(Editor’s Note. Audit guidance on contractor’s compensation practices has been extensively revised over the last year and a half. Areas receiving most revisions are how contractors determine appropriate levels of compensation (e.g. internal controls) as well as how to assess the reasonableness of compensation for various categories of employees. The effect of these changes is to expand the scope of compensation reviews at large contractors and initiate various types of reviews at mid-sized and smaller contractors. The "revisions and clarifications" are the most extensive changes we have seen DCAA make in one area and we thought it would be a good idea to inform our readers of some of the important ones since they are more likely than ever to undergo some level of compensation review.

We intend to parse this topic into "adequate controls", senior level compensation (not executive compensation caps discussed in earlier articles) and in this article, how DCAA evaluates compensation levels of non-senior categories of labor. We have used the July 2000 edition of the DCAA Contract Audit Manual (DCAM) and our own experience first working on special compensation teams in our prior lives as DCAA auditors and then as consultants helping contractors challenge government assertions of excess compensation. We intend to insert some of our experiences in these articles. We recognize this series of articles will be of interest to other functional areas of your organization (e.g. human resources, project management, business owners, etc.) so feel free to reproduce and distribute them to people you feel will benefit.)

DCAA indicates the changes were made in response to changes in FAR 31.205-6(b) that provides for determining reasonableness of compensation costs by job class of employee and FAR 31.205-6(b)(1)(i) that allow for offsets in allowable elements of employees compensation packages (1) within the same job class or (2) at the same job grade or level in different job classes. Job class, which in the parlance of compensation are sometimes called job families, include jobs involving work of the same nature but requiring different skill or responsibility levels. For example, a job class could be engineers consisting of junior, intermediate, senior or principle engineers. Grade or level refers to a grouping of different jobs by the same value to the firm. So, for example, one grade may include all jobs having no supervisory requirement while other grades will reflect higher levels of supervisory requirements. DCAA indicates the changes were also updated to "reflect current compensation theory and practices."

Once it is determined that a contractor has some internal control deficiencies (as we will see in future articles, virtually all contractors have some) but they are not severe enough to "prevent a demonstration of reasonableness" then auditors are told to follow certain assessment steps. Chapter 6-413 of the DCAM addresses reasonableness of compensation costs for non-senior executives. It is designed to determine whether contractors’ compensation costs are allowable in accordance with FAR 31.205-6, Compensation for Personal Services.

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