For each fiscal year since 1995, Congress has passed legislation to limit personal compensation under certain contracts. These so-called executive compensation caps are in addition to current limitations on personal compensation under FAR 31.205-6 that we will explore next issue. Though these caps have been widely criticized as unworkable, bad policy and ineffective they are still on the books and must be implemented by government and industry.

The first statutory cap was included in the DOD Appropriations Act for FY 1995. It mandated that after April 15, 1995 no funds appropriated by this Act for payment on new contracts could include otherwise allowable individual compensation for any employee in excess of $250,000. The rule was incorporated into the Defense Federal Acquisition Regulations (DFARS) and comments accompanying the rule took a broad definition of costs to be limited. Rather than taking the statute use of the term "rate" and limiting the cap to "salary", all "compensation" defined under FAR 31.205-6(g) was to be included in the cap. "Compensation" under the regulation includes currently paid or deferred remuneration and covers salaries, bonuses, incentive awards, stock rights, insurance, fringe benefits, and location allowances.

DCAA audit guidance took the same broad view of "compensation". The guidance further stated that compensation charged as an indirect cost would be limited to $250,000 allocated to the indirect cost pool. By limiting the cost pool to $250,000, DCAA was, in effect preventing any excess costs to be allocated to contracts not affected by the cap. This was significant because the cap was limited to contracts awarded after April 15 – most contracts in 1995 were awarded at the beginning of the fiscal year. DCAA also made any excess charges more troublesome by imposing penalties to the unallowable costs.

The DOD Appropriations Act for 1996 imposed a lower limit of $200,000 on contracts awarded after July 1, 1996 that used 1996 appropriations. DCAA audit guidance for the 1996 rules, like its earlier 1995 guidance, maintained the same compensation definition and asserted excess costs claimed were "expressly unallowable" and hence subject to penalties. In response to questions about implementing the caps, DCAA published guidance on the acceptability of three different methods:

1. Multiple Indirect Cost Rates. This method, which DCAA finds acceptable, provides for calculation of one rate for covered contracts and another rate for contracts not subject to the cap.

2. Representative Contract Adjustment. This method, which DCAA also accepts with ACO approval, has contractors continue to charge compensation as if there was no cost limitation. Next, they calculate the total excess compensation allocable to fixed-type contracts and then credit the excess amount to a representative mix of such contracts that is determined with ACO approval.

3. Blended Rates. This method, which DCAA finds unacceptable, uses blended rates for both cap-covered and uncovered contracts. Contractors calculate the total excess compensation applicable to cost-type contracts, credit out the excess from the relevant indirect cost pool and apply the resulting rate to both covered and uncovered contract work..

The Defense Authorization Act for 1997 imposed a government-wide cap of $250,000 applicable to DOD and civilian agencies while the 1997 DOD Appropriations Act also imposed the same cap on "new" DOD contracts. Both acts limited "compensation" to "taxable wages" and "elective deferred compensation". DCAA guidance interpreted taxable wages as the amounts shown in Box 1 of the employee’s W-2 and elective deferred compensation to include the employee’s pretax contribution to a 401(k) plan.

The Authorization Act, which is applicable government-wide, limited its reach to the CEO and the four other most highly compensated employees. For those contractors with intermediate home offices and segments, it applies to the "top five" senior employees at those intermediate home office or segments. It limited the covered contracts affected by the cap to those in excess of $500,000 and excludes from the cap all firm-fixed-price contracts without cost incentives and firm-fixed-price contracts for the purchase of commercial items. It applies to only contracts awarded during 1997 and to costs incurred for those contracts from October 1, 1996 through September 30, 1997. The Authorization Act was implemented government-wide by a provision added to the FAR 31.205-6, "Personal compensation for personal services".

The DOD Appropriations Act for 1998 does not include a cap on executive compensation but the Defense Authorization Act of 1998 includes a permanent, Government-wide cap. The dollar amount of the cap will be established each year by the Office of Procurement Policy based on a single "benchmark" survey of publicly held companies with annual sales in excess of $50 million. The current 1998 cap is $340,650. The cap applies to the same "senior executives" we described above in the 1997 Act. Compensation subject to the cap includes total wages, salary, bonuses, and deferred compensation for the year, whether paid, earned, or otherwise accrued as recorded in the contractor’s cost accounting records. Thus the amount of compensation subject to the cap could well exceed that amount subject to the 1997 government-wide cap. The new permanent cap applies to costs incurred after January 1, 1998 under "covered contracts enter into before or after that date. We have included the following table to summarize the statutory caps.

The author recommends compiling a list of the contracts (including date of award and funding source) and executive positions covered by the various salary caps. Be sure that any compensation in excess of an applicable salary cap is excluded from any billings, claims or proposals submitted to the government under contracts subject to the cap.

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