Chapter 5 Internal Controls. Section 5-1005 emphasizes the need to have auditors focus on other direct costs as well as indirect costs in incurred cost and proposal audits. Also, when inconsistency between treatment of ODCs is suspected (e.g. direct charging expenses that are normally charged indirect) auditors are encouraged to review the internal controls over these costs.

Chapter 6. Incurred Costs Reviews. Section 6-609 provides an unambiguous statement that all unallowable costs subject to a penalty, no matter how small, must be identified in the audit report. It clarifies that first-level penalties (equal to the amount of unallowable cost) will apply only to expressly unallowable costs identified in either FAR 31.205 or applicable agency supplements (e.g. DFARS, DEARS) while second-level penalties (equal to 3 times the unallowable cost) applies to any unallowable costs determined to be unallowable or mutually agreed to be unallowable before the submission of the indirect settlement proposal.

Section 6-1007 is changed to identify the requirement to perform annual examinations of paid vouchers to determine continued participation in the direct billing program. This examination may be conducted either as part of another audit or a separate one.

Chapter 7 Selected Areas of Costs. Section 7-1004.1 incorporates recent changes to FAR 31.205-35, relocation costs effective on contracts awarded on or after July 29, 2002. The new guidance defines relocation costs as costs incident to a permanent change of duty assignment for a period of 12 months or more for either an existing employee or upon recruitment of a new employee. Several new sections emphasize the 12 month requirement and requires the contractor to credit relocation costs if the employee resigns for voluntary purposes before 12 months (termination for illness, disability or death do not apply). The guidance adds a description of the type of expenses normally associated with relocation expenses and explicitly states many of the costs that were previously unallowable are still unallowable such as (1) loss on the sale of a home (2) continuing mortgage principle (not interest) on the residence being sold (3) certain costs incident to acquiring a new home (FAR 31.205-35(c)(2) and (4) costs incident to furnishing or obtaining equity, non-equity or lower-than-market rate loans.

The new guidance also draws attention to the fact that the new provisions of FAR 31.205-35 are significantly different now than before July 29, 2002: (1) Payments for house hunting trips and temporary lodging trips that were limited to a maximum of 60 days for employees and 45 days for spouse and dependents prior to the change are now limited only through general reasonableness provisions in FAR 31.201-3 (2) Payments for increased employee income or FICA taxes related to relocation reimbursements (commonly called gross-ups) were unallowable before the change and are now allowable (3) Payments for spouse employment assistance were unallowable and now are allowable and (4) Lump sum reimbursement for miscellaneous expenses were limited to $1,000 and now the limit is raised to $5,000.

Chapter 10 Audit Reports. Section 10.212.2b clarifies what is to be provided to the contractor at an exit conference. In efforts to expedite issuance of audit reports, auditors are reminded to provide details of audit findings as they are discovered (not to wait until the end of the audit) and provide draft audit reports to contractors at the exit conference. The only exception are audits of forward pricing actions (e.g. individual proposals, forward pricing rates, equitable adjustments, termination settlement proposals) used to generate a negotiation position or "sensitive" audits that identify suspected "irregular conduct." The guidance provides a "reasonable" time to respond and incorporate the response in the audit report but states this time should be "minimal" and if not received the audit report should be issued stating the contractor was given a chance to respond but no response was received. (Editor’s Note. The guidance demonstrates that if contractors want to challenge an audit position they should not wait until the exit conference but should begin compiling their position as soon as they become aware of an audit position. This is sometimes difficult since some auditors are not emphatic about their positions and contractors are quite often surprised at the exit conference, or even worse, upon reading the draft audit report, to discover there are problems).

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