FAC 2005-15

[Federal Register: December 12, 2006 (Volume 71, Number 238)]

48 CFR Chapter 1, et al.

Federal Acquisition Regulations; Final Rules

DEPARTMENT OF DEFENSE

GENERAL SERVICES ADMINISTRATION

NATIONAL AERONAUTICS AND SPACE ADMINISTRATION

48 CFR Chapter 1

Federal Acquisition Regulation; Federal Acquisition Circular 2005-15; Introduction

AGENCIES: Department of Defense (DoD), General Services Administration (GSA), and National Aeronautics and Space Administration (NASA).

ACTION: Summary presentation of final rules.

SUMMARY: This document summarizes the Federal Acquisition Regulation (FAR) rules agreed to by the Civilian Agency Acquisition Council and the Defense Acquisition Regulations Council in this Federal Acquisition Circular (FAC) 2005-15. A companion document, the Small Entity Compliance Guide (SECG), follows this FAC. The FAC, including the SECG, is available via the Internet at http://www.regulations.gov.

DATES: For effective dates and comment dates, see separate documents, which follow.

FOR FURTHER INFORMATION CONTACT: The analyst whose name appears in the table below in relation to each FAR case or subject area. Please cite FAC 2005-15 and specific FAR case number(s). For information pertaining to status or publication schedules, contact the FAR Secretariat at (202) 501-4755.

List of Rules in FAC 2005-15

ITEM

Subject

FAR CASE

Analyst

I

Payments Under Time-and-Materials and Labor-Hour Contracts

2004-015

Olson

II

Additional Commercial Contract Types

2003-027

Olson

SUPPLEMENTARY INFORMATION: Summaries for each FAR rule follow. For the actual revisions and/or amendments to these FAR cases, refer to the specific item number and subject set forth in the documents following these item summaries.

FAC 2005-15 amends the FAR as specified below:

Item I--Payments Under Time-and-Materials and Labor-Hour Contracts (FAR Case 2004-015)

This final rule revises and clarifies policies related to award and administration of noncommercial item Time-and-Materials (T&M) and Labor-Hour (LH) contracts and the policies regarding payments made under those contracts. The objectives of the changes are to ensure fair and reasonable prices under T&M and LH contracts and to eliminate confusion related to payment amounts for subcontractor provided labor.

Item II--Additional Commercial Contract Types (FAR Case 2003-027)

This final rule implements section 1432 of the National Defense Authorization Act for Fiscal Year 2004 (Pub. L. 108-136). Title XIV of the Act, referred to as the Services Acquisition Reform Act of 2003 (SARA), amended section 8002(d) of the Federal Acquisition Streamlining Act of 1994 (FASA) (Pub. L. 103-355, 41 U.S.C. 264) to expressly authorize the use of Time-and-Materials (T&M) and Labor-Hour (LH) contracts for commercial services under specified conditions.

Dated: December 4, 2006. Linda K. Nelson, Deputy Director, Contract Policy Division.

Federal Acquisition Circular

Federal Acquisition Circular (FAC) 2005-15 is issued under the authority of the Secretary of Defense, the Administrator of General Services, and the Administrator for the National Aeronautics and Space Administration.

Unless otherwise specified, all Federal Acquisition Regulation (FAR) and other directive material contained in FAC 2005-15 is effective February 12, 2007.

Dated: November 22, 2006. Shay D. Assad, Director, Defense Procurement and Acquisition Policy.

Dated: November 22, 2006. Roger D. Waldron, Acting Senior Procurement Executive, General Services Administration.

Dated: November 21, 2006. Tom Luedtke, Assistant Administrator for Procurement, National Aeronautics and Space Administration.

[Federal Register: December 12, 2006 (Volume 71, Number 238)]

DEPARTMENT OF DEFENSE

GENERAL SERVICES ADMINISTRATION

NATIONAL AERONAUTICS AND SPACE ADMINISTRATION

48 CFR Parts 16, 32, and 52

[FAC 2005-15; FAR Case 2004-015; Item I; Docket 2006-0020, Sequence 23]

Federal Acquisition Regulation; FAR Case 2004-015, Payments Under Time-and-Materials and Labor-Hour Contracts

AGENCIES: Department of Defense (DoD), General Services Administration (GSA), and National Aeronautics and Space Administration (NASA).

ACTION: Final rule.

SUMMARY: The Civilian Agency Acquisition Council and the Defense Acquisition Regulations Council (Councils) have agreed on a final rule amending the Federal Acquisition Regulation (FAR) to clarify payment procedures for Time-and-Materials (T&M) and Labor-Hour (LH) Contracts.

DATES: Effective Date: February 12, 2007.

FOR FURTHER INFORMATION CONTACT: For clarification of content, contact Mr. Jeremy Olson at (202) 501-3221. Please cite FAC 2005-15, FAR case 2004-015. For information pertaining to status or publication schedules, contact the FAR Secretariat at (202) 501-4755.

SUPPLEMENTARY INFORMATION:

A. Background DoD, GSA, and NASA published a proposed rule in the Federal Register at 70 FR 56314 on September 26, 2005. The amendments made under this case are intended to be applicable primarily to non-commercial item contracts. Policies primarily applicable to commercial item T&M or LH contracts are being addressed separately under FAR case 2003-027.

The proposed amendments to FAR 16.307, 16.601, 16.602, 32.111, and 52.232-7 are intended to amend the underlying policies and increase the clarity of the affected FAR language. The FAR amendments address the areas related to payments made under T&M and LH contracts for non-commercial items, as described below. 1. FAR 16.307 - Contract clauses.

The Councils amended FAR 16.307(a)(1) to specify that the Allowable Cost and Payment Clause is included in T&M contracts. The clause is only applicable to the portion of the contract that provides for reimbursement of materials at actual cost and related indirect costs. This change is being made to ensure that appropriate rights and responsibilities are provided in T&M contracts with respect to reimbursement for material cost.

