Significant Changes to Compensation Limit on the Horizon as President Signs Budget Deal and FY2014 NDAA

December proved to be an eventful month in the procurement world as it relates to contractor compensation. On December 26, President Obama signed both the Bipartisan Budget Act of 2013 (BBA) and the National Defense Authorization Act for Fiscal Year 2014 (NDAA). Both acts include provisions for reducing the government-wide cap on the allowable costs of contractor compensation and expand the applicability of the cap to all contractor employees. Though both acts have been signed into law, changes to the Federal Acquisition Regulation (FAR) have yet to be made and, as such, existing regulations at FAR 31.205-6(p) remain applicable

The acts were signed into law just three weeks after the Office of Federal Procurement Policy (OFFP) increased the benchmark allowable compensation amount from $763,029 to $952,308 for FY 2012.

Section 811 of the 2014 NDAA includes a provision that establishes the contractor compensation cap at $625,000, with annual increases based on the Bureau of Labor Statistics Employment Cost Index (ECI).

The NDAA compensations caps were effectively superseded when the President signed the BBA, which established its own the compensation cap of $487,000. Like the NDAA cap, the BBA cap is to be adjusted annually to reflect ECI changes.

To ensure continued access to needed skills and capabilities, both the NDAA and BBA provide provisions for the head of an executive agency to establish exemptions to the cap for scientists, engineers, and other specialist positions. The NDAA expands this group to include individuals in the mathematics, medical, and cyber security fields, as well as other fields requiring unique areas of expertise. Language in the BBA caveats that these exceptions should be narrowly targeted.

Both the NDAA and BBA compensation caps apply to all civilian and defense (i.e., Department of Defense, NASA, and Coast Guard) contractor employees with the BBA, including applicability to subcontractor employees as well. Both acts are applicable on costs incurred under any cost-type contract awarded on or up to 180 days after the December 26 enactment, which would be June 24, 2014. However, the FAR would need to be modified to reflect the change.

In the coming weeks, we expect to see a proposed or interim rule updating the compensation cost principle at FAR 31.205-6(p) to reflect a reduction of the compensation cap and remove the OFFP’s authority as it relates to establishing the compensation cap. Any such FAR change will have to be carefully coordinated, as the FAR Council still has before it two other FAR cases dealing with contractor compensation.

The first, FAR Case 2012-017, is a June 26, 2013, interim rule that extended the limitation on allowability of compensation for defense contractor personnel from the top five senior executives to all employees. The second case, FAR Case 2012-025, is a proposed rule that—if finalized—would retroactively implement the expansion of the cap to contracts awarded before December 31, 2011, as it relates to defense contractor employee compensation costs incurred on or after January 1, 2012.

Even though the new compensation cap will not be in effect until the FAR is modified, it is recommended that contractors proactively begin to analyze the potential impact of the anticipated change. At a minimum, contractors should begin:

  1. Evaluating their work force to determine those employees and positions that would likely be impacted by a reduced compensation cap
  2. Analyzing the associated potential impact of the reduced cap and expanded applicability on future forward pricing rates, direct labor rates, and provisional indirect billing rates
  3. Identifying individual key personnel and standard service offerings that might qualify for the aforementioned “specialist” exemptions within the BBA and NDAA; and developing documentation on the importance of the individual skills and capabilities to customer requirements
  4. Assessing the potential impact on departmental and company-wide profit margins resulting from a reduced cap and its expanded applicability to all contractor employees.

In addition, for contractors currently proposing on contracts subject to FAR Part 31 that are anticipated to be awarded on or after June 24, 2014, it is recommended that consideration be given to the likely possibility of a reduced compensation cap when proposing and negotiating contract award.

The views expressed in this article are those of the authors and do not necessarily reflect the position or policy of Berkeley Research Group, LLC.