibilities that the employees will not receive the securities and that their interest in the accruals will 

be forfeited. 

(e) Domestic and foreign differential pay. (1) 

When personal services are performed in a foreign 

country, compensation may also include a differential that may properly consider all expenses associated with foreign employment such as housing, 

cost of living adjustments, transportation, bonuses, 

additional Federal, State, local or foreign income 
taxes resulting from foreign assignment, and other 

related expenses. 

(2) Differential allowances for additional Federal, State, or local income taxes resulting from 

domestic assignments are unallowable. 

(f) Bonuses and incentive compensation. (1) Incentive compensation for management employees, 

cash bonuses, suggestion awards, safety awards, 

and incentive compensation based on production, 

cost reduction, or efficient performance are allowable provided the awards are paid or accrued 

under an agreement entered into in good faith between the contractor and the employees before the 

services are rendered or pursuant to an established plan or policy followed by the contractor so 

consistently as to imply, in effect, an agreement to 

make such payment and the basis for the award is 

supported. 

(2) When the bonus and incentive compensation 

payments are deferred, the costs are subject to the 

requirements of paragraphs (f)(1) and (k) of this 

subsection. 

(g) Severance pay. (1) Severance pay, also commonly referred to as dismissal wages, is a payment 

in addition to regular salaries and wages by contractors to workers whose employment is being involuntarily terminated. Payments for early retirement incentive plans are covered in paragraph 

(j)(6). 

(2) Severance pay to be allowable must meet the 

general allowability criteria in paragraph (g)(2)(i) 

of this subsection, and, depending upon whether 

the severance is normal or abnormal, criteria in 

paragraph (g)(2)(ii) for normal severance pay or 

paragraph (g)(2)(iii) for abnormal severance pay 

also apply. 

(i) Severance pay is allowable only to the extent that, in each case, it is required by-

(A) law, 

(B) employer-employee agreement, 

(C) established policy that constitutes, in effect, an implied agreement on the contractor's 

part, or 

(D) circumstances of the particular employment. 

Payments made in the event of employment with 

a replacement contractor where continuity of employment with credit for prior length of service is 

preserved under substantially equal conditions of 

employment, or continued employment by the contractor at another facility, subsidiary, affiliate, or 

15 

GPO 305.9 

May 25, 1999 

PP 

parent company of the contractor are not severance pay and are unallowable. 

(ii) Actual normal turnover severance payments shall be allocated to all work performed 

in the contractor's plant, or where the contractor 

provides for accrual of pay for normal 

severances, that method will be acceptable if the 

amount of the accrual is reasonable in light of 

payments actually made for normal severances 

over a representative past period and if amounts 

accrued are allocated to all work performed m 

the contractor's plant. 

(iii) Abnormal or mass severance pay is of 

such a conjectural nature that measurement of 

costs by means of an accrual will not achieve equity to both parties. Thus, accruals for this purpose are not allowable. However, the Government recognizes its obligation to participate, to 

the extent of its fair share, in any specific payment. Thus, allowability will be considered on a 

case-by-case basis. 

(h) Backpay. (1) Backpay resulting from violations of Federal labor laws or the Civil Rights Act 

of 1964. Backpay may result from a negotiated settlement, order, or court decree that resolves a violation of Federal labor laws or the Civil Rights Act 

of 1964. Such backpay falls into two categories: 

One requiring the contractor to pay employees additional compensation for work performed for 

which they were underpaid, and the other resulting from other violations, such as when the employee was improperly discharged, discriminated 

against, or other circumstances for which the backpay was not additional compensation for work performed. Backpay resulting from underpaid work is 

compensation for the work performed and is allowable. All other backpay resulting from violation of 

Federal labor laws or the Civil Rights Act of 1964 

is unallowable. 

(2) Other backpay. Backpay may also result from 

payments to employees (union and non-union) for 

the difference in their past and current wage rates 

for working without a contract or labor agreement 

during labor management negotiations. Such backpay is allowable. Backpay to nonunion employees 

based upon results of union agreement negotiations is allowable only if-

(i) A formal agreement or understanding exists between management and the employees 

concerning these payments, or 

(ii) An established policy or practice exists and 

is followed by the contractor so consistently as to 
GPO 305.9 

May 25, 1999 

pp 

imply, in effect, an agreement to make such payment. 

(i) Compensation based on changes in the prices 

of corporate securities or corporate security ownership, such as stock options, stock appreciation 

rights, phantom stock plans, and junior stock conversions. 

(1) Any compensation which is calculated, or 

valued, based on changes in the price of corporate securities is unallowable. 

(2) Any compensation represented by dividend 

payments or which is calculated based on dividend payments is unallowable. 

(3) If a contractor pays an employee in lieu of 

the employee receiving or exercising a right, option, or benefit which would have been unallowable under this paragraph (i), such payments 

are also unallowable. 

(j) Pension costs. (1) A pension plan as defined in 

1.2, is a deferred-compensation plan. Additional 

benefits such as permanent and total disability 

and death payments and survivorship payments to 

beneficiaries of deceased employees may be treated 

as pension costs, provided the benefits are an integral part of the pension plan and meet all the criteria pertaining to pension costs. 

(2) Pension plans are normally segregated into 

two types of plans: defined-benefit or defined-contribution pension plans. The cost of all definedbenefit pension plans shall be measured, allocated, 

and accounted for in compliance with the provisions of 48 CFR 9904.412, Cost Accounting Standard for Composition and Measurements of Pension 

Costs, and 48 CFR 9904.413 Adjustment and Allocation of Pension Cost. The costs of all defined-contribution pension plans shall be measured, allocated, and accounted for in accordance with the 

provisions of 48 CFR 9904.412 and 48 CFR 

9904.413. Pension costs are allowable subject to 

the referenced standards and the cost limitations 

and exclusions set forth in this paragraph and in 

paragraphs (j)(2)(i) and (j)(3) through (8) of this 

subsection. 

(i) Except for nonqualified pension plans using 

the pay-as-you-go cost method, to be allowable in 

the current year, pension costs must be funded 

by the time set for filing the Federal income tax 

return or any extension thereof. Pension costs 

assigned to the current year, but not funded by 

the tax return time, shall not be allowable in 

any subsequent year. For nonqualified pension 

plans using the pay-as-you-go cost method, to be 

16 

allowable in the current year, pension costs 

must be allocable in accordance with 48 CFR 

9904.412-50( d)(3 ). 

(ii) Pension payments must be reasonable in 

amount and must be paid pursuant to an agreement entered into in good faith between the contractor and employees before the work or services are performed; and the terms and conditions 

of the established plan. The cost of changes in 

pension plans that are discriminatory to the 

Government or are not intended to be applied 

consistently for all employees under similar circumstances in the future are not allowable. 

(iii) Except as provided for early retirement 

benefits in paragraph (j)(7) of this subsection, 

one-time-only pension supplements not available 

to all participants of the basic plan are not allowable as pension costs unless the supplemental benefits represent a separate pension 

plan and the benefits are payable for life at the 

option of the employee. 

(iv) Increases in payments to previously retired plan participants covering cost-of-living adjustments are allowable if paid in accordance 

with a policy or practice consistently followed. 

(3) Defined-benefit pension plans. This paragraph covers pension plans in which the benefits 

to be paid or the basis for determining such benefits are established in advance and the contributions are intended to provide the stated benefits. 

The cost limitations and exclusions pertaining to 

defined-benefit plans are as follows: 

(i) Except for nonqualified pension plans, pension costs (see 48 CFR 9904.412-40(a)(1)) assigned to the current accounting period, but not 

funded during it, shall not be allowable in subsequent years (except that a payment made to a 

fund by the time set for filing the Federal income tax return or any extension thereof is considered to have been made during such taxable 

year). However, any portion of a pension cost 

computed for a cost accounting period, that exceed the amount required to be funded pursuant 

to a waiver granted under the provisions of the 

Employee's Retirement Income Security Act of 

1974 (ERISA) will be allowable in those future 

accounting periods in which the funding occurs 

of such excess amounts (see 48 CFR 9904.412-

(50)(d)(3)). 

(ii) Any amount funded in excess of the pension cost assigned to a cost accounting period is 

not allowable and shall be accounted for as set 
forth at 48 CFR 9904.412-50(a)(4), and shall be 

allowable in the future period to which it is assigned, to the extent it is allocable, reasonable, 

and not otherwise unallowable. 

(iii) Increased pension costs caused by delay in 

funding beyond 30 days after each quarter of the 

year to which they are assignable are unallowable. If a composite rate is used for allocating 

pension costs between the segments of a company and if, because of differences in the timing 

of the funding by the segments, an inequity exists, allowable pension costs for each segment 

will be limited to that particular segment's calculation of pension costs as provided for in 48 

CFR 9904.413-50(c). Determinations of unallowable costs shall be made in accordance with the 

actuarial method cost used in calculating pension costs. 

(iv) Allowability of the cost of indemnifying 

the Pension Benefit Guaranty Corporation 

(PBGC) under ERISA Section 4062 or 4064 arising from terminating an employee deferred-compensation plan will be considered on a case-bycase basis; provided, that if insurance was required by the PBGC under ERISA Section 4023, 

it was so obtained and the indemnification payment is not recoverable under the insurance. 

Consideration under the foregoing circumstances 

will be primarily for the purpose of appraising 

the extent to which the indemnification payment 

is allocable to Government work. If a beneficial 

or other equitable relationship exists, the Government will participate, despite the requirements of 4.16 (a)(3) and (b), in the indemnification payment to the extent of its fair share. 

(v) Increased pension costs resulting from the 

withdrawal of assets from a pension fund and 

transfer to another employee benefit plan fund, 

or transfer of assets to another account within 

the same fund, are unallowable except to the extent unauthorized by an advance agreement. If 

the withdrawal of assets from a pension fund is 

a plan termination under ERISA, the provisions 

of paragraph (j)(4) of this subsection apply. The 

advance agreement shall-

(A) State the amount of the Government's 

equitable share in the gross amount withdrawn or transferred; and 

(B) Provide that the Government receive a 

credit equal to the amount of the Government's equitable share of the gross withdrawal 

or transfer. 

17 

GPO 305.9 

May 25, 1999 

pp 

( 4) Pension adjustments and asset reversion. (i) 

For segment closings, pension plan terminations, 

or curtailment of benefits, the adjustment amount 

shall be the amount measured, assigned, and allocated in accordance with 48 CFR 9904.413-

50(c)(12) for contracts and subcontracts that are 

subject to Cost Accounting Standards (CAS) Board 

rules and regulations (48 CFR Chapter 99). For 

contracts and subcontracts that are not subject to 

CAS, the adjustment amount shall be the amount 

measured, assigned, and allocated in accordance 

with 48 CFR 9904.413-50(c)(12), except the numerator of the fraction at 48 CFR 9904.413-

50(c)(12)(vi) shall be the sum of the pension plan 

costs allocated to all non-CAS-covered contracts 

and subcontracts that are subject to section 3 or 

for which cost or pricing data were submitted. 

(ii) For all other situations where assets revert 

to the contractor, or such assets are constructively 

received by it for any reason, the contractor, shall 

at the Government's option, make a refund or give 

a credit to the Government for its equitable share 

of the gross amount withdrawn. The Government's 

equitable share shall reflect the Government's participation in pension costs through those contracts 

for which cost or pricing data were submitted or 

that are subject to section 3. Excise taxes on pension plan asset revisions or withdrawals under 

this subparagraph (j)( 4)(ii) are unallowable in accordance with subsection 4.36(b)(6). 

(5) Defined-contribution pension plans. This 

paragraph covers those pension plans in which the 

contributions are established in advance and the 

level of benefits is determined by the contributions 

made. It also covers profit sharing, savings plans, 

and other such plans, provided the plans fall within the definition of a pension plan in paragraph 

(j)(1) of this subsection. 

(i) Allowable pension cost limited to the net 

contribution required to be made for a post accounting period after taking into account dividends and other credits, where applicable. However, any portion of pension cost computed for a 

cost accounting period that exceeds the amount 

required to be funded pursuant to a waiver 

granted under the provisions of ERISA will be 

allowable in those future accounting periods in 

which the funding of such excess amounts occurs 

(see 48 CFR 9904.412-50(c)(3)). 

(ii) The provisions of paragraph (j)(3)(ii) and 

(iv) of this subsection apply to defined-contribution plans. 
GPO 305.9 

May 25, 1999 

PP 

(6) Pension plans using pay-as-you-go cost method. The cost of pension plans using the pay-as-yougo cost method shall be measured, allocated, and 

accounted for in accordance with 48 CFR 9904.412 

and 48 CFR 9904.413. Pension costs for a pension 

plan using the pay-as-you-go cost method shall be 

allowable to the extent they are allocable, reasonable, and not otherwise unallowable. 

(7) Early retirement incentive plans. An early retirement incentive plan is a plan under which employees receive a bonus or incentive, over and 

above the requirement of the basic pension plan, 

to retire early. These plans normally are not applicable to all participants of the basic plan and do 

not represent life income settlements, and as such 

would not qualifY as pension costs. However, for 

contract costing purposes, early retirement incentive payments are allowable subject to the pension 

cost criteria contained in subdivisions (j)(3)(i) 

through (iv) provided-

(i) The costs are accounted for and allocated in 

accordance with the contractor's system of accounting for pension costs; 

(ii) The payments are made in accordance 

with the terms and conditfons of the contractor's 

plan; 

(iii) The plan is applied only to active employees. The cost of extending the plan to employees 

who retired or were terminated before the adoption of the plan is unallowable; and 

(iv) The total of the incentive payments to any 

employee may not exceed the amount of the employee's annual salary for the previous fiscal 

year before the employee's retirement. 

