FAR Part 31 — Contract Cost Principles (explainer)

FAR Part 31 — Contract Cost Principles and Procedures

What this Part does

Part 31 defines which costs a contractor can and cannot charge the government on any cost-reimbursement contract (and on certain fixed-price contracts that involve cost analysis or change orders). It’s the rulebook the Defense Contract Audit Agency (DCAA) uses when it audits indirect-cost rate submissions and individual vouchers.

The structure:

• 31.1 — Applicability.
• 31.2 — Contracts with commercial organizations. This is the big one. It walks through each category of cost (31.201 principles, 31.202 direct, 31.203 indirect, 31.204 application of cost principles) and then thirty-plus specific cost items in 31.205-* (from advertising at 31.205-1 to utilities at 31.205-46).
• 31.3 — State and local governments.
• 31.6 — Nonprofit organizations.
• 31.7 — Educational institutions (overlays with 2 CFR 200).

The single most-thumbed provision is FAR 31.205-47 (costs related to legal and other proceedings) — it governs whether a contractor can recover the cost of defending itself in an investigation or lawsuit involving the government.

When you’d look here

• Your client’s indirect-cost rates are being challenged by DCAA.
• There’s a question about whether a particular expense (entertainment, lobbying, legal defense, bonus, relocation, severance) is allowable.
• A False Claims Act case turns on whether a claimed cost was allowable, allocable, and reasonable.
• You’re structuring a compensation plan and need to know if executive comp is capped (FAR 31.205-6(p)).
• A contractor is merging or spinning off and you need to understand how to treat severance, M&A transaction costs, and post-retirement benefit liabilities.

Case study: the allowability fight over investigation costs

Kestrel Defense Systems, a $400M/yearavionicscontractor,receivedaDoDIGsubpoenaconcerningaformersubcontracto{r}^{\prime }sallegedmischarging.Kestrelwas{n}^{\prime }tthetarget—thesubcontractorwas—butKestrelhadtoproducerecords,interviewwitnesses,andpayoutsidecounselroughly$1.8M over 18 months to cooperate.

At year-end, Kestrel’s CFO included the $1.8M in the indirect cost pool allocated to Kestrel’s cost-type government contracts. DCAA’s audit flagged the charge as unallowable under FAR 31.205-47, which disallows legal costs incurred “in connection with any proceeding brought by a Federal, State, local, or foreign government” where the contractor is accused of misconduct resulting in a certain disposition (criminal conviction, civil liability, debarment, etc.).

Kestrel’s counsel pushed back: the subpoena didn’t accuse Kestrel of anything; Kestrel was a third-party witness. FAR 31.205-47(f) covers costs associated with supporting a government investigation — allowable if the costs are reasonable, the contractor is not the target, and certain documentation exists. Kestrel had kept careful records distinguishing its witness-cooperation costs from any costs that might have been incurred if it were a target.

DCAA accepted the documentation for most of the charges. About $240Kwasdisallowed—workthataDCAAauditordeemedwasreally"internalinvestigation"intowhetheranyKestrelemployeehadbeencomplicit(whichwouldhavemovedthosecostsintotheunallowablebucketunder31.205-47(b)(2)).Kestreldid{n}^{\prime }tcontestthat$240K. The indirect-cost rates were approved with that carve-out.

Teaching points:

1. Allowability has pathways both ways. 31.205-47 reads like a blanket bar on legal costs near government proceedings, but (f) creates a pathway for third-party cooperation costs. Read the whole section.
2. Documentation discipline is the whole game. The difference between allowable witness cooperation and unallowable internal investigation is rarely black-and-white. If the time records don’t distinguish, DCAA treats the ambiguous portion as unallowable.
3. Allocability (FAR 31.201-4) and reasonableness (FAR 31.201-3) are separate tests from allowability, and all three must be satisfied. A cost can be allowable in principle but disallowed on reasonableness if the hourly rate is above market.

Key sections

• FAR 31.201-2 — Determining allowability.
• FAR 31.201-3 — Determining reasonableness.
• FAR 31.201-4 — Determining allocability.
• FAR 31.201-6 — Accounting for unallowable costs (penalties apply for including expressly unallowable costs in a billing).
• FAR 31.205-1 — Advertising and public relations (mostly unallowable).
• FAR 31.205-6 — Compensation for personal services (the exec-comp cap, bonuses, severance, fringe benefits).
• FAR 31.205-14 — Entertainment (unallowable).
• FAR 31.205-22 — Lobbying and political activity costs (unallowable).
• FAR 31.205-27 — Organization costs (typically unallowable).
• FAR 31.205-47 — Costs related to legal and other proceedings. The most-litigated cost principle.

Related

• FAR Part 30 — Cost Accounting Standards (the how to allocate rules, separate from what’s allowable).
• FAR Part 32 — Contract financing (the when to pay rules).
• FAR Part 42 — Contract administration, including final indirect cost-rate proposals (42.705).
• DFARS Part 231 — DoD overlay; very light.
• DCAA Contract Audit Manual — out of this vault, but relevant.
• 31 USC 3729–3733 — False Claims Act (where unallowable-cost issues often escalate).