2. FAR 16.601 - Time-and-materials contracts.

The Councils revised the language at FAR 16.601(a) to provide a description of ``materials'' as used in ``time-and-materials contract.'' FAR 16.601(a) currently describes a T&M contract as a contract that provides for acquiring supplies or services on the basis of--

Direct labor hours at specified fixed hourly rates that include wages, overhead, general and administrative expenses, and profit; and

Materials at cost, including, if appropriate, material handling costs as part of material costs.

The prior FAR description did not address subcontract costs, even though such costs are often a significant part of the work performed and are provided for under the payments clause at 52.232-7. Also, that description did not address other direct costs and applicable indirect costs other than material handling (e.g., general and administrative expenses) that may be appropriate for the acquisition.

3. General structure of FAR 52.232-7 - Payments under Time-and-Materials and Labor-Hour Contracts.

The Councils amended the current paragraph (b) of the clause at FAR 52.232-7 to specify that the term ``materials,'' as used in the clause, includes direct materials, subcontracts for supplies and ancillary services, other direct costs, and applicable indirect costs (this is consistent with the proposed changes to FAR 16.601). Materials also include supplies and ancillary services transferred between divisions, subdivisions, subsidiaries, or affiliates of the contractor under a common control.

Although the proposed rule had proposed to revise ``materials'' to include all subcontracts for services, the final rule defines subcontracts for labor as part of the definition of labor, if the subcontracted labor meets the requirements of the prime contract for labor hours. The prior FAR language had caused significant confusion because it did not adequately describe what is included in ``labor'' or ``materials.''

4. Contractor furnished material - Alternate I.

The Councils moved and amended the prior Alternate I of the clause at FAR 52.232-7. When a contractor furnishes its own materials that meet the definition of a commercial item at 2.101, the price to be paid for such materials shall be the contractor's established catalog or the market price. The ability of the contractor to bill at such prices should not be dependent on a contracting officer decision as to whether an alternate clause should be included in the contract.

5. Profit or fee on materials.

The Councils amended FAR 52.232-7(b)(7) to specifically state that the Government does not pay profit or fee to the prime contractor on materials (except for commercial items discussed in item 4, above or as otherwise provided for in FAR 31.205-26). The Councils believe this is consistent with the historical intent of the clause and the concept of a T&M contract. The recovery of profit or fee is accomplished as part of the labor hour portion of the T&M/LH contract.

6. Billing subcontracts and interdivisional transfers for incidental supplies or services.

For subcontracts, the Councils clarified that subcontracts for incidental services are to be reimbursed at the actual subcontract price, plus allowable indirect costs, per the requirements of FAR 52.216-7, Allowable Cost and Payment. For interdivisional transfers, the Councils revised the language to limit reimbursement to the actual rates or commercial prices of the division performing the work and specified that only one division may obtain profit. No profit pyramiding within a company is to be permitted.

7. Billing subcontracts and interdivisional transfers for services that comply with the labor hour requirements.

For services performed by employees of subcontractors, the proposed rule had included a process under which that labor would be reimbursed at actual cost (plus related indirect costs) unless it was included on a list in the prime contract. If it were included on the list, it was to be paid at the labor hour rate.

The final rule eliminates that proposed approach. The final rule provides that all labor hours that qualify under the labor hour requirements of the contract are to be paid at the labor hour rate specified in the contract. This applies regardless of whether an individual is an employee of the prime contractor, a subcontractor or an affiliate of the prime contractor.

8. Solicitation provisions.

The final rule incorporates three new solicitation provisions that direct how proposals address subcontract labor.

The first provision applies to acquisitions of noncommercial items that are to be based on adequate price competition. This provision requires each offeror to indicate for each labor rate in the proposal whether it is a rate that applies to employees of one company or if it is a blended rate that applies to employees of more than one company. The offerors must show for each labor rate if it applies to employees of the prime contractor, employees a particular subcontractor or affiliate, or if it is a blended rate that applies to employees of more than one subcontractor or employees of the prime contractor or any subcontractor. Agency procedures may authorize contracting officers to select one of three options in the provision as mandatory, and/or to require each offer to identify individual subcontractors in the proposal.

The second provision applies to acquisitions of noncommercial items not based on adequate price competition. This provision requires the offeror to establish separate individual labor hour rates for prime contractor employees, employees of each subcontractor and employees from affiliates of the offeror.

The third provision applies to acquisitions of commercial items and it requires each offeror to identify for each proposed labor hour rate whether the rate applies to prime contractor employees, subcontractor employees or employees from affiliates of the offeror.

9. Application of the Prompt Payment Act.

The Councils amended FAR 52.232-7(i) to include application of the Prompt Payment Act for interim payments under T&M and LH contracts for services. The Prompt Payment Act has applied to fixed-price contracts for services for many years. Congress also recently amended the Prompt Payment Act to include cost reimbursement contracts for services. The Councils believe that since the Prompt Payment Act is applicable to both fixed-price and cost reimbursement contracts for services, it should also be applicable to T&M and LH contracts for services.

Discussion and Analysis

Payment for labor performed by subcontractors is treated differently depending on whether a contract action is awarded under adequate price competition or not. If a contract is not awarded on the basis of adequate price competition, the contract must separately identify labor rate categories for each subcontractor, in addition to the labor rates for the contractor. If the price of a contract is based on adequate price competition, the CO is not required to include separate rates for subcontractors, but may use blended rates that apply to any labor meeting the qualifications of the contract, regardless of whether provided by the contractor or a subcontractor.

The Councils adopted the philosophy on treatment of subcontractor labor that was developed under FAR Case 2003-027 and applied it to noncommercial T&M contracts awarded on the basis of adequate price competition. That is, FAR case 2003-027 requires no special treatment of labor provided by subcontractors. Any labor that meets the labor hour qualifications of the contract is to be paid at the labor hour rate specified in the contract, regardless if it provided by individual working for the prime contractor or a subcontractor. This approach was developed under FAR case 2003-027 for commercial items because it was felt that competitive pressure would produce fair and reasonable prices and eliminate potential abuses related to subcontractor labor. Competition for commercial items is the same as competition for noncommercial items and the approach should be the same for both FAR cases.