(8) Employee stock ownership plans (ESOP). (i) 

An ESOP is an individual stock bonus plan designed specifically to invest in the stock of the employer corporation. The contractor's contributions 

to an Employee Stock Ownership Trust (ESOT) 

may be in the form of cash, stock, or property. 

Costs of ESOP's are allowable subject to the following conditions: 

(A) Contributions by the contractor in any one 

year may not exceed 15 percent (25 percent 

when a money purchase plan is included) of salaries and wages of employees participating in 

the plan in any particular year. 

(B) The contribution rate (ratio of contribution 

to salaries and wages of participating employees) may not exceed the last approved contribution rate except when approved by the contracting officer based upon justification provided by 

18 

the contractor. When no contribution was made 

in the previous year for an existing ESOP, or 

when a new ESOP is first established, and the 

contractor proposes to make a contribution in 

the current year, the contribution rate shall be 

subject to the contracting officer's approval. 

(C) When a plan or agreement exists wherein 

the liability for the contribution can be compelled for a specific year, the expense associated 

with that liability is assignable only to that period. Any portion of the contribution not funded 

by the time set for filing of the Federal income 

tax return for that year or any extension thereof 

shall not be allowable in subsequent years. 

(D) When a plan or agreement exists wherein 

the liability for the contribution cannot be compelled, the amount contributed for any year is 

assignable to that year provided the amount is 

funded by the time set for filing of the Federal 

income tax return for that year. 

(E) When the contribution is in the form of 

stock, the value of the stock contribution shall 

be limited to the fair market value of the stock 

on the date that title is effectively transferred to 

the trust. Cash contributions shall be allowable 

only when the contractor furnishes evidence satisfactory to the contracting officer demonstrating 

that stock purchases by the ESOT are or will be 

at a fair market price; e.g., makes arrangements 

with the trust permitting the contracting officer 

to examine purchases of stock by the trust to determine that prices paid are at fair market 

value. When excessive prices are paid, the 

amount of the excess will be credited to the 

same indirect cost pools that were charged for 

the ESOP contributions in the year in which the 

stock purchase occurs. However, when the trust 

purchases the stock with borrowed funds which 

will be repaid over a period of years by cash contributions from the contractor to the trust, the 

excess price over fair market value shall be credited to the indirect cost pools pro rata over the 

period of years during which the contractor contributes the cash used by the trust to repay the 

loan. When the fair market value of unissued 

stock or stock of a closely held corporation is not 

readily determinable, the valuation will be made 

on a case-by-case basis taking into consideration 

the guidelines for valuation used by the IRS. 

(ii) Amounts contributed to an ESOP arising 

from either-
(A) an additional investment tax credit (see 

1975 Tax Reduction Act-TRASOP's); or 

(B) a payroll-based tax credit (see Economic 

Recovery Tax Act of 1981) are unallowable. 

(iii) The requirements of paragraph (j)(3)(ii) of 

this subsection are applicable to Employee Stock 

Ownership Plans. 

(k) Deferred compensation of other than pensions. (1) Deferred compensation is an award given 

by an employer to compensate an employee in a 

future cost accounting period or periods for services rendered in one or more cost accounting periods before the date of receipt of compensation by 

the employee. Deferred compensation does not include the amount of year-end accruals for salaries, 

wages, or bonuses that are paid within a reasonable period of time after the end of a cost accounting period. Subject to 4.4(a), deferred awards are 

allowable when they are based on current or future services. Awards made in periods subsequent 

to the period when the work being remunerated 

was performed are not allowable. 

(2) The costs of deferred awards shall be measured, allocated, and accounted for in compliance 

with the provisions of 48 CFR 9904.415, Accounting for the Cost of Deferred Compensation. 

(3) Deferred compensation payments to employees under awards made before the effective date of 

48 CFR 9904.415 are allowable to the extent they 

would have been allowable under prior acquisition 

regulations. 

(l) Compensation incidental to business acquisitions. The following costs are unallowable: 

(1) Payments to employees under agreements 

in which they receive special compensation, in 

excess of the contractor's normal severance pay 

practice, if their employment terminates following a change in the management control over, or 

ownership of, the contractor or a substantial 

portion of its assets. 

(2) Payment to employees under plans introduced in connection with a change (whether actual or prospective) in the management control 

over, or ownership of, the contractor or a substantial portion of its assets in which those employees receive special compensation, which is 

contingent upon the employee remaining with 

the contractor for a specified period of time. 

(m) Fringe benefits. (1) Fringe benefits are allowances and services provided by the contractor to 

its employees as compensation in addition to regular wages and salaries. Fringe benefits include, 

19 

GPO 305.9 

May 25, 1999 

pp 

but are not limited to, the cost of vacations, sick 

leave, holidays, military leave, employee insurance, and supplemental unemployment benefit 

plans. Except as provided otherwise in section 3, 

the costs of fringe benefits are allowable to the extent that they are reasonable and are required by 

law, employer-employee agreement, or an established policy of the contractor. 

(2) That portion of the cost of company-furnished 

automobiles that relates to personal use by employees (including transportation to and from 

work) is unallowable regardless of whether the 

cost is reported as taxable income to the employees 

(see 4.41([)). 

(n) Employee rebate and purchase discount 

plans. Rebates and purchase discounts, in whatever form, granted to employees on products or 

services produced by the contractor or affiliates 

are unallowable. 

(o) Postretirement benefits other than pensions 

(PRB). (1) PRB covers all benefits, other than cash 

benefits and life insurance benefits paid by pension plans, provided to employees, their beneficiaries, and covered dependents during the period 

following the employees' retirement. Benefits encompassed include, but are not limited to, postretirement health care; life insurance provided 

outside a pension plan; and other welfare benefits 

such as tuition assistance, day care, legal services, 

and housing subsidies provided after retirement. 

(2) To be allowable, PRB costs must be reasonable and incurred pursuant to law, employer-employee agreement, or an established policy of the 

contractor. In addition, to be allowable, PRB costs 

must also be calculated in accordance with paragraphs (o)(2)(i), (ii), or (iii) of this subsection. 

(i) Cash basis. Cost recognized, as benefits 

when they are actually provided, must be paid 

to an insurer, provider, or other recipient for 

current year benefits or premiums. 

(ii) Terminal funding. if a contractor elects a 

terminal-funded plan, it does not accrue PRB 

costs during the working lives of employees. Instead, it accrues and pays the entire PRB liability to an insurer or trustee in lump sum upon 

the termination of employees (or upon conversion to such a terminal-funded plan) to establish 

and maintain a fund or reserve for the sole purpose of providing PRB to retirees. The lump sum 

is allowable if amortized over a period of 15 

years. 
GPO 305.9 

May 25, 1999 

pp 

(iii) Accrual basis. Accrual costing other than 

terminal funding must be measured and assigned according to generally accepted accounting principles and be paid to an insurer or trustee to establish and maintain a fund or reserve 

for the sole purpose of providing PRB to retirees. 

The accrual must also be calculated in accordance with generally accepted actuarial principles 

and practices as promulgated by the Actuarial 

Standards Board. 

(3) To be allowable, costs must be funded by the 

time set for filing the Federal income tax return or 

any extension thereof. PRB costs assigned to the 

current year, but not funded or otherwise liquidated by the tax return time, shall not be allowable in any other subsequent year. 

( 4) Increased PRB costs caused by delay in funding beyond 30 days after each quarter of the year 

to which they are assignable are unallowable. 

(5) Cost of postretirement benefits in paragraph 

(o)(2)(iii) of this subsection attributable to past 

service ("transition obligation") as defined in Financial Accounting Standards Board Statement 

106, paragraph 110, are allowable subject to the 

following limitations: The allowable amount of 

such costs assignable to a contractor fiscal year 

cannot exceed the amount of such costs which 

would be assigned to that contractor fiscal year 

under the delayed recognition methodology described in paragraphs 112 and 113 of Statement 

106. 

(6) The Government shall receive an equitable 

share of any amount of previously funded PRB 

costs which revert or inure to the contractor. Such 

equitable share shall reflect the Government's previous participation in PRB costs through those 

contracts for which certified cost or pricing data 

were required or which were subject to section 3. 

(p) Limitation on allowability of compensation 

for certain contractor personnel. (1) Costs incurred 

after January 1998, for compensation of a senior 

executive in excess of the benchmark compensation amount determined applicable for the contractor fiscal year by the Administrator, Office of Federal Procurement Policy (OFPP), under Section 39 

of the OFPP Act (41 U.S.C. 435) are unallowable. 

This limitation is the sole limitation on allowable 

senior executive compensation costs incurred after 

January 1, 1998, under new or previously existing 

contracts. This limitation applies whether or not 

the affected contracts were previously subject to a 

statutory limitation on such costs. 

20 

(2) As used in this paragraph: 

(i) "Compensation" means the total amount of 

wages, salary, bonuses, deferred compensation 

(see paragraph (k) of this subsection), and employer contributions to defined contribution pension plans (see paragraphs (j)(5) and (j)(8) of this 

subsection), for the fiscal year, whether paid, 

earned, or otherwise accruing, as recorded in the 

contractor's cost accounting records for the fiscal 

year. 

(ii) "Senior executive" mean&-

(A) The Chief Executive Officer (CEO) or 

any individual acting in a similar capacity at 

the contractor's headquarters; 

(B) The four most highly compensated employees in management positions at the contractor's headquarters, other than the CEO; 

and 

(C) If the contractor has intermediate home 

offices or segments that report directly to the 

contractor's headquarters, the five most highly 

compensated employees in management positions at each such intermediate home office or 

segment. 

(iii) "Fiscal year" means the fiscal year established by the contractor for accounting purposes. 

(iv) "Contractor's headquarters" means the 

highest organizational level from which executive compensation costs are allocated to Government contracts. 

5. Contingencies. 

(a) "Contingency'' means a possible future event 

or condition arising from presently known or unknown causes, the outcome of which is indeterminable at the present time. 

(b) Costs for contingencies are generally unallowable for historical costing purposes because 

such costing deals with costs incurred and recorded on the contractor's books. However, in some 

cases, as for example, terminations, a contingency 

factor may be recognized when it is applicable to 

a past period to give recognition to minor unsettled factors in the interest of expediting settlement. 

(c) In connection with estimates of future costs, 

contingencies fall into two categories: 

(1) Those that may arise from presently 

known and existing conditions, the effects of 

which are foreseeable within reasonable limits of 

accuracy; e.g., anticipated costs of rejects and defective work. Contingencies of this category are 

to be included in the estimates of future costs so 
as to provide the best estimate of performance 

cost. 

(2) Those that may arise from presently 

known or unknown conditions, the effect of 

which cannot be measured so precisely as to provide equitable results to the contractor and to 

the Government; e.g., results of pending litigation. Contingencies of this category are to be excluded from cost estimates under the several 

items of cost, but should be disclosed separately 

(including the basis upon which the contingency 

is computed) to facilitate the negotiation of appropriate contractual coverage. (See, for example, 4.4(g), 4.16, and 4.21.) 

6. Contributions or donations. 

Contributions or donations, including cash, property and services, regardless of recipient, are unallowable, except as provided in 4.1(e)(3). 

7. Cost of money. 

(a) Facilities capital cost of money.-(1) General. 

(i) Facilities capital cost of money (cost of capital 

committed to facilities) is an imputed cost determined by applying a cost-of-money rate to facilities 

capital employed in contract performance. A costof-money rate is uniformly imputed to all contractors (see subparagraph (ii) below). Capital employed is determined without regard to whether its 

source is equity or borrowed capital. The resulting 

cost of money is not a form of interest on borrowings (see 4.17). 

(ii) 48 CFR 9904.414, Cost of Money as an Element of the Cost of Facilities Capital, establishes 

criteria for measuring and allocating, as an element of contract cost, the cost of capital committed 

to facilities. Cost-of-money factors are developed 

on Form CAS8-CFM, broken down by overhead 

pool at the business unit, usingCAl business-unit facilities capital data, 

(B) overhead allocation base data, and 

(C) the cost-of-money rate, which is based on 

interest rates specified by the Secretary of the 

Treasury under P.L. 92-41. 

(2) Allowability. Whether or not the contract is 

otherwise subject to CAS, facilities capital cost of 

money is allowable if-

(i) The contractor's capital investment is measured, allocated to contracts, and casted in accordance with 48 CFR 9904.414; 

(ii) The contractor maintains adequate records 

to demonstrate compliance with this standard; 

21 

GPO 305.9 

May 25, 1999 

pp 

(iii) The estimated facilities capital cost of 

money is specifically identified or proposed in 

cost proposals relating to the contract under 

which this cost is to be claimed, and 

(iv) The requirements of 4.45, which limit the 

allowability of facilities capital cost of money, 

are observed. 

(3) Accounting. The facilities capital cost of 

money need not be entered on the contractor's 

books of account. However, the contractor shall-

(i) make a memorandum entry of the cost, and 

(ii) maintain, in a manner that permits audit 

and verification, all relevant schedules, cost 

data, and other data necessary to support the 

entry fully. 

(4) Payment. Facilities capital cost of money that 

18-

(i) allowable under paragraph (2) of this subsection, and 

(ii) calculated, allocated, and documented in 

accordance with this cost principle shall be an 

"incurred cost" for progress payment purposes 

under fixed-price contracts. 

