Applicability: These two FAR provisions work together to enforce the FAR limitations on pass-through charges. Both the solicitation provision (FAR 52.215-22) and the contract clause (FAR 52.215-22) are included in civilian and DoD contracts when the estimated contract value or order value exceeds the simplified acquisition threshold and the contemplated contract type is expected to be a cost-reimbursement type. In addition, for DoD contracts, they are included when the total estimated contract or order value exceeds the threshold for obtaining certified cost or pricing data unless (a) the contract is fixed price (firm fixed price, fixed-price with economic price adjustment, or fixed-price incentive) awarded on the basis of adequate price competition, or (b) the contract is fixed price for the acquisition of commercial items.
Key Requirements: In accordance with Section 866 Duncan Hunter National Defense Authorization Act for Fiscal Year 2009, the FAR was amended to disallow excessive pass-through charges by contractors (or lower-tier subcontractors) that add no or negligible value to the subcontracted work. The FAR implemented the law thru the promulgation of the solicitation provision at FAR 52.215-22 and the contract clause at FAR 52.215-23. These provisions define “excessive pass-through charges” and “added value” as follows:
“Excessive pass-through charge”, with respect to a Contractor or subcontractor that adds no or negligible value to a contract or subcontract, means a charge to the Government by the Contractor or subcontractor that is for indirect costs or profit/fee on work performed by a subcontractor (other than charges for the costs of managing subcontracts and any applicable indirect costs and associated profit/fee based on such costs).
“Added value” means that the Contractor performs subcontract management functions that the Contracting Officer determines are a benefit to the Government (e.g., processing orders of parts or services, maintaining inventory, reducing delivery lead times, managing multiple sources for contract requirements, coordinating deliveries, performing quality assurance functions).
Under the solicitation provision, if the offeror intends to subcontract more than 70 percent of the total cost of work to be performed under the contract, the offeror must describe the added value provided by the offeror as related to the work to be performed by the subcontractor(s). The contracting officer will then determine if excessive pass-through charges exist.
Under the contract clause, if the contractor’s proposal submission did not anticipate subcontracting out more than 70 percent of the total cost of the work, but the amount of subcontract effort changes after award such that it exceeds (or is anticipated to exceed) the 70 percent threshold, the contractor must notify the Government of the change. In such cases, the Government will then verify that the Contractor will provide added value. The contract clause also has an Alternate I, which is included when the proposal submission anticipated 70% of the work to be subcontracted and the contracting officer determined that the proposal included an adequate description of the value added. Alternate I states that the Contracting Officer has determined that there will be no excessive pass-through charges, provided the Contractor performs the disclosed value-added functions. Thus, in cases where Alternate I is included, a contractor needs to only show that it has performed the functions disclosed in its proposal/description.
Compliance Verification: Compliance verification is generally performed by the Defense Contract Audit Agency or other cognizant auditor, although the contracting officer and/or contract specialists may also perform a review. The review can be performed during the proposal submission process (if the 70% threshold is anticipated to be exceeded) or after contract award (this review can be performed on any contract, regardless of whether the 70% threshold was or was not exceeded during contract performance).
Remedies: For proposal submissions subject to the solicitation provision, lack of an adequate description of added value can jeopardize contract award. Guidance issued by the Defense Contract Audit Agency instructs auditors to classify a proposal as inadequate if the “added value” description is not included in the proposal submission.
Under the contract clause, if the Contracting Officer determines that excessive pass-through charges exist, these charges are unallowable on contracts subject to FAR Part 31 (e.g., contracts for which payment is based on actual costs incurred). For DoD fixed price contracts, the Government is entitled to a price reduction for the amount of excessive pass-through charges included in the contract price. The contract clause applies regardless of whether the 70% threshold was exceeded (the threshold is only for contractor notification purposes).
Background: The law originated as a result of from some abuses that occurred during Hurricane Katrina. As an example, Contractor A received a contract with the Government to perform repair work on houses at a cost of $20 per square foot.
Contractor A then subcontracted the work to Contractor B at $16 per square foot.
Contractor B then further subcontracted the work to Contractor C for $12 per square foot.
And then Contractor C subcontracted the work to Contractor D for $8 a square foot.
So when it was all done, the Government paid $20 per square foot to Contractor A, even though the work was done by Contractor D for less than half that price, and none of the Contractors in between (A, B, or C ) added any value. Thus, the law was passed requiring that the contractor add value, and the term “excessive pass through costs” became part of the FAR.
Other Key Information: If the offeror intends to subcontract more than 70 percent of the total cost of work to be performed under the contract, include an adequate description of the value to be added by the prime or higher tied subcontractor in the proposal submission. Upon contract award, assure that Alternate I of the clause at 52.215-23 is included in the contract. After contract award, monitor subcontracting efforts during contract performance for those contracts where it was not anticipated that subcontracting would exceed the 70% threshold, including flagging contracts that were not anticipated to exceed 70% at the time of proposal submission, but then exceed (or are anticipated to exceed) the 70% threshold during contract performance. For those contracts, notify the Government that the threshold has been exceeded and include an adequate description of the value being added. Finally, be prepared to provide an adequate description of the value added for any contracts subject to the clause.