However, for noncommercial T&M contracts awarded without adequate price competition, competitive pressures are substantially diminished and the Government must take a much more cautious approach with respect to labor provided by subcontractors. Labor hour rates for these types of actions are largely based on cost information provided by the prime contractor. In order to avoid potential for issues arising after award of a noncompetitive T&M contract, each subcontractor must have its labor hour rates specified in the prime contract. This will be required in FAR Part 16 and offerors will be required to include such rates in their offer by a solicitation provision.

The FAR amendment includes three new solicitation provisions to be used for noncommercial T&M/LH solicitations. These provisions serve several purposes. First, they communicate plainly that labor hour rates for subcontractors are a potential major issue that must be addressed by the CO and by the offerors. Second, they communicate that contracts awarded on the basis of adequate price competition may be approached in a much more flexible way than may be used for contracts not awarded competitively. Finally, they provide a structure to CO's that can be used to eliminate issues related to potential abuse of subcontract labor hour rates.

FAR 52.216-29, Time-and-Material/Labor-Hour Proposal Requirements--Noncommercial Item Acquisitions without Adequate Price Competition, instructs offerors that they may identify the labor rates they are proposing in either one of three different manners. First, offerors may propose blended rates under which labor hours will be paid at the same rate, regardless of whether the individual performing the labor works for the prime contractor or a subcontractor. Second, offerors may offer labor hour rates that include two sets of rates, one set for individuals employed by the offeror and a second set for individuals employed by subcontractors. Third, offerors may offer multiple sets of labor hour rates, one set for individuals employed by the offeror and additional sets for each subcontractor for individuals employed by different subcontractors. If CO's are authorized by agency procedures, the contracting officer may amend this provision to pre-select a single method from among those three methods that every offeror must use.

FAR 52.216-30, Time-and-Material/Labor-Hour Proposal Requirements--Noncommercial Item Acquisitions without Adequate Price Competition, instructs offerors that they must offer multiple sets of labor hour rates, one set for individuals employed by the offeror and a additional sets for each subcontractor for individuals employed by different subcontractors. The purpose of this solicitation provision is to enforce the policy in Part 16 which requires acquisitions awarded on the basis other than adequate price competition to include individual labor hour rates for each subcontractor.

FAR 52.216-31, Time-and-Material/Labor-Hour Proposal Requirements--Commercial Item Acquisitions, instructs offerors that they must identify for each labor hour rate if the rate applies to only the offeror, a subcontractor, and affiliate of the offeror, or any combination.

Disposition of Public Comments

Comments were received from 17 respondents in response to the proposed rule. The Councils considered all of the comments and recommendations in developing the final rule. The Councils made the following changes to the proposed rule as a result of the public comments and deliberations:

(1) Definition of ``Hourly Rate.'' Established a definition for ``hourly rate'' to permit reimbursement of subcontracts for services and services transferred between divisions, subsidiaries, or affiliates under a common control at the hourly rates in the schedule when the employee meets the labor qualification specified in the contract (see comment (4)(c)(3)).

(2) Definition of ``Materials.'' Revised the definition for ``materials ''to (1) exclude subcontracts for services and services transferred between divisions, subsidiaries, or affiliates under a common control from the definition of ``materials'' because these services are included in the ``hourly rate'' when the services meet the labor qualifications specified in the contract (2) add incidental services to the examples of other direct costs (see comment (4)(c)(3)). Subcontracts for services and services transferred between divisions, subsidiaries, or affiliates under a common control that do not meet the labor qualifications specified in the contract are incidental services but see (3)(ii) below.

(3) Reimbursement for Subcontract and Interdivisional Transfers of Services. Eliminated the provisions in the proposed rule that only permitted reimbursement of subcontract costs at the hourly rates in the contract when the subcontractors were listed in the contract. (see comment (4)(c), (4)(e)). Added provisions that--

(i) Require reimbursement of subcontracts for services and services transferred between divisions, subsidiaries, or affiliates under a common control of at the hourly rates in the schedule that include profit when the employees performing the work meet the qualifications specified in the contract.

(ii) Address reimbursement for subcontracts for services and services transferred between divisions, subsidiaries, or affiliates under a common control when the employees performing the work do not meet the qualifications specified in the contract. Payment for such services is at the sole discretion of the Government.

(iii) Require separate fixed hourly rates that include wages, overhead, general and administrative expenses, and profit for each category of labor. When the contract is awarded without adequate price competitions, the rule also requires a separate set of rates for labor performed by the contractor, each subcontractor, and each division, subsidiary, or affiliate of the contractor under a common control that will perform on the contract.

(4) Solicitation Provisions. Added three solicitation provisions to ensure contractors understand the methodology for reimbursing subcontract costs (see comment (4)(c),(11)(c)).

(5) Timecards. Revised the rule to recognize that companies use both paper-based and electronic timecards (see comment (4)(c), (9)).

(6) Commercial Item Materials. Revised the prescription for reimbursing commercial items to clarify the commercial catalog or market prices are subject to negotiation (see comment (4)(c)(4)(b)).

(7) Assignment and Release of Claims. Re-titled the paragraph previously title ``Assignment'' to ``Assignment and Release of Claims'' to clarify both topic are covered in the paragraph (see comment (4)(c), (7)).

(8) Refunds. Deleted the current provision on refunds from the clause because the provisions duplicate coverage in the Allowable Cost and Payment clause (see comment (4)(c), (4)(d)).

Discussion of Public Comments

(1) Restrict Use of T&M Contracts. A respondent commented: Revise FAR 16.601(c) to also restrict the use of T&M contracts when the costs other than direct labor are incidental to the work. If a contract requires substantial direct materials, interdivisional transfers, subcontracts, and other direct costs, or the costs are so high that they warrant the submission, auditing, and settlement of final indirect rates, the contract type should not be a T&M contract.

Response: When substantial direct materials, interdivisional transfers, subcontracts, and other direct costs are anticipated, a T&M contract type may not be appropriate. However, selecting the appropriate contract type is generally a matter for negotiation and requires the exercise of sound judgment. The objective is to negotiate a contract type and price (or estimated cost and fee) that will result in reasonable contractor risk and provide the contractor the greatest incentive for efficient and economical performance. There are many factors the contracting officer must consider in selecting the appropriate contract type. T&M contracts are the least preferable contract type that can only be used when it is not possible at the time of placing the contract to estimate accurately the extent or duration of the work or to anticipate costs with any reasonable degree of confidence.