(5) The requirements of 4.45 shall be observed in 

determining the allowable cost of money attributable to including asset valuations resulting from 

business combinations in the facilities capital employed base. 

(b) Cost of money as an element of the cost of 

capital assets under construction-(!) General. (i) 

Cost of money as an element of the cost of capital 

assets under construction is an imputed cost determined by applying a cost-of-money rate to the investment in tangible and intangible capital assets 

while they are being constructed, fabricated, or developed for a contractor's own use. Capital employed is determined without regard to whether its 

source is equity or borrowed capital. The resulting 

cost of money is not a form of interest on borrowing (see 4.17). 

(ii) 48 CFR 9904.417, Cost of Money as an Element of the Cost of Capital Assets Under Construction, establishes criteria for measuring and 

allocating, as an element of contract cost, the cost 

of capital committed to capital assets under construction, fabrication, or development. 

(2) Allowability. (i) Whether or not the contract 

is otherwise subject to CAS, and except as specified in paragraph (b)(2)(ii) of this subsection, the 

cost of money for capital assets under construction, 

fabrication, or development is allowable if-
GPO 305.9 

May 25, 1999 

pp 

(A) The cost of money is calculated, allocated 

to contracts, and costed in accordance with 48 

CFR 9904.417; 

(B) The contractor maintains adequate records 

to demonstrate compliance with this standard; 

(C) The cost of money for tangible capital assets is included in the capitalized cost that provides the basis for allowable depreciation costs, 

or, in the case of intangible capital assets, the 

cost of money is included in the cost of those assets for which amortization costs are allowable; 

and 

(D) The requirements of 4.45, which limit the 

allowability of cost of money for capital assets 

under construction, fabrication, or development, 

are observed. 

(ii) Actual interest cost in lieu of the calculated 

imputed cost of money for capital assets under 

construction, fabrication, or development is unallowable. 

(3) Accounting. The cost of money for capital assets under construction need not be entered on the 

contractor's books of account. However, the contractor shall-

(i) make a memorandum entry of the cost, and 

(ii) maintain, in a manner that permits audit 

and verification, all relevant schedules, cost 

data, and other data necessary to support the 

entry fully. 

(4) Payment. The cost of money for capital assets 

under construction that is allowable under paragraph (2) above of this cost principle shall be an 

"incurred cost" for progress payment purposes 

under fixed-price contracts. 

8. Depreciation. 

(a) Depreciation is a charge to current operations which 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. 

(b) Contractors having contracts subject to 48 

CFR 9904.409, Depreciation of Tangible Capital 

Assets, must 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 

22 

applicable if the election is made, and its requirements supersede any conflicting requirements of 

this cost principle. Once electing to adopt 48 CFR 

9904.409 for all contracts, contractors must continue to follow it until notification of final acceptance of all deliverable items on all open negotiated 

Government contracts. Paragraphs (c) through (e) 

below apply to contracts to which 48 CFR 

9904.409 is not applied. 

(c) Normal depreciation on a contractor's plant, 

equipment, and other capital facilities is an allowable contract cost, if the contractor is able to demonstrate that it is reasonable and allocable (but 

see paragraph (i) of this subsection). 

(d) Depreciation shall be considered reasonable 

if the contractor follows policies and procedures 

that are-

(1) Consistent with those followed in the same 

cost center for business other than Government; 

(2) Reflected in the contractor's books of accounts and financial statements; and 

(3) Both used and acceptable for Federal income tax purposes. 

(e) When the depreciation reflected on a contractor's books of accounts and financial statements 

differs from that used and acceptable for Federal 

income tax purposes, reimbursement shall be 

based on the asset cost amortized over the estimated useful life of the property using depreciation methods (straight line, sum of the years' digits, etc.) acceptable for income tax purposes. Allowable depreciation shall not exceed the amounts 

used for book and statement purposes and shall be 

determined in a manner consistent with the depreciation policies and procedures followed in the 

same cost center on non-Government business. 

(f) Depreciation for reimbursement purposes in 

the case of tax-exempt organizations shall be determined on the basis described in paragraph (e) of 

this subsection. 

(g) Special considerations are required for assets 

acquired before the effective date of this cost principle if, on that date, the undepreciated balance of 

these assets resulting from depreciation policies 

and procedures used previously for Government 

contracts and subcontracts is different from the 

undepreciated balance on the books and financial 

statements. The undepreciated balance for contract cost purposes shall be depreciated over the 

remaining life using the methods and lives followed for book purposes. The aggregate depreciation of any asset allowable after the effective date 
of this subsection shall not exceed the cost basis of 

the asset less any depreciation allowed or allowable under prior acquisition regulations. 

(h) Depreciation should usually be allocated to 

the contract and other work as an indirect cost. 

The amount of depreciation allowed in any accounting period may, consistent with the basic objectives in paragraph (a) of this subsection, vary 

with volume of production or use of multishift operations. 

(i) In the case of emergency facilities covered by 

certificates of necessity, a contractor may elect to 

use normal depreciation without requesting a determination of "true depreciation," or may elect to 

use either normal or "true depreciation" after a determination of "true depreciation" has been made 

by an Emergency Facilities Depreciation Board 

(EFDB). The method elected must be followed consistently throughout the life of the emergency facility. When an election is made to use normal depreciation, the criteria in paragraphs (c), (d), (e), 

and (f) of this subsection shall apply for both the 

emergency period and the post-emergency period. 

When an election is made to use "true depreciation", the amount allowable as depreciation-

(!) With respect to the emergency period (five 

years), shall be computed in accordance with the 

determination of the EFDB and allocated rateably over the full five year emergency period; 

provided no other allowance is made which 

would duplicate the factors, such as extraordinary obsolescence covered by the Board's determination; and 

(2) After the end of the emergency period, 

shall be computed by distributing the remaining 

undepreciated portion of the cost of the emergency facility over the balance of its useful life 

provided the remaining undepreciated portion of 

such cost shall not include any amount of unrecovered "true depreciation." 

(j) No depreciation, rental, or use charge shall be 

allowed on property acquired at no cost from the 

Government by the contractor or by any division, 

subsidiary, or affiliate of the contractor under common control. 

(k) The depreciation on any item which meets 

the criteria for allowance at a "price" under 4.23(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. 

23 

GPO 305.9 

May 25, 1999 

pp 

(l) No depreciation or rental shall be 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 2.6(h)(2)). in determining the charge, consideration shall be given 

to 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. 

(m) 48 CFR 9904.404, Capitalization of Tangible 

Assets, applies to assets acquired by a "capital 

lease" as defined in Statement of Financial Accounting Standard No. 13 (FAS-13), Accounting for 

Leases, issued by the Financial Accounting Standards board (FASB). Compliance with 48 CFR 

9904.404 and F AS-13 requires that such leased assets (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. Assets whose 

leases are classified as capital leases under F AS13 are subject to the requirements of this subsection while assets acquired under leases classified as operating leases are subject to the requirements on rental costs in 4.33. The standards of financial accounting and reporting prescribed by 

F AS-13 are incorporated into this principle and 

shall govern its application, except as provided in 

subparagraphs (m)(1) and (2) of this subsection. 

(1) Rental costs under a sale and leaseback arrangement shall be allowable up to the amount 

that would have been allowed had the contractor 

retained title to the property. 

(2) Capital leases, as defined in FAS-13, for all 

real and personal property, between any related 

parties are subject to the requirements of this 

paragraph 4.8(m). If it is determined that the 

terms of the lease have been significantly affected by the fact that the lessee and lessor are 

related, depreciation charges shall not be allowed in excess of those which would have occurred if the lease contained terms consistent 

with those found in a lease between unrelated 

parties. 

(n) Whether or not the contract is otherwise subject to CAS, the requirements of 4.45, which limit 

the allowability of depreciation, shall be observed. 
GPO 305.9 

May 25, 1999 

pp 

(o) 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 shall 

be limited to the amounts that would have been 

allowed had the assets not been written down (see 

4.13(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. 

9. Economic planning costs. 

(a) This category includes costs of generalized 

long-range management planning that is concerned with the future overall development of the 

contractor's business and that may take into account the eventual possibility of economic dislocations or fundamental alterations in those markets 

in which the contractor currently does business. 

Economic planning costs do not include organization or reorganization costs covered by 4.24. 

(b) Economic planning costs are allowable as indirect costs to be properly allocated. 

10. Employee morale, health, welfare, food 

service, and dormitory costs and credits. 

(a) Aggregate costs incurred on activities designed to improve working conditions, employeremployee relations, employee morale, and employee performance (less income generated by 

these activities) are allowable, except as limited by 

paragraph (b), (c) and (d) of this subsection. Some 

examples of allowable activities are house publications, health clinics, wellness/fitness centers, employee counseling services, and food and dormitory 

services, which include operating or furnishing facilities for cafeterias, dining rooms, canteens, 

lunch wagons, vending machines, living accommodations, or similar types of services for the contractor's employees at or near the contractor's facilities. 

(b) Cost of gifts are unallowable. (Gifts do not include awards for performance made pursuant to 

4.4(f) or awards made in recognition of employee 

achievements pursuant to an established contractor plan or policy). 

(c) Costs of recreation are unallowable, except 

for the costs of employees' participation in company sponsored sports teams or employee organizations designed to improve company loyalty, team 

work, or physical fitness. 

(d) Losses from operating food and dormitory 

services may be included as costs only if the con24 

tractor's objective is to operate such services on a 

break-even basis. Losses sustained because food 

services or lodging accommodations are furnished 

without charge or at prices or rates which obviously would not be conducive to the accomplishment of the above objective are not allowable. A 

loss may be allowed, however, to the extent that 

the contractor can demonstrate that unusual circumstances exist (e.g., where the contractor must 

provide food or dormitory services at remote locations where adequate commercial facilities are not 

reasonably available, or where charged but unproductive labor costs would be excessive but for the 

services provided or where cessation or reduction 

of food or dormitory operations will not otherwise 

yield net cost savings) such that even with efficient management, operating the services on a 

break-even basis would require charging inordinately high prices, or prices or rates higher than 

those charged by commercial establishments offering the same services in the same geographical 

areas. Costs of food and dormitory services shall 

include an allocable share of indirect expenses pertaining to these activities. 

(e) When the contractor has an arrangement authorizing an employee association to provide or operate a service, such as vending machines in the 

contractor's plant, and retain the profits, such 

profits shall be treated in the same manner as if 

the contractor were providing the service (but see 

paragraph (f) of this subsection. 

(f) Contributions by the contractor to an employee organization, including funds from vending 

machine receipts or similar sources, may be included as costs incurred under paragraph (a) of 

this subsection only to the extent that the contractor demonstrates that an equivalent amount of the 

costs incurred by the employee organization would 

be allowable if directly incurred by the contractor. 

11. Entertainment costs. 

Costs of amusement, diversion, social activities, 

and any directly associated costs such as tickets to 

shows or sports events, meals, lodging, rentals, 

transportation, and gratuities are unallowable. 

Costs made specifically unallowable under this 

cost principle are not allowable under any other 

cost principle. Costs of membership in social, dining, or country clubs or other organizations having 

the same purposes are also unallowable, regardless of whether the cost is reported as taxable income to the employees. 
12. Fines and penalties. 

(a) Costs of fines and penalties resulting from 

violations of, or failure of the contractor to comply 

with, Federal, State, local, or foreign laws and regulations, are unallowable except when incurred as 

a result of compliance with specific terms and conditions of the contract or written instructions from 

the contracting officer. 

(b) Costs incurred in connection with, or related 

to, the mischarging of costs on Government contracts are unallowable when the costs are caused 

by, or result from, alteration or destruction of 

records, or other false or improper charging or recording of costs. Such costs include those incurred 

to measure or otherwise determine the magnitude 

of the improper charging, and costs incurred to 

remedy or correct the mischarging, such as the 

costs to rescreen and reconstruct records. 

13. Gains and losses on disposition or impairment of depreciable property or other 

capital assets. 

(a) Gains and losses from the sale, retirement, 

or other disposition (but see 4.16) of depreciable 

property shall be included in the year in which 

they occur as credits or charges to the cost grouping(s) in which the depreciation or amortization 

applicable to those assets was included (but see 

paragraph (d) of this subsection). However, no gain 

or loss shall be recognized as a result of the transfer of assets in a business combination (see 4.45). 

(b) Gains and losses on disposition of tangible 

capital assets, including those acquired under capital leases (see 4.8(m)), shall be considered as adjustments of depreciation costs previously recognized. The gain or loss for each asset disposed of 

is the difference between the net amount realized, 

including insurance proceeds from involuntary 

conversions, and its undepreciated balance. The 

gain recognized for contract costing purposes shall 

be limited to the difference between the acquisition cost (or for assets acquired under a capital 

lease, the value at which the leased asset is capitalized) of the asset and its undepreciated balance 

(except see paragraphs (c)(2)(i) or (ii) of this subsection). 

(c) Special considerations apply to an involuntary conversion which occurs when a contractor's 

property is destroyed by events over which the 

owner has no control, such as fire, windstorm, 

flood, accident, theft, etc., and an insurance award 

is recovered. The following govern involuntary converswns: 

25 

GPO 305.9 

May 25, 1999 

pp 

(1) When there is a cash award and the converted asset is not replaced, gain or loss shall be 

recognized in the period of disposition. The gain 

recognized for contract costing purposes shall be 

limited to the difference between the acquisition 

cost of the asset and its undepreciated balance. 

