What is the regulatory basis for the Contracting Officer direction to not charge the proposal preparation costs as indirect costs (Bid & Proposal (B&P)? The Contracting Officer direction appears to be inconsistent with the provisions of FAR 31.205-18, CAS 420 and interpretative guidance.
While the contracting officer retains decision authority when deciding the extent to which costs are allowable, allocable, and reasonable on government contracts, I provide the following points (emphases mine) for consideration. You may want to discuss them with the contracting officer.
1) See the first paragraph of the memorandum on direct charging of proposal preparation costs at this link.
2) FAR 31.205-18(a): "Bid and proposal (B&P) costs means the costs incurred in preparing, submitting, and supporting bids and proposals (whether or not solicited) on potential Government or non-Government contracts. The term does not include the costs of effort...or required in the performance of a contract."
Note the word "potential," i.e., B&P costs for modification of an existing contract may be considered differently than those for a modification of an existing contract. Along the same line also note: "The term does not include the costs of effort...required in the performance of a contract."
3) FAR Part 2: "Direct cost means any cost that is identified specifically with a particular final cost objective. Direct costs are not limited to items that are incorporated in the end product as material or labor. Costs identified specifically with a contract are direct costs of that contract. All costs identified specifically with other final cost objectives of the contractor are direct costs of those cost objectives.