(2) Allowable Cost and Payment Clause. A respondent commented: Clarify which provisions of the Allowable Cost And Payment clause apply to the material portion of T&M contracts. Recommend either repeating the applicable portions of the clause in the T&M clause or identifying the Allowable Cost and Payment clause as a required clause in FAR Subpart 16.6.

Response: As prescribed in FAR 16.307(a), the Allowable Cost and Payment clause is a required clause for all cost-reimbursement contracts. All provisions of the clause are applicable to the material portions of T&M contracts. The rule clearly specifies that the Allowable Cost and Payment clause is included in T&M contracts and that it is only applicable to the portion of the contract that provides for reimbursement of materials at actual costs. The change is being made to ensure that the appropriate rights and responsibilities are provided in T&M contracts. The Councils see no reason to repeat the clause in the T&M clause. Multiple clauses will be included in T&M contracts.

(3) Definition of Materials. A respondent commented: The proposed definition of material that includes direct materials, subcontracts for supplies and services, other direct costs, and applicable indirect costs adds certainty to the process and will eliminate significant issues that arise during the audit process. A respondent commented: The proposed definition of materials is contrary to the common business meaning of the word. Instead of defining materials to include subcontracted services, the rule should exclude the word materials from the contract type. The Government routinely reimburses travel, equipment, communication, and other direct costs under T&M contracts. Recommend instead establishing a time-and-other-direct-cost contract type. A respondent commented: Do not include subcontracts in the definition of materials. Instead, separately address subcontracts and interdivisional transfers to clarify the payment policies for these elements of cost and to avoid inevitable disputes over whether the subcontract for supplies and services was ``material consumed directly in connection with furnishing the service'' that is reimbursed at the fixed contract rates or another type of subcontract for supplies and services that would be reimbursed at actual costs. A respondent commented: Including services transferred between divisions, subsidiaries, or affiliates of the contractor under a common control and subcontracts for services in the definition of materials is contrary to the traditional, and common sense, definition of the term ``materials.'' Prime, subcontract, and interdivisional labor should be included in the ``time'' element. A respondent commented: Including subcontract services and incidental expense in ``materials'' is contrary to common usage and to the language of FAR 31.205-26 and 45.301. Instead, recommend separately addressing the elements of costs as follows:

Direct labor (time) means prime and subcontractor labor devoted to the performance of the tasks in the statement of work (SOW).

Materials mean products, including raw materials, parts, subassemblies, components, and manufacturing supplies, whether manufactured or purchased by the contractor, and including such collateral items as inbound transportation and in transit insurance.

Incidental services means services performed or purchased solely for the support of contract direct labor, such as travel, printing, or computer usage.

Indirect costs.

Response: While the definition for materials in the rule is different from the referenced definitions at FAR 31.205-26 and 45.301, reimbursing subcontracts for services and other costs as materials is not contrary to common usage for T&M contracts. Currently, FAR 16.601(a) only identifies ``direct labor'' and ``materials'' as elements of T&M contracts. However, the associated payment clause at FAR 52.232-7, Payments Under T&M/LH Contracts addresses payment of ``materials and subcontracts.'' In addition, the Government routinely pays contractors for other direct costs (ODC) and G&A incurred in performance of a T&M contract even though ODC and G&A are not mentioned in FAR 16.601 or 52.232-7. In addition, contractors commonly record subcontracts for services, like subcontracts for supplies, as elements of ``materials'' for accounting purposes. There are no known problems with the longstanding practice of reimbursing these other costs as materials. Therefore, the Councils see no reason to revise ``time-and-materials'' contracts to ``time-and-other-direct-cost'' or ``time-and-material-and-subcontract-and-interdivisional transfers'' or ``time-and-material-and-incidental services-and-indirect costs'' contracts as recommended by the various commenters. The Councils did, however, establish a definition for ``hourly rate'' to clarify that subcontract and interdivisional labor will be reimbursed at the ``hourly rate'' whenever the employee satisfies the labor qualifications specified in the contract. The Councils also revised the definitions of ``materials'' to-- (1) exclude subcontracts for services and interdivisional transfers of services that meet the labor qualifications specified in the contract from the definition of material because these elements of cost are now included in the definition of ``hourly rate'' for the purposes of reimbursing the subcontracts; and (2) add incidental services to the examples of other direct costs.

(4) Methodology for Reimbursing Materials.

(a) A respondent commented: Strongly support the proposed methodology for reimbursing commercial materials and the deletion of the ``most favored customer''provisions.

(b) A respondent commented: Revise the prescription for reimbursing commercial materials from ``shall be the contractor's established catalog or market price ''to `` shall not exceed the contractor's established catalog or market price'' because the proposed language could be interpreted to mean contracting officers cannot negotiate better pricing.

Response: While the proposed language did not preclude negotiating better prices, the recommended change more clearly establishes that the prices are subject to negotiation. Therefore, the Councils revised the rule as recommended.

(c) A respondent commented: Pay the catalog or market price for materials of the prime's own production that are commercial items (excluding the products of its affiliates) and reimburse the cost of other materials at actual costs, including properly allocable indirect costs, but no profit or fee.

Response: When a contractor furnishes its own material that meets the definition of a commercial item at FAR 2.101, the contractor will be paid the established catalog or market price for the item. Product of its affiliates will be reimbursed on the basis of costs incurred except when the supplies are sold or transferred between divisions, subdivisions, subsidiaries, or affiliates of the contractor under a common control and it is the established practice of the transferring organization to price interdivisional transfers at other than cost and the other conditions of 31.205-26 are met. Profit or fee will not be paid on materials that are reimbursed at cost.

(d) A respondent commented: Delete the current provision on refunds from FAR 52.232-7, Payments Under Time-and-Materials and Labor-Hour Contracts, because the provision duplicates the provision in FAR 52.216-7, Allowable Cost and Payment.

Response: The Councils revised the rule to eliminate redundant coverage.