(2) When the converted asset is replaced, the 

contractor shall either-

(i) Adjust the depreciable basis of the new 

asset by the amount of the total realized gain 

or loss; or 

(ii) Recognize the gain or loss in the period 

of disposition, in which case the Government 

shall participate to the same extent as outlined in subparagraph (c)(1) of this subsection. 

(d) Gains and losses on the disposition of depreciable property shall not be recognized as a separate charge or credit when-

(1) Gains and losses are processed through the 

depreciation reserve account and reflected in the 

depreciation allowable under 4.8; or 

(2) The property is exchanged as part of the 

purchase price of a similar item, and the gain or 

loss is taken into consideration in the depreciation cost basis of the new item. 

(e) Gains and losses arising from mass or extraordinary sales, retirements, or other disposition 

other than through business combinations shall be 

considered on a case-by-case basis. 

(f) Gains and losses of any nature arising from 

the sale or exchange of capital assets other than 

depreciable property shall be excluded in computing contract costs. 

(g) With respect to long-lived tangible and identifiable intangible assets held for use, no loss shall 

be allowed for a write-down from carrying value to 

fair value as a result of impairments caused by 

events or changes in circumstances (e.g., environmental damage, idle facilities arising from a declining business base, etc.). If depreciable property 

or other capital assets have been written down 

from carrying value to fair value due to impairments, gains or losses upon disposition shall be 

the amounts that would have been allowed had 

the assets not been written down. 

14. Idle facilities and idle capacity costs. 

(a) "Costs of idle facilities or idle capacity," 

means costs such as maintenance, repair, housing, 

rent, and other related costs; e.g., property taxes, 

insurance, and depreciation. 

"Facilities" means plant or any portion thereof 

(including land integral to the operation), equip-
GPO 305.9 

May 25, 1999 

PP 

ment, individually or collectively, or any other tangible capital asset, wherever located, and whether 

owned or leased by the contractor. 

"Idle capacity'' means the unused capacity of 

partially used facilities. It is the difference between that which a facility could achieve under 

100 percent operating time on a one-shift basis, 

less operating interruptions resulting from time 

lost for repairs, setups, unsatisfactory materials, 

and other normal delays, and the extent to which 

the facility was actually used to meet demands 

during the accounting period. A multiple-shift 

basis may be used in the calculation instead of a 

one-shift basis if it can be shown that this amount 

of usage could normally be expected for the type of 

facility involved. 

"Idle facilities" means completely unused facilities that are excess to the contractor's current 

needs. 

(b) The costs of idle facilities are unallowable 

unless the facilities--

(!)Are necessary to meet fluctuations in workload; or 

(2) Were necessary when acquired and are 

now idle because of changes in requirements, 

production economies, reorganization, termination, or other causes which could not have 

been reasonably foreseen. (Costs of idle facilities 

are allowable for a reasonable period, ordinarily 

not to exceed 1 year, depending upon the initiative taken to use, lease, or dispose of the idle facilities (but see 4.38)). 

(c) Costs of idle capacity are costs of doing business and are a factor in the normal fluctuations of 

usage or overhead rates from period to period. 

Such costs are allowable provided the capacity is 

necessary or was originally reasonable and is not 

subject to reduction or elimination by subletting, 

renting, or sale, in accordance with sound business, economic, or security practices. Widespread 

idle capacity throughout an entire plant or among 

a group of assets having substantially the same 

function may be idle facilities. 

(d) Any costs to be paid directly by the Government for idle facilities or idle capacity reserved for 

defense mobilization production shall be the subject of a separate agreement. 

15. Bid and proposal costs. 

(a) Definitions. 

"Bid and proposal (B&P) costs" means the costs 

incurred in preparing, submitting, and supporting 

bids and proposals (whether or not solicited) on po26 

tential Government or non-Government contracts. 

The term does not include the costs of effort sponsored by a grant or cooperative agreement or required in contract performance. 

"Company" means all divisions, subsidiaries, 

and affiliates of the contractor under common control. 

"Development" means the systematic use, under 

whatever name, of scientific and technical knowledge in the design, development, test, or evaluation of a potential new product or service (or of an 

improvement in an existing product or service) for 

the purpose of meeting specific performance requirements or objectives. Development includes 

the functions of design engineering, prototyping, 

and engineering testing. Development excludes: 

(1) Subcontracted technical effort which is for 

the sole purpose of developing an additional 

source for an existing product, or 

(2) Development effort for manufacturing or 

production materials, systems, processes, methods, equipment, tools, and techniques not intended for sale. 

(b) Composition and allocation of costs. The requirements of 48 CFR 9904.420, Accounting for 

Bid and Proposal Costs, are incorporated in their 

entirety and shall apply as follows--

(1) Fully-CAS-covered contracts. Contracts 

that are fully-CAS-covered shall be subject to all 

requirements of 48 CFR 9904.420. 

(2) Modified-CAS-covered and non-CAS-covered contracts. Contracts that are not CAS-covered or that contain terms or conditions requiring modified CAS coverage shall be subject to all 

requirements of 48 CFR 9904.420 except 48 CFR. 

9904.420-50(e)(2) and 48 CFR 9904.420-50(£)(2), 

which are not then applicable. However, nonCAS-covered or modified CAS-covered contracts 

awarded at a time the contractor has CAS-covered contracts requiring compliance with 48 

CFR 9904.420, shall be subject to all the requirements of 48 CFR 9904.420. When the requirements of 48 CFR 9904.420-50(e)(2) and 48 

CFR 420-50(£)(2) are not applicable, the following apply: 

(i) B&P costs shall be allocated to final cost 

objectives on the same basis of allocation used 

for the G&A expense grouping of the profit 

center (see 1.2) in which the costs are incurred. However, when B&P costs clearly benefit other profit centers or benefit the entire 

company, those costs shall be allocated 
through the G&A of the other profit centers or 

through the corporate G&A, as appropriate. 

(ii) If allocations of B&P through the G&A 

base do not provide equitable cost allocation, 

the contracting officer may approve use of a 

different base. 

(c) Allowability. Costs for B&P are allowable as 

indirect expenses on contracts to the extent that 

the costs are allowable and reasonable. 

16. Insurance and indemnification. 

(a) Insurance by purchase or by self-insuring includes coverage the contractor is required to carry, 

or to have approved, under the terms of the contract and any other coverage the contractor maintains in connection with the general conduct of its 

business. Any contractor desiring to establish a 

program of self-insurance applicable to contracts 

that are not subject to 48 CFR 9904.416, Accounting for Insurance Costs, shall comply with the selfinsurance requirements of that standard. The 

amount of insurance costs which may be allowed is 

subject to the cost limitations and exclusions in 

the following subparagraphs. 

(1) Costs of insurance required or approved, 

and maintained by the contractor pursuant to 

the contract, are allowable. 

(2) Costs of insurance maintained by the contractor in connection with the general conduct of 

its business are allowable, subject to the following limitations: 

(i) Types and extent of coverage shall follow 

sound business practice, and the rates and 

premiums must be reasonable. 

(ii) Costs allowed for business interruption 

or other similar insurance must be limited to 

exclude coverage of profit. 

(iii) The cost of property insurance premiums for insurance coverage in excess of the 

acquisition cost of the insured assets is allowable only when the contractor has a formal 

written policy assuring that in the event the 

insured property is involuntarily converted, 

the new asset shall be valued at the book 

value of the replaced asset plus or minus adjustments for differences between insurance 

proceeds and actual replacement cost. If the 

contractor does not have such a formal written 

policy, the cost of premiums for insurance coverage in excess of the acquisition cost of the 

insured asset is unallowable. 

(iv) Costs of insurance for the risk of loss of 

or damage to Government property are allow27 

GPO 305.9 

May 25, 1999 

pp 

able only to the extent that the contractor is 

liable for such loss or damage and such insurance does not cover loss or damage that results from willful misconduct or lack of good 

faith on the part of any of the contractor's directors or officers or other equivalent representatives. 

(v) Contractors operating under a program 

of self-insurance must obtain approval of the 

program when required. 

(vi) Costs of insurance on the lives of officers, partners, or proprietors are allowable 

only to the extent that the insurance represents additional compensation (see 4.4). 

(3) Actual losses are unallowable unless expressly provided for in the contract, except-

(i) Losses incurred under the nominal deductible provisions of purchased insurance, in 

keeping with sound business practice, are allowable for contracts not subject to 48 CFR 

9904.416 and when the contractor did not establish a self-insurance program. Such contracts are not subject to the self-insurance requirements of 48 CFR 9904.416. For contracts 

subject to 48 CFR 9904.416, and for those 

made subject to the self-insurance requirements of that standard as a result of the contractor's having established a self-insurance 

program (see paragraph (a) of this subsection), 

actual losses may be used as a basis for 

charges under a self-insurance program when 

the actual amount of losses will not differ significantly from the projected average losses for 

the accounting period (see 48 CFR 9904.416-

50(a)(2)(ii)). In those instances where an actual loss has occurred and the present value of 

the liability is determined under the provisions of 48 CFR 9904.416-50(a)(2)(ii), the allowable cost shall be limited to an amount 

computed using as a discount rate the interest 

rate determined by the Secretary of the Treasury pursuant to 50 U.S.C. App. 1215(b)(2) in 

effect at the time the loss is recognized. However, the full amount of a lump-sum settlement to be paid within a year of the date of 

settlement is allowable. 

(ii) Minor losses, such as spoilage, breakage, 

and disappearance of small hand tools that 

occur in the ordinary course of doing business 

and that are not covered by insurance are allowable. 
GPO 305.9 

May 25, 1999 

PP 

(4) The cost of insurance to protect the contractor against the costs of correcting its own defects in materials or workmanship is unallowable. However, insurance costs to cover fortuitous or casualty losses resulting from defects in 

materials or workmanship are allowable as a 

normal business expense. 

(5) Premiums for retroactive or backdated insurance written to cover occurred and known 

losses are unallowable. 

(b) If purchased insurance is available, the 

charge for any self-insurance coverage plus insurance administration expenses shall not exceed the 

cost of comparable purchased insurance plus associated insurance administration expenses. 

(c) Insurance provided by captive insurers (insurers owned by or under the control of the contractor) is considered self-insurance, and charges 

for it must comply with the self-insurance provisions of 48 CFR 9904.416. However, if the captive 

insurer also sells insurance to the general public 

in substantial quantities and it can be demonstrated that the charge to the contractor is 

based on competitive market forces, the insurance 

will be considered purchased insurance. 

(d) The allowability of premiums for insurance 

purchased from fronting insurance companies (insurance companies not related to the contractor 

but who reinsure with a captive insurer of the contractor) shall not exceed the amount (plus reasonable fronting company charges for services rendered) which the contractor would have been allowed had it insured directly with the captive insurer. 

(e) Self-insurance charges for risks of catastrophic losses are not allowable. 

(f) The Government is obligated to indemnify the 

~ontractor only to the extent authorized by law, as 

expressly provided for in the contract, except as 

provided in paragraph (a)(3) of this subsection. 

(g) Late premium payment charges related to 

employee deferred compensation plan insurance 

incurred pursuant to Section 4007 (29 U.S.C. 

1307) or Section 4023 (29 U.S. C. 1323) of the Employee Retirement income Security Act of 197 4 are 

unallowable. 

17. Interest and other financial costs. 

Interest on borrowings (however represented), 

bond discounts, costs of financing and refinancing 

capital (net worth plus long-term liabilitie~), legal 

and professional fees paid in connection w1th preparing prospectuses, costs of preparing and issuing 

28 

stock rights, and directly associated costs are unallowable except for interest assessed by State or 

local taxing authorities under the conditions specified in 4.36 (but see 4.25). 

18. Labor relations costs. 

Costs incurred in maintaining satisfactory relations between the contractor and its employees, including costs of shop stewards, labor management 

committees, employee publications, and other related activities, are allowable. 

19. Lobbying and political activity costs. 

(a) Costs associated with the following activities 

are unallowable: 

(1) Attempts to influence the outcomes of any 

Federal, State, or local election, referendum, initiative, or similar procedure, through in kind or 

cash contributions, endorsements, publicity, or 

similar activities; 

(2) Establishing, administering, contributing 

to, or paying the expenses of a political party, 

campaign, political action committee, or other 

organization established for the purpose of influencing the outcomes of elections; 

(3) Any attempt to influence-

(i) the introduction of Federal, State, or local 

legislation, or 

(ii) the enactment or modification of any 

pending Federal, State, or local legislation 

through communication with any member or 

employee of the Congress or State legislature 

(including efforts to influence State or local officials to engage in similar lobbying activity), 

or with any government official or employee in 

connection ~ith a decision to sign or veto enrolled legislation; 

(4) Any attempt to influence-

(i) the introduction of Federal, State, or local 

legislation, or 

(ii) the enactment or modification of any 

pending Federal, State, or local legislation by 

preparing, distributing or using publicity or 

propaganda, or by urging members of the general public or any segment thereof to contribute to or participate in any mass demonstration, march, rally, fund raising drive, lobbying 

campaign or letter writing or telephone campaign. 

(5) Legislative liaison activities, including attendance at legislative sessions or commi~tee 

hearings, gathering information regardi~g le¢'.slation, and analyzing the effect of leg~.slatwh, 
when such activities are carried on in support of 

or in knowing preparation for an effort to engage 

in unallowable activities; or 

(6) Cost incurred in attempting to improperly 

influence, either directly or indirectly, an employee or officer of the executive or legislative 

branches of the Federal Government to give consideration to or act regarding a regulatory or 

contract matter. 

