Research and Development Costs - Audit Guidance

Section 7-1500 of the Defense Contract Audit Agency Contract Audit Manual (DCAM) specifically addresses IR&D costs. Its defines it as technical effort not sponsored by or required for a contract or grant consisting of projects falling into the four areas identified above: (1) basic research (2) applied research (3) development and (4) systems and other concept formulation studies. It also states that all contractors, whether they are CAS covered or not, are subject to most provisions of CAS 420 that are incorporated into FAR 31.205-18(b).

General Considerations

The audit guidance identifies specific areas for reviewing proposed IR&D costs:

1. Citing the seven conditions of DOD’s "potential interest", auditors are to consider whether the contractor includes activities not meeting this condition and if suspect, are to request a technical evaluation.

2. Auditors are to identify any development projects that may have entered the production phase. These production related costs are not considered IR&D and hence are to be eliminated from IR&D costs.

3. IR&D projects that have been incurring costs for a long time are to be identified and the auditor is to make an initial determination if demonstrable progress has not been made. In many cases, the guidance indicates this determination cannot be made without technical assistance. (Editor’s Note. We are unaware of a requriement to show "demonstrable progress" - this requirement appears to be an initiative of DCAA)

4. Contractor contributions to cooperative research and development consortiums are to be reviewed to determine whether the costs should be considered IR&D or consortium costs that result from a company’s participation in a cooperative venture of two or more companies authorized by the National Cooperative Research Act of 1984. Though many of the projects are truly IR&D and hence the contractor’s contributions do qualify for IR&D status, other projects relate more to developing and producing products and services intended to be used in a contractor’s own production facilities and these costs should be considered manufacturing and production engineering expenditures covered by FAR 31.205-25.

5. As the FAR requires, IR&D costs are to be accounted for in the same manner as contracts and hence are to include all related direct costs and allocable indirect costs.
Auditors are reminded that IR&D costs often benefit some profit centers and not others so in such cases those costs should be included in the G&A costs of those profit centers with the clear implication they should be eliminated from other profit center G&A pools. Auditors are reminded that contracting officers may approve use of a different base of allocations when allocation through G&A does not provide an "equitable cost allocation." The guidance follows up with the statement that auditors’ determinations regarding allocation issues be should be included as part of its advisory report.

Rules Under Other Agreements. Cooperative Arrangements. FAR 31.205-18 provides that the various cooperative arrangements contractors may enter into such as joint ventures, limited partnerships, teaming arrangements and various consortium agreements under a variety of recent government authorities (e.g. Stevenson-Wydier Technology Transfer Act, NASA Act of 1985, DARPA agreements) provides that the IR&D costs are to be allowable if the work performed would have been allowable as IR&D had there been no such arrangement. Under a NASA class deviation and later revision to FAR, contracts entered after May 1994 were allowed to have IR&D contributions made to NASA cooperative agreements treated as allowable IR&D costs.

Technology Reinvestment Projects. The TRP awards provide that government funds be matched by participants in each project in the form of cash, services or in-kind value of equipment including software and IR&D effort incurred after the TRP award. DCAA asserts that since TRP are administered by government agencies (e.g. DARPA) they are subject to FAR 31.205-18 and CAS 420. Hence, all IR&D assigned to the TRP project are allowable if they would be allowable without the TRP but if the contractor attempts to claim these same costs indirectly, then they are to be cited for a CAS 402 noncompliance. The auditor is told to review TRP costs to determine whether they are included as indirect IR&D costs to ensure they are disallowed.

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