(e) Methodology for Reimbursing Subcontracts. A respondent commented: Concept of reimbursing subcontract labor at the hourly rates in the contract or the actual cost to the prime contractor is sound but do not permit blended prime and subcontractor labor rates. Establish separate hourly rates in the contract for subcontract labor not reimbursed based on actual costs. The subcontract rates should include prime contractor indirect costs allocable to subcontract costs and profit. A respondent commented: Reimburse all subcontract labor at the contract rates when the subcontracts satisfies all contract labor qualifications is appropriate, fair, and in the Government's best interest. Requiring subcontracts to be listed in the contract in order to be reimbursed at the contract labor rates will make it extremely difficult for the Government to acquire ``on-call'' or ``on-demand'' services that sometimes require a prime contractor to take responsibility for hundred or even thousands of subcontractors often interspersed across a wide geographic area. Requiring contract modifications for every change in subcontractor poses an excessive administrative burden on both parties. Reimburse subcontract labor at the schedule labor rates without listing the subcontractors in the contract when the contractor's proposal indicates that some of the work may be performed by subcontractors that meet the contract's qualification requirements and that the price for that ``type of work'' will be the prime contract's labor rate which may be blended or other rate. T&M/LH contracts specify the required labor qualifications. Whether the person filling the position is an employee of the prime or a subcontractor, the qualifications must be met. The Government has already determined through adequate price competition or otherwise the pricing is fair and reasonable for the ``type of work.'' The subcontract consent provisions are unduly burdensome. Absent the contracting officer's approval and the resulting contract modification to add new subcontractors, contractors will not be paid profit on the subcontract costs even though the contractor remains responsible for the subcontractor's performance. Lack of profit will discourage the use of subcontractors. A respondent commented: Allowing contracting officers to identify the subcontracts to be reimbursed at the contract rates is a positive step since the rule clearly allows prime to be paid profit on subcontracts. Recommend also allowing reimbursement for subcontracts at the contract rates when the prime proposal includes subcontracted services, the contractor is in a teaming relationship with the subcontractor, or when the acquisition has opportunities for small and small disadvantaged businesses. Small and small disadvantaged businesses rely heavily on subcontracting with prime contractors on T&M contracts. If primes are not paid profit on the subcontracts, the primes will be motivated to perform all the work themselves which could hurt small businesses and may not result in the best technical solution for the Government. Contractors establish large teams of large and small businesses to meet the requirements of indefinite-delivery contracts. If they are not allowed to recover profit on subcontracts, competition will be reduced and the Government may not get competition or the best technical solution. When the subcontracts are reimbursed at the contract rates, the prime assumes the risk of subcontractor labor rate changes. The Government is assured fair and reasonable prices based on competition or price analysis. Reimbursing subcontracts at actual costs shifts the risk of subcontract labor escalation to the Government. A respondent commented: Reimburse subcontract labor under the labor portion of the contract and do not treat subcontracts as an element of ``material.'' If the work qualifies for the hourly rate in the schedule, the Government should not care if the work was performed by a subcontractor or another division of the contract. It is not always feasible to establish hourly rates for specific subcontractors at the time of contract award. In some cases, the fixed hourly rates are a blend of anticipated prime and subcontractor hourly rates. This approach yields more competitive hourly rates for the Government and promotes using all categories of small businesses to achieve price advantage. Requiring separate fixed hourly rates for individual subcontractors would further complicate an already complex invoicing and payment process. Further, the bargain agreed upon at the time of contract award must be maintained throughout contract performance unless revised by mutual agreement. Some contractors have priced blended prime and subcontract rates but were subsequently reimbursed on their actual costs for subcontracts which is inequitable because it unilaterally changed the terms of the contract. A respondent commented: Requiring additional rates and approvals add an unnecessary layer of administration that is not commensurate with the level of risk or cost benefit. Additional controls that restrict a contractor's use of proven subcontractors greatly reduce a contractor's ability to efficiently support the Government. Recommend revising the rule to properly place the responsibility for performing and providing qualified staff on the prime. The rule should allow prime contractors to provide competent staff, including subcontractors when a business need exists, and only designate key personnel when the criticality of the work dictates a need to do so. Change the rule to only require a notification instead of the proposed requirement for consent to subcontract. Use the proposed audit provisions as the monitoring device for excessive profit or fee. The Government can reject the work provided by a subcontractor using the inspection and acceptance clauses. A respondent commented: It is not always feasible to establish hourly rates for specific subcontractors at the time of contract award. T&M contracts are only used when it is not possible at the time of award to estimate accurately the extent or duration of the work. It may be difficult to identify at the time of award all the subcontractors that ultimately will be needed to perform the work. For ``on-call'' or ``on-demand'' services, contractors are not able to predict which subcontractors will be called on to fulfill each requirement. The restriction on subcontract profit will reduce the use of qualified subcontractors, especially small and small disadvantaged business. In addition, contractors will not be paid the appropriate compensation for administrative cost and financial risk that accompany the use of subcontracts unless the subcontractors are identified in advance. Any final rule should allow contractors to be paid profit on all subcontract labor that is not incidental to performance. The Government should focus on the value of the hours worked instead of the name of the subcontractor performing the work to allow the prime contractor to identify and retain the best people available for contract performance. A more flexible approach should be used that does not require formal contract modification. The flexibility in performance and selection of subcontractors is particularly critical to the prime contractor. A respondent commented: Prime contractors will only use subcontractors that are less expensive than the prime if blended prime and subcontract labor rates are used. This will limit the use of small business subcontractors since few small businesses achieve T&M rates that are competitive with large businesses because their overhead bases are smaller. Also, requiring each subcontract to be identified in the contract in order to be reimbursed at the contract rates will serve as a barrier to adding new subcontractors during contract performance. The requirement to list each subcontractor in the contract is significantly more cumbersome that the consent to subcontract requirements that are currently required for T&M contracts. Contractors will have to develop new blended rates that will be subject to audit and approval and formally modify the contract to add new subcontractors. Prime contractors will only use small businesses to the extent they are required to do so by their small business subcontracting plans and maybe not even then if the small businesses rates are sufficiently higher than the blended rates. A respondent commented: Not paying profit or fee on subcontracts is extremely detrimental to small businesses. Many small business prime contractors get much of their annual revenues from contracts with large amounts of materials and minor labor hour or T&M costs to support integration, deployment, or maintenance of the materials. Not paying profit on these materials would erode potential earnings for these small businesses. In addition, large businesses often subcontract out work that could be performed by the large business to meet small business subcontracting goals on Government contracts. If large businesses are no longer paid profit on subcontracts, large businesses will be far less likely to subcontract out work. An objective of the rule is to ensure fair and reasonable prices. Fair and reasonable must be applied to both the Government and the contractor. Not paying profit on materials is not a ``fair'' policy. Market forces will act competitively to keep the Government's price fair and reasonable. A respondent commented: The Government pays profit on materials and subcontracts on cost-plus-fixed-fee contracts. The existing prohibition on paying profit on materials and subcontracts on T&M contracts stems from the fact that such costs were incidental to the contract. Contrary to statements in the proposed rule, the Government's use of T&M contracts has changed over time and other factors have significantly changed. Large businesses are now required to subcontract out to small and small disadvantaged subcontractors to meet their subcontracting goals. This requirement did not exist when the prohibition on paying profit on materials and subcontracts was adopted. Small businesses—