(b) The following activities are excepted from the 

coverage of (a) of this subsection: 

(1) Providing a technical and factual presentation of information on a topic directly related 

to the performance of a contract through hearing 

testimony, statements or letters to the Congress 

or a State legislature, or subdivision, member, or 

cognizant staff member thereof, in response to a 

documented request (including a Congressional 

Record notice requesting testimony or statements for the record at a regularly scheduled 

hearing) made by the recipient member, legislative body or subdivision, or a cognizant staff 

member thereof; provided such information is 

readily obtainable and can be readily put in deliverable form; and further provided that costs 

under this section for transportation, lodging or 

meals are unallowable unless incurred for the 

purpose of offering testimony at a regularly 

scheduled congressional hearing pursuant to a 

written request for such presentation made by 

the chairman or ranking minority member of the 

committee or subcommittee conducting such 

hearing. 

(2) Any lobbying made unallowable by (a)(3) of 

this subsection to influence State or local legislation in order to directly reduce contract cost, or 

to avoid material impairment of the contractor's 

authority to perform the contract. 

(3) Any activity specifically authorized by statute to be undertaken with funds from the contract. 

(c) When a contractor seeks reimbursement for 

indirect costs, total lobbying costs shall be separately identified in the indirect cost rate proposal, 

and thereafter treated as other unallowable activity costs. 

(d) Contractors shall maintain adequate records 

to demonstrate that the certification of costs as 

being allowable or unallowable pursuant to this 

subsection complies with the requirements of this 

subsection. 

10-014 - 99 - 2 (900'79) 

29 

GPO 305.9 

May 25, 1999 

pp 

(e) Existing procedures should be utilized to resolve in advance any significant questions or disagreements concerning the interpretation or application of this subsection. 

20. Losses on other contracts. 

An excess of costs over income under any other 

contract (including the contractor's contributed 

portion under cost-sharing contracts) is unallowable. 

21. Maintenance and repair costs. 

(a) Costs necessary for the upkeep of property 

(including Government property, unless otherwise 

provided for) that neither add to the permanent 

value of the property nor appreciably prolong its 

intended life, but keep it in an efficient operating 

condition, are to be treated as follows (but see 4.8): 

(1) Normal maintenance and repair costs are 

allowable. 

(2) Extraordinary maintenance and repair 

costs are allowable, provided those costs are allocated to the applicable periods for purposes of 

determining contract costs (but see 2.6). 

(b) Expenditures for plant and equipment, including rehabilitation which should be capitalized 

and subject to depreciation, according to generally 

accepted accounting principles as applied under 

the contractor's established policy or, when applicable, according to 48 CFR 9904.404, Capitalization of Tangible Assets, are allowable only on a depreciation basis. 

22. Manufacturing and production engineering costs. 

(a) The costs of manufacturing and production 

engineering effort as described in (1) through (4) of 

this subsection: 

(1) Developing and deploying new or improved 

materials, systems, processes, methods, equipment, tools and techniques that are or are expected to be used in producing products or servIces; 

(2) Developing and deploying pilot production 

lines; 

(3) Improving current production functions, 

such as plant layout, production scheduling and 

control, methods and job analysis, equipment capabilities and capacities, inspection techniques, 

and tooling analysis (including tooling design 

and application improvements); and 

(4) Material and manufacturing producibility 

analysis for production suitability and to opti-
GPO 305.9 

May 25, 1999 

pp 

mize manufacturing processes, methods, and 

techniques. 

(b) Where manufacturing or production development costs are capitalized or required to be capitalized under the contractor's capitalization policies, allowable cost will be determined in accordance with the requirements of 4.8, Depreciation. 

23. Material costs. 

(a) Material costs include the costs of such items 

as raw materials, parts, sub-assemblies, components, and manufacturing supplies, whether purchased or manufactured by the contractor, and 

may include such collateral items as inbound 

transportation and intransit insurance. In computing material costs, consideration shall be given to 

reasonable overruns, spoilage, or defective work 

(unless otherwise provided in any contract provision relating to inspecting and correcting defective 

work). These costs are allowable, subject to the requirements of paragraphs (b) through (e) of this 

subsection. 

(b) Costs of material shall be adjusted for income and other credits, including available trade 

discounts, refunds, rebates, allowances, and cash 

discounts, and credits for scrap, salvage, and material returned to vendors. Such income and other 

credits shall either be credited directly to the cost 

of the material or be allocated as a credit to indirect costs. When the contractor can demonstrate 

that failure to take cash discounts was reasonable, 

lost discounts need not be credited. 

(c) Reasonable adjustments arising from differences between periodic physical inventories and 

book inventories may be included in arriving at 

costs; provided, such adjustments relate to the period of contract performance. 

(d) When materials are purchased specifically 

for and are identifiable solely with performance 

under a contract, the actual purchase cost of those 

materials should be charged to the contract. If material is issued from stores, any generally recognized method of pricing such material is acceptable if that method is consistently applied and the 

results are equitable. When estimates of future 

material costs are required, current market price 

or anticipated acquisition cost may be used, but 

the basis of pricing must be disclosed. 

(e) Allowance for all materials, supplies, and 

services that are sold or transferred between any 

divisions, subdivisions, subsidiaries, or affiliates of 

the contractor under a common control shall be on 

the basis of cost incurred in accordance with this 

30 

subpart. However, allowance may be at a price 

when it is the established practice of the transferring organization to price interorganizational 

transfers at other than cost for commercial work of 

the contractor or any division, subsidiary, or affiliate of the contractor under a common control, and 

when the item being transferred qualifies for an 

exception and the contracting officer has not determined the price to be unreasonable. 

(f) When a commercial item under paragraph (e) 

of this subsection is transferred at a price based 

on a catalog or market price, the price should be 

adjusted to reflect the quantities being acquired 

and may be adjusted to reflect actual cost of any 

modifications necessary because of contract requirements. 

24. Organization costs. 

(a) Except as provided in paragraph (b) of this 

subsection, expenditures in connection with-

(1) Planning or executing the organization or 

reorganization of the corporate structure of a 

business, including mergers and acquisitions, 

(2) Resisting or planning to resist the reorganization of the corporate structure of a business 

or a change in the controlling interest in the 

ownership of a business, and 

(3) Raising capital (net worth plus long-term 

liabilities), are unallowable. 

Such expenditures include but are not limited to 

incorporation fees and costs of attorneys, accountants, brokers, promoters and organizers, management consultants and investment counsellors, 

whether or not employees of the contractor. Unallowable "reorganization" costs include the cost of 

any change in the contractor's financial structure, 

excluding administrative costs of short-term borrowings for working capital, resulting in alterations in the rights and interests of security holders, whether or not additional capital is raised. 

(b) The cost of activities primarily intended to 

provide compensation will not be considered organizational costs subject to this subsection, but will 

be governed by 4.4. These activities include acquiring stock for-

(1) executive bonuses, 

(2) employee savings plans, and 

(3) employee stock ownership plans. 

25. Other business expenses. 

The following types of recurring costs are allowable when allocated on an equitable basis: 
(a) Registry and transfer charges resulting from 

changes in ownership of securities issued by the 

contractor. 

(b) Cost of shareholders' meetings. 

(c) Normal proxy solicitations. 

(d) Preparing and publishing reports to shareholders. 

(e) Preparing and submitting required reports 

and forms to taxing and other regulatory bodies. 

(f) Incidental costs of directors' and committee 

meetings. 

(g) Other similar costs. 

26. Plant protection costs. 

Costs of items such as (a) wages, uniforms, and 

equipment of personnel engaged in plant protection, (b) depreciation on plant protection capital 

assets, and (c) necessary expenses to comply with 

military requirements, are allowable. 

27. Patent costs. 

(a) The following patent costs are allowable to 

the extent that they are incurred as requirements 

of a Government contract (but see 4.30): 

(1) Costs of preparing invention disclosures, 

reports, and other documents. 

(2) Costs for searching the art to the extent 

necessary to make the invention disclosures. 

(3) Other costs in connection with the filing 

and prosecution of a United States patent application where title or royalty-free license is to be 

conveyed to the Government. 

(b) General counseling services relating to patent matters, such as advice on patent laws, regulations, clauses, and employee agreements, are allowable (but see 4.30). 

(c) Other than those for general counseling services, patent costs not required by the contract are 

unallowable. (See also 4.34). 

28. Plant reconversion costs. 

Plant reconversion costs are those incurred in 

restoring or rehabilitating the contractor's facilities to approximately the same condition existing 

immediately before the start of the Government 

contract, fair wear and tear excepted. Reconversion costs are unallowable except for the cost of removing Government property and the restoration 

or rehabilitation costs caused by such removal. 

However, in special circumstances where equity so 

dictates, additional costs may be allowed to the extent agreed upon before costs are incurred. Care 

should be exercised to avoid duplication through 

31 

GPO 305.9 

May 25, 1999 

PP 

allowance as contingencies, additional profit or fee, 

or in other contracts. 

29. Precontract costs. 

Precontract costs are those incurred before the 

effective date of the contract directly pursuant to 

the negotiation and in anticipation of the contract 

award when such incurrence is necessary to comply with the proposed contract delivery schedule. 

Such costs are allowable to the extent that they 

would have been allowable if incurred after the 

date of the contract (see 2.6). 

30. Professional and consultant service 

costs. 

(a) Definition. "Professional and consultant services" are those services rendered by persons who 

are members of a particular profession or possess 

a special skill and who are not officers or employees of the contractor. Examples include those services acquired by contractors or subcontractors in 

order to enhance their legal, economic, financial, 

or technical positions. Professional and consultant 

services are generally acquired to obtain information, advice, opinions, alternatives, conclusions, 

recommendations, training, or direct assistance, 

such as studies, analyses, evaluations, liaison with 

Government officials, or other forms of representation. 

(b) Costs of professional and consultant services 

are allowable subject to this paragraph and paragraphs (c) through (f) of this subsection when reasonable in relation to the services rendered and 

when not contingent upon recovery of the costs 

from the Government (but see 4.27 and 4.42). 

(c) Costs of professional and consultant services 

performed under any of the following circumstances are unallowable: 

(1) Services to improperly obtain, distribute, or 

use information or data protected by law or regulation (such as restriction on disclosure and use 

of data). 

(2) Services that are intended to improperly 

influence the contents of solicitations, the evaluation of proposals or quotations, or the selection of sources for contract award, whether 

award is by the Government, or by a prime contractor or subcontractor. 

(3) Any other services obtained, performed, or 

otherwise resulting in violation of any statute or 

regulation prohibiting improper business practices or conflicts of interest. 
GPO 305.9 

May 25, 1999 

pp 

( 4) Services performed which are not consistent with the purpose and scope of the services 

contracted for or otherwise agreed to. 

(d) In determining the allowability of costs (including retainer fees) in a particular case, no single factor or any special combination of factors is 

necessarily determinative. However, the contracting officer shall consider the following factors, 

among others: 

(1) The nature and scope of the service rendered in relation to the service required. 

(2) The necessity of contracting for the service, 

considering the contractor's capability in the 

particular area. 

(3) The past pattern of acquiring such services 

and their costs, particularly in the years prior to 

the award of Government contracts. 

( 4) The impact of Government contracts on the 

contractor's business. 

(5) Whether the proportion of Government 

work to the contractor's total business is such as 

to influence the contractor in favor of incurring 

the cost, particularly when the services rendered 

are not of a continuing nature and have little relationship to work under Government contracts. 

(6) Whether the service can be performed 

more economically by employment rather than 

by contracting. 

(7) The qualifications of the individual or concern rendering the service and the customary fee 

charged, especially on nongovernment contracts. 

(8) Adequacy of the contractual agreement for 

the service (e.g., description of the service, estimate of time required, rate of compensation, termination provisions). 

(e) Retainer fees, to be allowable, must be supported by evidence that-

(1) The services covered by the retainer agreement are necessary and customary; 

(2) The level of past services justifies the 

amount of the retainer fees (if no services were 

rendered, fees are not automatically unallowable); 

(3) The retainer fee is reasonable in comparison with maintaining an in-house capability to 

perform the covered services, when factors such 

as cost and level of expertise are considered; and 

(4) The actual services performed are documented in accordance with paragraph (f) of this 

subsection. 

(f) Fees for services rendered shall be allowable 

only when supported by evidence of the nature and 

32 

scope of the service furnished. (See also 4.35([).) 

However, retainer agreements generally are not 

based on specific statements of work. Evidence 

necessary to determine that work performed is 

proper and does not violate law or regulation shall 

include-

(I) Details of all agreements (e.g., work requirements, rate of compensation, and nature 

and amount of other expenses, if any) with the 

individuals or organizations providing the services and details of actual services performed; 

(2) Invoices or billings submitted by consultants, including sufficient detail as to the time 

expended and nature of the actual services provided; and 

(3) Consultants' work products and related 

documents, such as trip reports indicating persons visited and subjects discussed, minutes of 

meetings, and collateral memoranda and reports. 

31. Recruitment costs. 

(a) Subject to paragraphs (b) and (c) below, and 

provided that the size of the staff recruited and 

maintained is in keeping with workload requirements, the following costs are allowable: 

(1) Costs of help-wanted advertising. 

(2) Costs of operating an employment office 

needed to secure and maintain an adequate 

labor force. 

(3) Costs of operating an aptitude and educational testing program. 

( 4) Travel costs of employees engaged in recruiting personnel. 

(5) Travel costs of applicants for interviews. 

(6) Costs for employment agencies, not in excess of standard commercial rates. 

