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Indirect Contractor Costs

ABUS 039

DAU GLOSSARY DEFINITION

Any costs that are not identified with a final “cost objective,” which is usually a specific contract. Indirect costs are identified with two or more final cost objectives. Two common types of indirect costs are general and administrative costs and overhead costs.

Alternate Definition

An indirect cost is any cost not directly identifiable with a single, final cost objective, but identified with two or more final cost objectives or an intermediate cost objective. A grouping of indirect costs be a defense contractor is often referred to as an indirect cost pool. A cost objective, as defined in FAR 31.001, is 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 costs.

General Information

An indirect cost is any cost that benefits, supports, or is related to more than one cost objective. They fall into two categories: Overhead and General and Administrative (G&A) expenses. Depending on the contractor’s way of doing business, there may be more than these two categories, typically subcategories of these two. The costs in overhead and G&A are grouped together in what are known as pools and are typically done at least at the business unit level.

Pursuant to FAR 31.202 for reasons of practicality, contractors may treat some direct costs of a minor dollar amount as an indirect cost if the accounting treatment is consistently applied to all final cost objectives and it produces substantially the same results as treating the cost as a direct cost. For example, although a final product may require a certain number of nails, nuts and bolts, an actual physical count may be impractical, especially when considering scrape, rework or inventory shrinkage. Such items may be charged by bulk weight or dollars per pound.

In addition to overhead and G&A cost pools, some indirect costs may fall into an Intermediate Service Pool. Costs in these pools may be allocated as a direct cost or to an indirect cost pool, depending on the circumstances. Examples of intermediate service cost pools include such things as building insurance, utilities and rent, computer services support, and copy center support.

The CPRG, Volume 3, Chapter 9 discusses in depth how in allocating indirect cost pools across contracts or product lines, businesses create “bases” which are divided into the total amount of each pool to derive a rate. The formula for calculating an indirect rate is R = P/B where R is the indirect cost rate, P is the indirect cost pool, and B is the allocation base. For example, projected manufacturing labor hours or dollars for the entire business unit of the next year can be divided into the planned manufacturing overhead pool to derive a manufacturing overhead rate. This rate is then applied to the direct manufacturing labor for each product or contract, thus equitable allocating the indirect manufacturing costs. The same process would be done for other areas such as engineering or material costs. Because it is at a higher level within the company or business unit, G&A is also calculated the same way, but typically at the overall business unit level.