(1) use consultants and subcontractors to supplement their capabilities and effectively compete for potential contracts;

(2) need the flexibility to change subcontractors during contract performance; and

(3) need to make profit on subcontracted services or they will not bid on contracts if they do not have the employees with the required expertise.

The need for subcontracts and consultants is driven by the requirement of the contract. The contracts are not personal services contracts. The Government and prime contractors contract for services at specified prices and they negotiate the price for the work in terms of the effort required by the contract. When small businesses do not have the in-house staff to perform the work, they use salary surveys and their indirect cost structure to estimate the cost of employees they will ultimately subcontract with to perform the work which may or may not be disclosed to the Government. On large procurement, this may be the only way to be responsive. The small businesses takes the risk that they will be able to find subcontract labor at their estimated rate and there are times when the small businesses' actual cost for the labor exceeds their estimated price and the small business does not recover its cost of subcontracting. For many small businesses, subcontract labor may be used to perform the majority of the work. If the small business will not be paid profit on these subcontracts, the small business would not be adequately compensated and would have no incentive to bid on the effort. As a result, competition would decrease and some services would not be available in the small business community. In addition, placing too many limitations on subcontracting for large businesses will ultimately reduce the subcontracting opportunities for small businesses. It is in the best interest of the Government to encourage subcontracting. The Government should have the right to know when subcontractors are being replaced for quality assurance purposes and should be able to review and approve subcontractor's qualifications.

Finally, listing only the known subcontracts in the contract will not help small businesses and will discourage prime contractors from finding and using small businesses. Contract modifications to add subcontractors after contract award could take significant time and could significantly disrupt or delay the federal procurement process. When there is adequate competition or GSA schedule prices, the Government should have the right to approve new subcontractors for quality but not the right to automatically negotiate a new hourly rate which implies the right of contractors to increase the hourly rates after contract award. The administrative costs for T&M contracts will increase significantly and competition among small businesses will significantly decrease. The Government should focus on disclosure and verification of qualifications and not prohibitions or restrictions on subcontracting and renegotiating prices when adequate competition exists. Instead of limiting reimbursement to subcontractors listed in the contract, recommend also permitting subcontractors and consultants to be reimbursed at the contract rates if the labor categories are listed that that will be subcontracted out and simply adding the subcontractors name to the list when the subcontract is awarded. A respondent commented: The inability to make profit, coupled with the inherent prime contractor oversight requirements will have a negative affect on subcontracting. Prime contractors will be motivated to use their own employees in order to earn profit. The negative affect will fall disproportionately on small businesses which is contrary to current procurement policy.

A respondent commented: Reimburse subcontract at the prime's actual cost because contractors are being reimbursed for subcontract at the prime's rates but are using lower costs, and less qualified, subcontracts to perform the work. A respondent commented: Restrict reimbursement of subcontract costs to actual costs because the prime contractor could subsequently negotiate lower rates with subcontractors that were authorized to be paid at the schedule rates and the Government would pay excessive prices for subcontracted effort that may be of a level less than that envisioned by the Government. Reimbursing at the schedule rates encourages contractors to maximize profit by subcontracting out more of the effort at lower subcontract rates. The Government will expend additional resources to monitor the quality and efficiency of the subcontract labor since the subcontract effort will not be readily apparent when billed at the schedule rates.

Response: Limiting reimbursing of subcontract labor to actual costs is not consistent with the treatment on all other flexibly priced Government contracts where prime contractors are paid profit on subcontract costs. In addition, requiring subcontractors to be listed in the contract in order to be reimbursed at the hourly rates could

have a negative impact on small businesses and was administratively burdensome to contractors. Upon further consideration, the Councils believe it is appropriate to reimburse subcontracts on competively awarded T&M contracts at the schedule labor rates without listing the subcontracts. The Councils revised the rule accordingly. However, the Councils do not believe it is appropriate to eliminate the traditional consent and advance notification requirements for non-commercial T&M. These same consent and advance notification requirements are not new for T&M contracts. The Councils are unaware of any systemic issues relating to their applicability on T&M contracts. Therefore, the final rule does not change the standard consent and advance notification requirements for non-commercial T&M contracts. In addition, the Councils revised the rule to require separate labor rates for each subcontract and interdivisional transfer of services when adequate price competition is not obtained. There may be circumstances when it is appropriate to use blended prime and subcontract labor rates when the prices are based on adequate competition. Therefore, the rule permits use of blended prime and subcontract labor rates when the prime contract is awarded with adequate competition. However, nothing in the rule prevents the Government from establishing separate labor rates for each subcontract when the prime contract is awarded based on competition. Also, the rule provides for payment of profit on subcontract labor paid at the hourly rates in the contract.

(f) Interdivisional Transfers. Coalition Comment: Imposing FAR Part 31 on interdivisional transfers should be avoided.