(b) Help-wanted advertising costs are unallowable if the advertising-

( I) Is for personnel other than those required 

to perform obligations under a Government contract; 

(2) Does not describe specific positions or 

classes of positions; 

(3) Is excessive relative to the number and importance of the positions or to the industry practices; 

(4) Includes material that is not relevant for 

recruitment purposes, such as extensive illustrations or descriptions of the company's products 

or capabilities; 

(5) Is designed to "pirate" personnel from another Government contractor; or 
(6) Includes color (in publications). 

(c) Excessive compensation costs offered to prospective employees to "pirate" them from another 

Government contractor are unallowable. Such excessive costs may include salaries, fringe benefits, 

or special emoluments which are in excess of 

standard industry practices or the contractor's customary compensation practices. 

32. Relocation costs. 

(a) Relocation costs are costs incident to the permanent change of duty assignment (for an indefinite period or for a stated period of not less than 

12 months) of an existing employee or upon recruitment of a new employee. The following types 

of· costs are allowable as noted, subject to paragraphs (b) and (f) of this subsection: 

(1) Cost of travel of the employee and members of the immediate family (see 4.41) and 

transportation of the household and personal effects to the new location. 

(2) Cost of finding a new home, such as advance trips by employees and spouses to locate 

living quarters, and temporary lodging during 

the transition periods not exceeding separate cumulative totals of 60 days for employees and 45 

days for spouses and dependents, including advance trip time. 

(3) Closing costs (i.e., brokerage fees, legal 

fees, appraisal fees, points, finance charges, etc.) 

incident to the disposition of actual residence 

owned by the employee when notified of transfer, except that these costs when added to the 

costs described in paragraph (a)(4) of this subsection shall not exceed 14 percent of the sales 

price of the property sold. 

(4) Continuing costs of ownership of the vacant former actual residence being sold, such as 

maintenance of building and grounds (exclusive 

of fixing up expenses), utilities, taxes, property 

insurance, mortgage interest, after settlement 

date or lease date of new permanent residence, 

except that these costs when added to the costs 

described in subparagraph (a)(3) of this subsection, shall not exceed 14 percent of the sales 

price of the property sold. 

(5) Other necessary and reasonable expenses 

normally incident to relocation, such as disconnecting and connecting household appliances; 

automobile registration; driver's license and use 

taxes; cutting and fitting rugs, draperies, and 

curtains; forfeited utility fees and deposits; and 

33 

GPO 305.9 

May 25, 1999 

PP 

purchase of insurance against damage to or loss 

of personal property while in transit. 

(6) Costs incident to acquiring a home in a 

new location, except that-

(i) these costs will not be allowable for existing employees or newly recruited employees 

who, before the relocation, were not homeowners, and 

(ii) the total costs shall not exceed 5 percent 

of the purchase price of the new home. 

(7) Mortgage interest differential payments, 

except that these costs are not allowable for existing or newly recruited employees who, before 

the relocation, were not homeowners and the 

total payments are limited to an amount determined as follows: 

(i) The difference between the mortgage interest rates of the old and new residences 

times the current balance of the old mortgage 

times 3 years. 

(ii) When mortgage differential payments 

are made on a lump sum basis and the employee leaves or is transferred again in less 

than 3 years, the amount initially recognized 

shall be proportionately adjusted to reflect 

payments only for the actual time of the relocation. 

(8) Rental differential payments covering situations where relocated employees retain ownership of a vacated home in the old location and 

rent at the new location. The rented quarters at 

the new location must be comparable to those 

vacated, and the allowable differential payments 

may not exceed the actual rental costs for the 

new home, less the fair market rent for the vacated home times 3 years. 

(9) Cost of canceling an unexpired lease. 

(b) The costs described in paragraph (a) of this 

subsection must also meet the following criteria to 

be considered allowable: 

(1) The move must be for the benefit of the 

employer. 

(2) Reimbursement must be in accordance 

with an established policy or practice that is 

consistently followed by the employer and is designed to motivate employees to relocate promptly and economically. 

(3) The costs must not otherwise be unallowable under section 3. 

(4) Amounts to be reimbursed shall not exceed 

the employee's actual expenses, except that for 

miscellaneous costs of the type discussed in 
GPO 305.9 

May 25, 1999 

pp 

paragraph (a)(5) of this subsection, a flat 

amount, not to exceed $1,000, may be allowed in 

lieu of actual costs. 

(c) The following types of costs are not allowable: 

(1) Loss on sale of a home. 

(2) Costs incident to acquiring a home in a 

new location as follows: 

(i) Real estate brokers fees and commissions. 

(ii) Cost of litigation. 

(iii) Real and personal property insurance 

against damage or loss of property. 

(iv) Mortgage life insurance. 

(v) Owner's title policy insurance when such 

insurance was not previously carried by the 

employee on the old residence (however, cost 

of a mortgage title policy is allowable). 

(vi) Property taxes and operating or maintenance costs. 

(3) Continuing mortgage principal payments 

on residence being sold. 

(4) Payments for employee income or FICA 

(social security) taxes incident to reimbursed relocation costs. 

(5) Payments for job counseling and placement 

assistance to employee spouses and dependents 

who were not employees of the contractor at the 

old location. 

(6) Costs incident to furnishing equity or nonequity loans to employees or making arrangements with lenders for employees to obtain 

lower-than-market rate mortgage loans. 

(d) If relocation costs for an employee have been 

allowed either as an allocable indirect or direct 

cost, and the employee resigns within 12 months 

for reasons within the employee's control, the contractor shall refund or credit the relocation costs to 

the Government. 

(e) Subject to the requirements of paragraphs (a) 

through (d) of this subsection, the costs of family 

movements and of personnel movements of a special or mass nature are allowable. The cost, however, should be assigned on the basis of work (contracts) or time period benefited. 

(f) Relocation costs (both outgoing and return) of 

employees who are hired for performance on specific contracts or long-term field projects are allowable if-

(1) The term of employment is not less than 

12 months; 

(2) The employment agreement specifically 

limits the duration of employment to the time 

34 

spent on the contract or field project for which 

the employee is hired; 

(3) The employment agreement provides for 

return relocation to the employee's permanent 

and·principle home immediately prior to the outgoing relocation, or other location of equal or 

lesser cost; and 

( 4) The relocation costs are determined under 

the rules of paragraphs (a) through (d) of this 

subsection. However, the costs to return employees, who are released from employment upon 

completion of field assignments pursuant to 

their employment agreements, are not subject to 

the refund or credit requirements of paragraph 

(d). 

33. 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 4.8(m) requires that assets acquired by 

means of capital leases, as defined in FAS-13, 

shall 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 (but see paragraph (b)(4) 

of this subsection). 

(b) The following costs are allowable: 

(1) Rental costs under operating leases, to the 

extent that the rates are reasonable at the time 

of the lease decision, after consideration of-

(i) rental costs of comparable property, if 

any; 

(ii) market conditions in the area; 

(iii) the type, life expectancy, condition, and 

value of the property leased; 

(iv) alternatives available; and 

(v) other provisions of the agreement. 

(2) Rental costs under a sale and leaseback arrangement only up to the amount the contractor 

would be allowed if the contractor retained title. 

(3) Charges in the nature of rent for property 

between any divisions, subsidiaries, or organization under common control, to the extent that 

they do not exceed the normal costs of ownership, such as depreciation, taxes, insurance, facilities capital cost of money, and maintenance 

(excluding interest or other unallowable costs 

pursuant to this Instruction), provided that no 

part of such costs shall duplicate any other al-
lowed cost. Rental cost of personal property 

leased from any division, subsidiary, or affiliate 

of the contractor under common control, that has 

an established practice of leasing the same or 

similar property to unaffiliated lessees shall be 

allowed in accordance with paragraph (b)(1) of 

this subsection. 

(c) The allowability of rental costs under 

unexpired leases in connection with terminations 

is treated in 4.37(e). 

34. Royalties and other costs for use of patents. 

(a) Royalties on a patent or amortization of the 

cost of purchasing a patent or patent rights necessary for the proper performance of the contract 

and applicable to contract products or processes 

are allowable unless--

(1) The Government has a license or the right 

to a free use of the patent; 

(2) The patent has been adjudicated to be invalid, or has been administratively determined 

to be invalid; 

(3) The patent is considered to be unenforceable; or 

(4) The patent is expired. 

(b) Care should be exercised in determining reasonableness when the royalties may have been arrived at as a result of less-than-arm's-length bargaining; e.g., royalties-

(1) Paid to persons, including corporations, affiliated with the contractor; 

(2) Paid to unaffiliated parties, including corporations, under an agreement entered into in 

contemplation that a Government contract 

would be awarded; or 

(3) Paid under an agreement entered into 

after the contract award. 

(c) In any case involving a patent formerly 

owned by the contractor, the royalty amount allowed should not exceed the cost which would have 

been allowed had the contractor retained title. 

(d) See 2.6 regarding advance agreements. 

35. Selling costs. 

(a) "Selling" is a generic term encompassing all 

efforts to market the contractor's products or services, some of which are covered specifically in 

other subsections of section 4. Selling activity includes the following broad categories: 

(1) Advertising. 

35 

GPO 305.9 

May 25, 1999 

pp 

(2) Corporate image enhancement including 

broadly-targeted sales efforts, other than advertising. 

(3) Bid and proposal costs. 

(4) Market planning. 

(5) Direct selling. 

(b) Advertising costs are defined at 4.1(b) and 

are subject to the allowability provisions of 4.1(d) 

and (f). Corporate image enhancement activities 

are included within the definitions of public relations at 4.1(a) and entertainment at 4.11 and are 

subject to the allowability provisions at 4.1(e) and 

(f) and 4.11, respectively. Bid and proposal costs 

are defined at 4.15 and have their allowability controlled by that subsection. Market planning involves market research and analysis and generalized management planning concerned with development of the contractor's business. The allowability of long-range market planning costs is controlled by the provisions of 4.9. Other market planning costs are allowable to the extent that they are 

reasonable and not in excess of the limitations of 

paragraph (c)(2) of this subsection. Costs of activities which are correctly classified and disallowed 

under cost principles referenced in this paragraph 

(b) are not to be reconsidered for reimbursement 

under any other provision of this subsection. 

(c)(1) Direct selling efforts are those acts or actions to induce particular customers to purchase 

particular products or services of the contractor. 

Direct selling is characterized by person-to-person 

contact and includes such activities as familiarizing a potential customer with the contractor's 

products or services, conditions of sale, service capabilities, etc. it also includes negotiation, liaison 

between customer and contractor personnel, technical and consulting activities, individual demonstrations, and any other activities having as 

their purpose the application or adaptation of the 

contractor's products or services for a particular 

customer's use. The cost of direct selling efforts is 

allowable if reasonable in amount. 

(2) The costs of broadly targeted and direct selling efforts and market planning other than longrange, that are incurred in connection with a significant effort to promote export sales of products 

normally sold to the U.S. Government, including 

the costs of exhibiting and demonstrating such 

products, are allowable on contracts with the U.S. 

Government provided the costs are allocable, reasonable, and otherwise allowable under sections 3 

and 4 of this Instruction. 
GPO 305.9 

May 25, 1999 

pp 

(d) The costs of any selling efforts other than 

those addressed in paragraphs (b) or (c) of this 

subsection are unallowable. 

(e) Costs of the type identified in paragraphs (b), 

(c), and (d) of this subsection are often commingled 

on the contractor's books in the selling expense account because these activities are performed by 

the sales departments. However, identification and 

segregation of unallowable costs is required under 

the provisions of 3.6, and such costs are not allowable merely because they are incurred in connection with allowable selling activities. 

CD Notwithstanding any other provision of this 

subsection, sellers' or agents' compensation, fees, 

commissions, percentages, retainer or brokerage 

fees, whether or not contingent upon the award of 

contracts, are allowable only when paid to bona 

fide employees or established commercial or. selling 

agencies maintained by the contractor for the purpose of securing business. 

36. Taxes. 

(a) The following types of costs are allowable: 

(1) Federal, State, and local taxes, except as 

otherwise provided in paragraph (b) of this subsection that are required to be and are paid or 

accrued in accordance with generally accepted 

accounting principles. Fines and penalties are 

not considered taxes. 

(2) Taxes otherwise allowable under paragraph (a)(1) of this subsection, but upon which a 

claim of illegality or erroneous assessment exists; provided the contractor, before paying such 

taxes-

(i) Promptly requests instructions from the 

contracting officer concerning such taxes; and 

(ii) Takes all action directed by the contracting officer arising out of subparagraph (2)(1) of 

this subsection or an independent decision of 

the Government as to the existence of a claim 

of illegality or erroneous assessment, to (A) 

determine the legality of the assessment or (B) 

secure a refund of such taxes. 

(3) Pursuant to paragraph (a)(2) of this subsection, the reasonable costs of any action taken 

by the contractor at the direction or with the 

concurrence of the contracting officer. Interest or 

penalties incurred by the contractor for non-payment of any tax at the direction of the contracting officer or by reason of the failure of the contraoting officer to ensure timely direction after a 

prompt request. 

36 

(4) The environmental tax found at section 

59A of the Internal Revenue Code, also called 

the "Superfund Tax." 

(b) The following types of costs are not allowable: 

(1) Federal income and excess profits taxes. 

(2) Taxes in connection with financing, refinancing, refunding operations, or reorganizations (see 4.17 and 4.20). 

