An adequate billing system has increasingly become a precondition for taking advantage of many of the contracting reforms passed in the last few years. Privileges such as direct billings to paying offices, qualifying for less audit effort on incurred cost submittals and quick close-out procedures as well as media stories about excess billing incidents have contributed to the requirement that contractors demonstrate their billing system is adequate. As a result, we are seeing more and more audit scrutiny of contractors’ billing practices, either as separate audits or additional steps of other audits such as incurred cost and invoice reviews. Though we have addressed this issue from time to time in the past, we thought it would be a good idea to describe what auditors now are instructed to look for in evaluating billing practices especially since there have been numerous changes over the years.

Section 5-1100 of the Defense Contract Audit Agency’s Contract Audit Manual (DCAM) is the most commonly available source we have found that describes what an adequate system is and what approach auditors are likely to take in reviewing billing systems. The stated objective is to ensure billings are accurate and are prepared in accordance with laws and regulations as well as specific contract terms. Significant areas of review include: 

1.  Contract type determines approach. The guidance cautions its auditors that areas of emphasis will depend on the type of contracts held by contractors. For example, fixed price contracts that provide for interim payments calls for close scrutiny of estimatesto-complete, billing data such as progress payments and liquidation percentages and loss ratios when appropriate. Fixed price/level of effort contracts should be reviewed like time and material contracts where ceiling rates and unallowable and unallocable costs are identified in the contract and hours and labor categories billed are closely verified.  For cost type contracts, auditors are instructed to reconcile costs billed with properly recorded costs, limitation of cost requirements are followed and indirect billing rates are adjusted for revised budget data.

2.  Adequate Policies and Procedures. Sections 51107 through 1109 of the DCAM inform auditors that formal written statements of policies and procedures (rather than informal practices based on custom) should exist for contractors doing “substantial business” with the Government.  (Editor’s Note.  We find such terms as “substantial” and “significant” are usually left undefined and vary widely by each DCAA office. ) Areas to be covered by these policies and procedures include:

a) Training. Because government billings are unique, the guidance stresses personnel involved with   billing should have on-the-job or outside education courses that cover a basic understanding of the contractor’s accounting system, specific billing procedures, instruction how to brief a contract, a description of the review and approval of billings, guidance on applicable FAR and contract clauses and close-out procedures. 

b) Reconciliation of Recorded and Billed Costs. The contractor should be able to demonstrate its billings are prepared from cost accounting records or, at least, able to be reconciled with accounting records such as the general ledger or subsidiary ledgers. Billings produced through automated systems should demonstrate the system’s capability to identify ceiling amounts and non-billable items. 

c) Adjustment of Cost and Rates. Auditors want some assurance that indirect costs billed closely resemble actual costs incurred.  Consequently, they focus on procedures that adjust original projected rates to actual as soon as they are known. Segregation of costs by year and, at least, annual re-approval of rates are considered essential controls. 

d) Overpayments, Refunds and Offsets. Recent revelations of overpayments have made DCAA stress the need to have appropriate internal controls in place that (i) compare amounts billed to amount received for each invoice, identify any over/under payments and provide for timely notification to the ACO (ii) process refunds due the government in a timely manner, maintain a list of all refunds made to the government and identify reasons for the refunds and (iii) make offsets to contract billings in accordance with CO and payment office instructions and maintain a list of all offsets.  In addition, contractors need to have policies and procedures in place to ensure their subcontractors’ accounting and billing systems are adequate to identify and resolve overpayments, refunds and offsets.    

e) Estimates-to-Complete. Progress payments using SF 1443, Contractor’s Request for Progress Payment, must fill in line 12b that is used to determine reasonableness of billings.  Since this is a critical factor, the contractor must demonstrate these estimates-tocomplete are kept current (not more than 6 months old). 

3.  Implementation of Policies and Procedures. The DCAM urges its auditors to ensure the written policies and procedures are properly executed. The guidance specifies that (1) policies and procedures are disseminated to employees (2) they obtain proper training (3) contract briefing forms (summary sheets of essential contract information) for each contract are maintained (4) evidence of management reviews of billings before they are submitted exists and (5) proper information technology controls (e.g. general controls like preventing unauthorized use is prevented, billing system application controls) are effective.

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