Response: The rule provides that interdivisional transfers of labor that meet the qualifications specified in the contract will be reimbursed at the ``hourly rates'' in the contract. For these interdivisional transfers, FAR Part 31 is not imposed. For all other interdivisional transfers, contractors will be reimbursed on the basis of cost incurred in FAR Subpart 31.2.

(g) A respondent commented: Pay allowable indirect costs allocable to subcontracts, either by inclusion in stipulated hourly rates for specific contractors or by addition to subcontract direct costs, (b) materials, and (c) incidental services.

Response: The rule permits payment of indirect costs either by inclusion in the hourly rates in the contract when the subcontract labor meets the labor qualifications specified in the contract or at actual costs as recommended by the commenter.

(h) A respondent commented: Reimburse the prime contractor for the cost of incidental services, including properly allocable indirect costs, but no profit or fee.

Response: Refer to Comment 3 above. The Councils did not adopt the recommendation to establish a new ``incidental services'' category. The rule does, however, result in reimbursement of these elements of costs, including properly allocable indirect costs, with no profit or fee.

(5) Total Cost and Ceiling Price. A respondent commented: Consolidate the ``Total Cost'' and ``Ceiling Price'' paragraphs.

Response: The ``Total Cost'' paragraph addresses contractor responsibilities. The ``Ceiling Price'' paragraph addresses the Government's responsibility to pay or not pay. Therefore, the Councils believe it is appropriate to separately address total cost and the ceiling price.

(6) Assignment and Release of Claim. A respondent commented: Change the title of paragraph (f) of the FAR clause at 52.232-7, Payments Under Time-and-Materials and Labor-Hour Contracts from ``Assignment'' to ``Release of Claims,'' which is what the paragraph is really about.

Response: The Councils revised the title of the paragraph to ``Assignments and Release of Claims'' because both topics are discussed in the provision.

(7) Withhold. A respondent commented: Revise the rule to clarify the payment withhold is limited to five percent or $50,000 and that the withhold is applied at the contract level instead of the task order level.

Response: The Payments under Time-and-Materials and Labor-Hour Contracts clause (52.232-7) was modified as suggested by the contractor in FAR Case 2004-003 which was published in the Federal Register at 71 FR 43576 on July 27, 2005.

(8) Timecards. A respondent commented: Delete the requirement to validate the individual daily job timecards to provide contractors the flexibility to use electronic time keeping systems.

Response: The Councils revised the final rule to require access to the timekeeping records instead of job timecards to recognize electronic timekeeping systems.

(9) Prompt Payment. A respondent commented: Revise the rule to permit Prompt Payment Act interest also on the material portion of T&M contracts. The Prompt Payment Act was revised to make prompt payment interest applicable to interim payments on cost reimbursement contracts for services. T&M contracts are not equivalent to cost reimbursement contracts and it is not logical to apply interest to labor without including the material resources required to provide the labor. However, the impact of excluding interest on the material portion is probably negligible since most of the payments on T&M contracts are for labor. Restricting prompt payment interest to labor will certainly make more work for Government disbursing official who will have to segregate labor from material to compute the interest penalties. Any amount the Government saves from only paying prompt payment interest on labor will likely be more than offset by the administrative costs of computing the interest on only the labor portion of the invoice.

Response: The Prompt Payment Act applies to fixed-price contracts and interim payments on cost-reimbursable contracts for services. The Councils lack the authority to extend the Act to interim payments for supplies.

(10) Miscellanous.

(a)A respondent commented: Strongly request the Councils to hold additional public meetings to provide the public the opportunity to further explain the comments submitted.

Response: The Councils determined that the FAR changes are within the scope of changes contemplated by the proposed rule and that no further public meetings or proposed rule are appropriate. Further public meetings or public comments would not result in comments that are substantially different from those already submitted.

(b) A respondent commented: Recommend having the effective date for the rule be 60 days after publication in the Federal Register so agencies can develop implementing guidance and update the associated training.

Response: The effective date for FAR changes is generally 30 days after publication in the Federal Register. However, the Councils agree agencies may need additional time to implement guidance and update the associated training. Therefore, the rule will have an effective date 60 days after publication in the Federal Register.

(c) A respondent commented: Recommend the Councils take steps to ensure the solicitation process clearly addresses the method for reimbursing subcontract costs, i.e., only at actual costs unless the subcontractor is listed in the contract.

Response: The rule no longer requires listing subcontracts in the contract in order for the costs to be reimbursed using the fixed hourly rates in the contract. The rule includes two solicitation provisions to ensure contractors understand the methodology for reimbursing subcontract costs.

(d) A respondent commented: Urge the Councils to also remove the ``most favored customer'' provisions from FAR 31.106-3.

Response: The provisions at FAR 31.106-3 are outside the scope of this rule. However, the Councils are considering the recommended change.

(e) A respondent commented: The Supplementary Information in the proposed rule said that subcontracted labor paid at the LH rate must be accounted for and substantiated under the same standards as labor hours provided by the prime contractor. This could be interpreted to mean prime contractors are required to include the subcontractor costs in the prime's overhead base for direct labor. Clarify how prime contractors should allocate overhead to subcontract labor. Also, address the potential inconsistency of bidding/billing some subcontractor labor at contract rates and others at cost with respect to Cost Accounting Standards (CAS) compliance.

Response: The Supplementary Information in the proposed rule did include this statement. However, nothing in the proposed or final rule require prime contractors to include subcontractor costs in the overhead base for direct labor. Contractors should continue to allocate overhead to subcontract labor consistent with their disclosed or established procedures. CAS relate to allocation issues. The costs allocable to T&M contracts may differ significantly from the costs billed and paid for the T&M contract. The same is true for fixed-price contracts.

(f) A respondent commented: Replace the term ``voucher'' with ``invoice''.

Response: The term ``voucher'' refers to interim payments on cost reimbursement contracts. The term ``invoice'' refers to delivery payments and payments on fixed-price contracts. Therefore, the Councils did not revise the terminology as recommended.

This is not a significant regulatory action and, therefore, was not subject to review under Section 6(b) of Executive Order 12866, Regulatory Planning and Review, dated September 30, 1993. This rule is not a major rule under 5 U.S.C. 804.