(3) Taxes from which exemptions are available 

to the contractor directly, or available to the contractor based on an exemption afforded the Government, except when the contracting officer determines that the administrative burden incident to obtaining the exemption outweighs the 

corresponding benefits accruing to the Government. When partial exemption from a tax is attributable to Government contract activity, taxes 

charged to such work in excess of that amount 

resulting from application of the preferential 

treatment are unallowable. These provisions intend that tax preference attributable to Government contract activity be realized by the Government. The term "exemption" means freedom 

from taxation in whole or in part and includes 

a tax abatement or reduction resulting from 

mode of assessment, method of calculation, or 

otherwise. 

(4) Special assessments on land that represent 

capital improvements. 

(5) Taxes (including excises) on real or personal property, or on the value, use, possession 

or sale thereof, which is used solely in connection with work other than on Government contracts (see paragraph (c) of this subsection). 

(6) Any excise tax in subtitle D, chapter 43 of 

the Internal Revenue Code of 1986, as amended. 

That chapter includes excise taxes imposed in 

connection with qualified pension plans, welfare 

plans, deferred compensation plans, or other 

similar types of plans. 

(7) Income tax accruals designed to account for 

the tax effects of differences between taxable income and pretax income as reflected by the 

books of account and financial statements. 

(c) Taxes on property (see paragraph (b)(5) of 

this subsection) used solely in connection with either non-Government or Government work should 

be considered directly applicable to the respective 

category of work unless the amounts involved are 

insignificant or comparable results would otherwise be obtained; e.g., taxes on contractor-owned 
work-in-process which is used solely in connection 

with non-Government work should be allocated to 

such work; taxes on contractor-owned work-inprocess inventory (and Government-owned workin-process inventory when taxed) used solely in 

connection with Government work should be 

charged to such work. The cost of taxes incurred 

on property used in both Government and nonGovernment work shall be apportioned to all such 

work based upon the use of such property on the 

respective final cost objectives. 

(d) Any taxes, interest, or penalties that were allowed as contract costs and are refunded to the 

contractor shall be credited or paid to the Government in the manner it directs. If a contractor or 

subcontractor obtains a foreign tax credit that reduces its U.S. Federal income tax because of the 

payment of any tax or duty allowed as contract 

costs, and if those costs were reimbursed by a foreign government, the amount of the reduction 

shall be paid to the Treasurer of the United States 

at the time the Federal income tax return is filed. 

However, any interest actually paid or credited to 

a contractor incident to a refund of tax, interest, or 

penalty shall be paid or credited to the Government only to the extent that such interest accrued 

over the period during which the contractor had 

been reimbursed by the Government for the taxes, 

interest, or penalties. 

37. Termination costs. 

Contract terminations generally give rise to the 

incurrence of costs or the need for special treatment of costs that would not have arisen had the 

contract not been terminated. The following cost 

principles peculiar to termination situations are to 

be used in conjunction with the other cost principles in sections 3 and 4: 

(a) Common items. The costs of items reasonably 

usable on the contractor's other work shall not be 

allowable unless the contractor submits evidence 

that the items could not be retained at cost without sustaining a loss. The contracting officer 

should consider the contractor's plans and orders 

for current and planned production when determining if items can reasonably be used on other 

work of the contractor. Contemporaneous purchases of common items by the contractor shall be 

regarded as evidence that such items are reasonably usable on the contractor's other work. Any acceptance of common items as allocable to the terminated portion of the contract should be limited 

to the extent that the quantities of such items on 

37 

GPO 305.9 

May 25, 1999 

PP 

hand, in transit, and on order are in excess of the 

reasonable quantitative requirements of other 

work. 

(b) Costs continuing after termination. Despite 

all reasonable efforts by the contractor, costs 

which cannot be discontinued immediately after 

the effective date of termination are generally allowable. However, any costs continuing after the 

effective date of the termination due to the negligent or willful failure of the contractor to discontinue the costs shall be unallowable. 

(c) Initial costs. Initial costs, including starting 

load and preparatory costs, are allowable as follows: 

(1) Starting load costs not fully absorbed because of termination are nonrecurring labor, material, and related overhead costs incurred in the 

early part of production and result from factors 

such as-

(i) Excessive spoilage due to inexperienced 

labor; 

(ii) Idle time and subnormal production due 

to testing and changing production methods; 

(iii) Training; and 

(iv) Lack of familiarity or experience with 

the product, materials, or manufacturing processes. 

(2) Preparatory costs incurred in preparing to 

perform the terminated contract include such 

costs as those incurred for initial plant rearrangement and alterations, management and 

personnel organization, and production planning. They do not include special machinery and 

equipment and starting load costs. 

(3) When initial costs are included in the settlement proposal as a direct charge, such costs 

shall not also be included in overhead. Initial 

costs attributable to only one contract shall not 

be allocated to other contracts. 

(4) If initial costs are claimed and have not 

been segregated on the contractor's books, they 

shall be segregated for settlement purposes from 

cost reports and schedules reflecting that high 

unit cost incurred during the early stages of the 

contract. 

(5) If the settlement proposal is on the inventory basis, initial costs should normally be allocated on the basis of total end items called for 

by the contract immediately before termination; 

however, if the contract includes end items of a 

diverse nature, some other equitable basis may 

be used, such as machine or labor hours. 
GPO 305.9 

May 25, 1999 

pp 

(d) Loss of useful value. Loss of useful value of 

special tooling, and special machinery and equipment is generally allowable, provided-

(1) The special tooling, or special machinery 

and equipment is not reasonably capable of use 

in the other work of the contractor; 

(2) The Government's interest is protected by 

transfer of title or by other means deemed appropriate by the contracting officer; and 

(3) The loss of useful value for any one terminated contract is limited to that portion of the 

acquisition cost which bears the same ratio to 

the total acquisition cost as the terminated portion of the contract bears to the entire terminated contract and other Government contracts 

for which the special tooling, or special machinery and equipment was acquired. 

(e) Rental under unexpired leases. Rental costs 

under unexpired leases, less the residual value of 

such leases, are generally allowable when shown 

to have been reasonably necessary for the performance of the terminated contract, if-

(1) The amount of rental claimed does not exceed the reasonable use value of the property 

leased for the period of the contract and such 

further period as may be reasonable; and 

(2) The contractor makes all reasonable efforts 

to terminate, assign, settle, or otherwise reduce 

the cost of such lease. 

(f) Alterations of leased property. The cost of alterations and reasonable restorations required by 

the lease may be allowed when the alterations 

were necessary for performing the contract. 

(g) Settlement expenses. (1) Settlement expenses, 

including the following, are generally allowable: 

(i) Accounting, legal, clerical, and similar costs 

reasonably necessary for-

(A) The preparation and presentation, including supporting data, of settlement claims 

to the contracting officer; and 

(B) The termination and settlement of subcontracts. 

(ii) Reasonable costs for the storage, transportation, protection, and disposition of property acquired or produced for the contract. 

(iii) Indirect costs related to salary and wages 

incurred as settlement expenses in (i) and (ii); 

normally, such indirect costs shall be limited to 

payroll taxes, fringe benefits, occupancy costs, 

and immediate supervision costs. 

38 

(2) If settlement expenses are significant, a 

cost account or work order shall be established 

to separately identify and accumulate them. 

(h) Subcontractor claims. Subcontractor claims, 

including the allocable portion of the claims common to the contract and to other work of the contractor, are generally allowable. An appropriate 

share of the contractor's indirect expense may be 

allocated to the amount of settlements with subcontractors; provided, that the amount allocated is 

reasonably proportionate to the relative benefits 

received and is otherwise consistent with 3.4 and 

3.9(c). The indirect expense so allocated shall exclude the same and similar costs claimed directly 

or indirectly as settlement expenses. 

38. Trade, business, technical and professional activity costs. 

The following types of costs are allowable: 

(a) Memberships in trade, business, technical, 

and professional organizations. 

(b) Subscriptions to trade, business, professional, 

or other technical periodicals. 

(c) When the principle purpose of a meeting, 

convention, conference, symposium, or seminar is 

the dissemination of trade, business, technical or 

professional information or the stimulation of production or improved productivity-

(!) Costs of organizing, setting up, and sponsoring the meetings, conventions, symposia, etc., 

including rental of meeting facilities, transportation, subsistence, and incidental costs; 

(2) Costs of attendance by contractor employees, including travel costs (see 4.41); and 

(3) Costs of attendance by individuals who are 

not employees of the contractor, provided-

(i) Such costs are not also reimbursed to the 

individual by the employing company or organization, and 

(ii) The individuals attendance is essential 

to achieve the purpose of the conference, meeting, symposium, etc. 

39. Training and educational costs. 

(a) Allowable costs. Training and education costs 

are allowable to the extent indicated below. 

(b) Vocational training. Costs of preparing and 

maintaining a non-college level program of instruction, including but not limited to on-the-job, classroom, and apprenticeship training, designed to increase the vocational effectiveness of employees 

are allowable. These costs include--
(1) Salaries or wages of trainees (excluding 

overtime compensation), 

(2) Salaries of the director of training and 

staff when the training program is conducted by 

the contractor, 

(3) Tuition and fees when the training is in an 

institution not operated by the contractor and/or 

(4) Training materials and textbooks. 

(c) Part-time college level education. Allowable 

costs of part-time college education at an undergraduate or postgraduate level, including that provided at the contractor's own facilities, are limited 

to--

(1) Fees and tuition charged by the educational institution, or, instead of tuition, instructors' salaries and the related share of indirect cost of the educational institution, to the extent that the sum thereof is not in excess of the 

tuition that would have been paid to the participating educational institution; 

(2) Salaries and related costs of instructors 

who are employees of the contractor; 

(3) Training materials and textbooks and; 

(4) Straight-time compensation of each employee for time spent attending classes during 

working hours not in excess of 156 hours per 

year where circumstances do not permit the operation of classes or attendance at classes after 

regular working hours. In unusual cases, the period may be extended (see paragraph (h) of this 

subsection). , 

(d) Full-time education. Costs of tuition, fees, 

training materials and textbooks (but not subsistence, salary, or any other emoluments) in connection with full-time education, including that provided at the contractor's own facilities, at a postgraduate but not undergraduate college level, are 

allowable only when the course or degree pursued 

is related to the field in which the employee is 

working or may reasonably be expected to work 

and are limited to a total period not to exceed two 

school years or the length of the degree program, 

whichever is less, for each employee so trained. 

(e) Specialized programs. Costs of attendance of 

up to 16 weeks per employee per year at specialized programs specifically designed to enhance the 

effectiveness of managers or to prepare employees 

for such positions are allowable. Such costs include 

enrollment fees and related charges and employees' salaries, subsistence, training materials and 

textbooks, and travel. Costs allowable under this 

paragraph do not include costs for courses that are 

39 

GPO 305.9 

May 25, 1999 

pp 

part of a degree-oriented curriculum, which are 

only allowable pursuant to paragraphs (c) and (d) 

of this subsection. 

(f) Other expenses. Maintenance expense and 

normal depreciation or fair rental on facilities 

owned or leased by the contractor for training purposes are allowable in accordance with 4.8, 4.14, 

4.21, and 4.33. 

(g) Grants. Grants to educational or training institutions, including the donation of facilities or 

other properties, scholarships, and fellowships are 

considered contributions and are unallowable. 

(h) Advance agreements. Training and education 

costs in excess of those otherwise allowable under 

paragraphs (c) and (d) of this subsection, including 

subsistence, salaries or other emoluments, may be 

allowed to the extent set forth in an advance 

agreement negotiated under 2.6. To be considered 

for an advance agreement, the contractor must 

demonstrate that the costs are consistently incurred under an established managerial, engineering, or scientific training and education program 

and that the course or degree pursued is related to 

the field in which the employees are now working 

or may reasonably be expected to work. 

(i) Training or education costs for other than 

bona-fide employees. Costs of tuition fees, textbooks, and similar or related benefits provided for 

other than bona-fide employees are unallowable. 

(j) Employee dependent education plans. Costs of 

college plans for employee dependents are unallowable. 

40. Transportation costs. 

Allowable transportation costs include freight, 

express, cartage, and postage charges relating to 

goods purchased, in process, or delivered. When 

these costs can be identified with the items involved, they may be directly costed as transportation costs or added to the cost of such items. 

When identification with the materials received 

cannot be made, inbound transportation costs may 

be charged to the appropriate indirect cost accounts if the contractor follows a consistent and 

equitable procedure. Outbound freight, if reimbursable under the terms of the contract, shall be 

treated as a direct cost. 

41. Travel costs. 

(a) Costs for transportation, lodging, meals, and 

incidental expenses. (1) Costs incurred by contractor personnel on official company business are allowable, subject to the limitations of this sub-
GPO 305.9 

May 25, 1999 

pp 

section. Costs for transportation may be based on 

mileage rates, actual costs incurred, or on a combination thereof, provided the method used results 

in a reasonable charge. Costs for lodging, meals, 

and incidental expenses may be based on per 

diem, actual expenses, or a combination thereof, 

provided the method used results in a reasonable 

charge. 

(2) Except as provided in paragraph (a)(3) of this 

subsection, costs incurred for lodging, meals, and 

incidental expenses (as defined in the regulations 

cited in (a)(2) (i) and (ii) of this subsection) shall 

be considered to be reasonable and allowable only 

to the extent that they do not exceed on a daily 

basis the maximum per diem rates in effect at the 

time of travel as set forth in the-

(i) Federal Travel Regulations, prescribed by 

the General Services Administration, for travel 

in the conterminous 48 United States, available 

on a subscription basis from the Superintendent 

of Documents, Stock No. 922-022-001-00000-2; or 

(ii) Joint Travel Regulation, Volume 2, DoD 

Civilian Personnel, Appendix A, prescribed by 

the Department of Defense, for travel in Alaska, 

Hawaii, The Commonwealth of Puerto Rico, and 

territories and possessions of the United States, 

available from the Superintendent of Documents, Stock No. 908-010-00000-1. 

