Ensuring compliance with the Federal Acquisition Regulation (FAR) and maintaining accurate indirect cost (or overhead) rates is crucial for securing contracts with government agencies and maintaining financial credibility.
Architecture & Engineering firms are often asked to provide overhead rates when proposing on or working on contracts with state and local government agencies. Many of these agencies are increasingly requesting that these rates be audited by an independent CPA firm. Planning for a FAR-compliant audit and establishing an accurate overhead rate can be a complex process that requires careful consideration of various key factors.
This article provides an overview of the audit process and the essential elements that A&E firms should consider when preparing for such audits.
Understanding the FAR and AASHTO Audit Guide
Understanding the intricacies of the FAR and the specific requirements for A&E firms is crucial in avoiding potential compliance issues. Part 31 of the FAR provides guidelines regarding the specific rules and procedures A&E firms must follow when calculating their overhead rates as well as specific guidance on allowable and unallowable costs that may be included in the calculation of these rates.
Further guidance is available from the AASHTO (American Association of State Highway and Transportation Officials) Uniform Audit & Accounting Guide. This guide summarizes the rules of the FAR and was issued as a tool for state DOT auditors, A&E firms, and CPA firms that perform audits of A&E firms.
Audit Requirements and the Audit Process
FAR-compliant audits include an examination of a firm’s accounting system and internal controls. Audits also include testing of indirect expenses to identify potentially unallowable costs that may not have been segregated as such, as well as testing of the payroll system to verify the proper processing of direct and indirect labor.
Most states require these audits to be completed on an annual basis, no later than 180 days after year-end. While some states have specific restrictions and caps on costs, it is often not necessary to have your CPA firm complete audits for each state. Your firm may simply disclose any state specific adjustments within the footnotes of their report. State DOTs are permitted to, and frequently do, inspect the work of auditors prior to acceptance of a firm’s rate.
Planning for a FAR-Compliant Audit
Planning for a FAR-compliant audit involves the following:
- Documentation and Record Keeping. Maintaining meticulous records and documentation of all financial transactions, project costs, and indirect expenses is vital for demonstrating transparency and accountability during the audit process as well as supporting the allowability of such transactions. A&E firms should establish robust systems for recording and storing financial data to facilitate smooth and accurate audits.
- Allocation of Direct and Indirect Costs and Segregation of Unallowable Costs. A precise allocation of direct and indirect costs is critical for developing an accurate overhead rate. A&E firms must clearly delineate between project-specific costs and overhead expenses to ensure that each cost category is appropriately accounted for and allocated in compliance with the FAR guidelines. Additionally, unallowable costs under the FAR should be identified and segregated within the general ledger.
- Implementation of Internal Control Systems. Implementing effective internal control systems is paramount for maintaining financial integrity and ensuring compliance with FAR requirements. A&E firms should establish robust internal controls that monitor financial activities and safeguard against potential risks of non-compliance and maintain related written policies and procedures.
- Engagement of an Experienced CPA Firm. Engaging an experienced CPA firm with a strong understanding of FAR requirements and Generally Accepted Government Audit Standards (GAGAS) and expertise in conducting FAR-compliant audits is essential for ensuring a smooth and efficient audit process. Collaborating with a reputable CPA firm that specializes in FAR compliance can significantly alleviate the burden of navigating complex regulatory standards and enhance the accuracy and credibility of audit findings.
Compliance with FAR regulations and the accurate calculation of overhead rates are indispensable for A&E firms seeking to secure government contracts and maintain financial transparency. By meticulously considering the key factors outlined above, A&E firms can more effectively plan for FAR-compliant audits and establish reliable indirect cost rates, thereby reinforcing their financial credibility and fostering long-term success in the government contracting arena.