(3) In special or unusual situations, actual costs 

in excess of the above-referenced maximum per 

diem rates are allowable provided that such 

amounts do not exceed the higher amounts authorized for Federal civilian employees as permitted in 

the regulations referenced in (a)(2) (i) or (ii) of this 

subsection. For such higher amounts to be allowable, all of the following conditions must be met: 

(i) One of the conditions warranting approval 

of the actual expense method, as set forth in the 

regulations referred in (a)(2) (i) or (ii) of this 

subsection, must exist. 

(ii) A written justification for use of the higher 

amounts must be approved by an officer of the 

contractor's organization or designee to ensure 

that the authority is properly administered and 

controlled to prevent abuse. 

(iii) If it becomes necessary to exercise the authority to use the higher actual expense method 

repetitively or on a continuing basis in a particular area, the contractor must obtain advance 

approval from the contracting officer. 

(iv) Documentation to support actual costs incurred shall be in accordance with the contrac40 

tor's established practices, subject to paragraph 

(a)(7) of this subsection and provided that a receipt is required for each expenditure in excess 

of $75.00 or more. The approved justification required by (a)(3)(ii) of this subsection must be retained. 

(4) Paragraphs (a)(2) and (a)(3) of this subsection do not incorporate the regulations cited in 

(a)(2) (i) and (ii) in their entirety. Only the maximum per diem rates, the definitions of maximum 

per diem rates, the definitions of lodging, meals 

and incidental expenses, and the regulatory coverage dealing with special or unusual situations 

are incorporated herein. 

(5) An advance agreement (see 2.6) with respect 

to compliance with paragraphs (a)(2) and (a)(3) of 

this subsection may be useful and desirable. 

(6) The maximum per diem rates referenced in 

paragraph (a)(2) of this subsection generally would 

not constitute a reasonable daily charge-

(i) When no lodging costs are incurred; and/or 

(ii) On partial travel days (e.g., day of departure and return). 

Appropriate downward adjustments from the maximum per diem rates would normally be required 

under these circumstances. While these adjustments need not be calculated in accordance with 

the Federal Travel Regulation or Joint Travel Regulations, they must result in a reasonable charge. 

(7) Costs shall be allowable only if the following 

information is documented-

(i) Date and place (city, town, or other similar 

designation) of the expenses; 

(ii) Purpose of the trip; and 

(iii) N arne of person on trip and that person's 

title or relationship to the contractor. 

(b) Travel costs incurred in the normal course of 

overall administration of the business are allowable and shall be treated as indirect costs. 

(c) Travel costs directly attributable to specific 

contract performance are allowable and may be 

charged to the contract under 3.8. 

(d) Airfare costs in excess of the lowest customary standard, coach, or equivalent airfare offered 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. How-
ever, in order for airfare costs in excess of the 

above standard airfare to be allowable, the applicable condition(s) set forth in this paragraph must 

be documented and justified. 

(e)(1) "Cost of travel by contractor-owned, 

-leased, or -chartered aircraft" includes the cost of 

lease, charter, operation (including personnel), 

maintenance, depreciation, insurance, and other 

related costs. 

(2) The costs of travel by contractor-owned, 

-leased, or -chartered aircraft are limited to the 

standard airfare described in paragraph (d) of this 

subsection for the flight destination unless travel 

by such aircraft is specifically required by contract 

specification, term, condition, or a higher amount 

is approved by the contracting officer. A higher 

amount may be agreed to when one or more of the 

circumstances for justifying higher than standard 

airfare listed in paragraph (d) of this subsection 

are applicable, or when an advance agreement 

under paragraph (e)(3) of this subsection has been 

executed. In all cases, travel by contractor-owned, 

-leased, or -chartered aircraft must be fully documented and justified. For each contractor-owned, 

-leased, or -chartered aircraft used for any business purpose which is charged or allocated, directly or indirectly, to a Government contract, the 

contractor must maintain and make available 

manifest/logs for all flights on such company aircraft. As a minimum, the manifest/log shall indicate-

(i) Date, time, and points of departure; 

(ii) Destination, date, and time of arrival; 

(iii) N arne of each passenger and relationship 

to the contractor; 

(iv) Authorization for trip; and 

(v) Purpose of trip. 

(3) Where an advance agreement is proposed 

(see 2.6), consideration may be given to the followmg: 

(i) Whether scheduled commercial airlines or 

other suitable, less costly, travel facilities are 

available at reasonable times, with reasonable 

frequency, and serve the required destinations 

conveniently. 

(ii) Whether increased flexibility in scheduling 

results in time savings and more effective use of 

personnel that would outweigh additional travel 

costs. 

CO Costs of contractor-owned or leased automobiles, as used in this paragraph, include the 

costs of lease, operation (including personnel), 

41 

GPO 305.9 

May 25, 1999 

pp 

maintenance, depreciation, insurance, etc. These 

costs are allowable, if reasonable, to the extent 

that the automobiles are used for company business. That portion of the cost of company-furnished automobiles that relates to personal use by 

employees (including transportation to and from 

work) is compensation for personal services and is 

unallowable as stated in 4.4(m)(2). 

42. Costs related to legal and other proceedings. 

(a) Definitions. "Conviction" means a judgement 

or conviction of a criminal offense by any court of 

competent jurisdiction, whether entered upon a 

verdict or a plea, and includes a conviction entered 

upon a plea of nolo contendere. "Costs" include, 

but are not limited to, administrative and clerical 

expenses; the cost of legal services, whether performed by in-house or private counsel; the costs of 

the services of accountants, consultants, or others 

retained by the contractor to assist it; costs of employees, officers, and directors; and any similar 

costs incurred before, during, and after commencement of a judicial or administrative proceeding 

which bears a direct relationship to the proceedmg. 

"Fraud" means (1) acts of fraud or corruption or 

attempts to defraud the Government or to corrupt 

its agents, (2) acts which constitute a cause for debarment or suspension and (3) acts which violate 

the False Claims Act, 31 U.S.C., sections 3729-

3731, or the Anti-Kickback Act, 41 U.S.C., sections 

51 and 54. 

"Penalty," does not include restitution, reimbursement, or compensatory damages. 

"Proceeding," includes an investigation. 

(b) Costs incurred in connection with any proceeding brought by Federal, State, local, or foreign 

Government for violation of, or a failure to comply 

with, law or regulation by the contractor (including its agents or employees), or costs incurred in 

connection with any proceeding brought by a third 

party in the name of the United States under the 

False Claims Act, 31 U.S.C. 3730, are unallowable 

if a result is-

(1) In a criminal proceeding, a conviction; 

(2) In a civil or administrative proceeding, either a finding of contractor liability where the 

proceeding involves an allegation of fraud or 

similar misconduct or imposition of a monetary 

penalty where the proceeding does not involve 

an allegation of fraud or similar misconduct; 
GPO 305.9 

May 25, 1999 

pp 

(3) A final decision by an appropriate official 

to-

(i) Debar or suspend the contractor; 

(ii) Rescind or void a contract; or 

(iii) Terminate a contract for default by reason of a violation or failure to comply with a 

law or regulation. 

( 4) Disposition of the matter by consent or 

compromise if the proceeding could have led to 

any of the outcomes listed in paragraphs (b)(l) 

through (3) of this subsection (but see paragraphs (c) and (d) of this subsection); or 

(5) Not covered by paragraphs (b)(1) through 

( 4) of this subsection, but where the underlying 

alleged contractor misconduct was the same as 

that which led to a different proceeding whose 

costs are unallowable by reason of paragraphs 

(b)(1) through (4) of this subsection. 

(c)(l) To the extent they are not otherwise unallowable, costs incurred in connection with any proceeding under paragraph (b) of this subsection 

commenced by the United States that is resolved 

by consent or compromise pursuant to an agreement entered into between the contractor and the 

United States, and which are unallowable solely 

because of paragraph (b) of this subsection, may be 

allowed to the extent specifically provided in such 

agreement. 

(2) In the event of a settlement of any proceeding brought by a third party under the False 

Claims Act in which the United States did not intervene, reasonable costs incurred by the contractor in connection with such a proceeding, that are 

not otherwise unallowable by regulation or by separate agreement with the United States, may be 

allowed if the contracting officer, in consultation 

with his or her legal advisor, determines that 

there was very little likelihood that the third party 

would have been successful on the merits. 

(d) To the extent that they are not otherwise unallowable, costs incurred in connection with any 

proceeding under paragraph (b) of this subsection 

commenced by a State, local, or foreign government may be allowable when the contracting officer determines, that the costs were incurred either: 

(1) As a direct result of a specific term or condition of a Federal contract; or 

(2) As a result of compliance with specific 

written direction of the cognizant contracting officer. 

42 

(e) Costs incurred in connection with proceedings described in paragraph (b) of this subsection, 

but which are not made unallowable by that paragraph, may be allowable to the extent that: 

(1) The costs are reasonable in relation to the 

activities required to deal with the proceeding 

and the underlying cause of action; 

(2) The costs are not otherwise recovered from 

the Federal Government or a third party, either 

directly as a result of the proceeding or otherwise; and 

(3) The percentage of costs allowed does not 

exceed the percentage determined to be appropriate considering the complexity of procurement 

litigation, generally accepted principles governing the award of legal fees in civil actions involving the United States as a party, and such other 

factors as may be appropriate. Such percentage 

shall not exceed 80 percent. Agreements reached 

under paragraph (c) of this subsection shall be 

subject to this limitation. If, however, an agreement described in paragraph (c)(l) of this subsection explicitly states the amount of otherwise 

allowable incurred legal fees and limits the allowable recovery to 80 percent or less of the 

stated legal fees, no additional limitation need 

be applied. The amount of reimbursement allowed for legal costs in connection with any proceeding described in paragraph (c)(2) of this subsection shall be determined by the cognizant 

contracting officer, but shall not exceed 80 percent of otherwise allowable legal costs incurred. 

(f) Costs not covered elsewhere in this subsection are unallowable if incurred in connection 

with: 

( 1) Defense against Government claims or appeals or the prosecution of claims or appeals 

against the Federal Government. 

(2) Organization, reorganization (including 

mergers and acquisitions), or resisting mergers 

and acquisitions (see also 4.24). 

(3) Defense of antitrust suits. 

(4) Defense of suits brought by employees or 

ex-employees of the contractor under section 2 of 

the Major Fraud Act of 1988 where the contractor was found liable or settled. 

(5) Costs of legal, accounting, and consultant 

services and directly associated costs incurred in 

connection with the defense or prosecution of 

lawsuits or appeals between contractors arising 

from either-
(i) An agreement or contract concerning a 

teaming arrangement, a joint venture, or similar arrangement of shared interest; or 

(ii) Dual sourcing, coproduction, or similar 

programs, are unallowable, except when-

(A) Incurred as a result of compliance 

with specific terms and conditions of the 

contract or written instructions from the 

contracting officer, or 

(B) When agreed to in writing by the contracting officer. 

(6) Patent infringement litigation, unless otherwise provided for in the contract. 

(7) Representation of, or assistance to, individuals, groups, or legal entities which the contractor is not legally bound to provide, arising from 

an action where the participant was convicted of 

violation of a law or regulation or was found liable in a civil or administrative proceeding. 

(8) Protests of Federal Government solicitations or contract awards, or the defense against 

protests of such solicitations or contract awards, 

unless the costs of defending against a protest 

are incurred pursuant to a written request from 

the cognizant contracting officer. 

(g) Costs which may be unallowable under this 

subsection, including directly associated costs, 

shall be segregated and accounted for by the contractor separately. During the pendency of any 

proceeding covered by paragraph (b), (f)(4), and 

(f)(7) of this subsection, the contracting officer 

shall generally withhold payment of such costs. 

However, if in the best interests of the Government, the contracting officer may provide for conditional payment upon provision of adequate secu43 

GPO 305.9 

May 25, 1999 

pp 

rity, or other adequate assurance, and agreement 

by the contractor to repay all unallowable costs, 

plus interest, if the costs are subsequently determined to be unallowable. 

43. Goodwill. 

Goodwill, an unidentifiable intangible asset, 

originates under the purchase method of accounting for a business combination when the price paid 

by the acquiring company exceeds the sum of the 

identifiable individual assets acquired less liabilities assumed, based upon their fair values. The 

excess is commonly referred to as goodwill. Goodwill may arise from the acquisition of a company 

as a whole or a portion thereof. Any costs for amortization, expensing, write-off, or write-down of 

goodwill (however represented) are unallowable. 

44. Costs of alcoholic beverages. 

Costs of alcoholic beverages are unallowable. 

45. Asset valuations resulting from business 

combinations. 

(a) For tangible capital assets, when the purchase method of accounting for a business combination is used, whether or not the contract or 

subcontract is subject to CAS, the allowable depreciation and cost of money shall be based on the 

capitalized asset values measured and assigned in 

accordance with 48 CFR 9904.404-50(d). if allocable, reasonable, and not otherwise unallowable. 

(b) For intangible capital assets, when the purchase method of accounting for a business combination is used. Allowable amortization and cost 

of money shall be limited to the total combination 

not taken place.