B. Regulatory Flexibility Act The Regulatory Flexibility Act, 5 U.S.C. 601, et seq., applies to this final rule. The Councils prepared a Final Regulatory Flexibility Analysis (FRFA) as follows: 1. Statement of need for, and objectives of, the rule. This rule revises the Federal Acquisition Regulation to amend underlying policies and increase the clarity of payments made under T&M and LH contracts for non-commercial items. The objectives of the amendment are to ensure fair and reasonable prices under T&M contracts and to eliminate the ambiguity in T&M contracts that has been responsible for confusion over payment amounts for subcontractor provided labor.

2. Summary of significant issues raised by the public comments in response to the Initial Regulatory Flexibility Analysis (IRFA), a summary of the assessment of the agency of such issues, and a statement of any changes made in the proposed rule as a result of such comments.

Comments were received from 17 respondents in response to the proposed rule. The Councils considered all of the comments and recommendations in developing the final rule. The Councils made the following changes to the proposed rule as a result of the public comments and deliberations:

(a) Definition of ``Hourly Rate.'' Established a definition for ``hourly rate'' to permit reimbursement of subcontracts for services and services transferred between divisions, subsidiaries, or affiliates under a common control at the hourly rates in the schedule when the employee meets the labor qualification specified in the contract (see comment (4)(c)(3)).

(b) Definition of ``Materials.'' Revised the definition for ``materials'' to-- (1) exclude subcontracts for services and services transferred between divisions, subsidiaries, or affiliates under a common control from the definition of ``materials'' because these services are included in the ``hourly rate'' when the services meet the labor qualifications specified in the contract; and (2) add incidental services to the examples of other direct costs (see comment (4)(c)(3)). Subcontracts for services and services transferred between divisions, subsidiaries, or affiliates under a common control that do not meet the labor qualifications specified in the contract are incidental services but see (3)(ii) below.

(c) Reimbursement for Subcontract and Interdivisional Transfers of Services. Eliminated the provisions in the proposed rule that only permitted reimbursement of subcontract costs at the hourly rates in the contract when the subcontractors were listed in the contract (see comment (4)(c)(4)(e)). Added provisions that--

(i) Require reimbursement of subcontracts for services and services transferred between divisions, subsidiaries, or affiliates under a common control of at the hourly rates in the schedule that include profit when the employees performing the work meet the qualifications specified in the contract.

(ii) Address reimbursement for subcontracts for services and services transferred between divisions, subsidiaries, or affiliates under a common control when the employees performing the work do not meet the qualifications specified in the contract. Payment for such services is at the sole discretion of the Government.

(iii) Require separate fixed hourly rates that include wages, overhead, general and administrative expenses, and profit for each category of labor. When the contract is awarded without adequate price competitions, the rule also requires a separate set of rates for labor performed by the contractor, each subcontractor, and each division, subsidiary, or affiliate of the contractor under a common control that will perform on the contract.

(d) Solicitation Provisions. Added two solicitation provisions to ensure contractors understand the methodology for reimbursing subcontract costs (see comment (4)(c)(11)(c)).

(e) Timecards. Revised the rule to recognize that companies use both paper-based and electronic timecards (see comment (4)(c)(9)).

(f) Commercial Item Materials. Revised the prescription for reimbursing commercial items to clarify the commercial catalog or market prices are subject to negotiation (see comment (4)(c)(4)(b)).

(g) Assignment and Release of Claims. Re-titled the paragraph previously title ``Assignment'' to ``Assignment and Release of Claims'' to clarify both topic are covered in the paragraph (see comment (4)(c)(7)).

(h)Refunds. Deleted the current provision on refunds from the clause because the provisions duplicate coverage in the Allowable Cost and Payment clause (see comment (4)(c)(4)(d)). 3. Description of, and an estimate of the number of, small entities to which the rule will apply or an explanation of why no such estimate is available.

The changes may have a significant economic impact on a substantial number of small entities within the meaning of the Regulatory Flexibility Act, 5 U.S.C. 601, et seq., because T&M contracting is a common method of acquiring services from small entities. However, it is not feasible to estimate the number of small entities impacted.

4. Description of projected reporting, record keeping, and other compliance requirements of the proposed rule, including an estimate of the classes of small entities which will be subject to the requirement and the type of professional skills necessary for preparation of the report or record.

The prior FAR policies required contractors to maintain records to support invoices presented to the Government for payment. Such records included original timecards, the contractor' timekeeping procedures, distribution of labor, invoices for material, and so forth. These are standard records maintained by any company, large or small, and the fact that the contract would require that these records be made available to the Government should not place any additional record keeping burden on the entity.

5. Description of any significant alternatives to the rule which accomplish the stated objectives of applicable statutes and which minimize any significant economic impact of the proposed rule on small entities. Significant alternatives to the final rule include:

Not permitting any subcontractor to be paid at the labor hour rate and reimbursing all subcontractors at actual cost.

Requiring any subcontractor to be listed in the prime contract as the sole means of authorizing payments of labor for that subcontractor to be at the labor hour rate specified in the contract.

Incorporating a list of each Other Direct Cost (ODC) into each T&M contract that would be authorized for reimbursement under that contract and prohibiting reimbursement of any other ODC.

Not requiring a list of each Other Direct Cost (ODC) authorized for reimbursement and permitting any ODC to be reimbursed.

Interested parties may obtain a copy of the FRFA from the FAR Secretariat. The FAR Secretariat has submitted a copy of the FRFA to the Chief Counsel for Advocacy of the Small Business Administration.

C. Paperwork Reduction Act The Paperwork Reduction Act (Pub. L. 104-13) does not apply because the changes to the FAR do not impose information collection requirements that require the approval of the Office of Management and Budget under 44 U.S.C. 3501, et seq.

List of Subjects in 48 CFR Parts 16, 32, and 52

Government procurement. Dated: December 4, 2006. Linda K. Nelson, Deputy Director, Contract Policy Division.

Therefore, DoD, GSA, and NASA amend 48 CFR parts 16, 32, and 52 as set forth below:

1. The authority citation for 48 CFR parts 16, 32, and 52 continues to read as follows:

Authority: 40 U.S.C. 121(c); 10 U.S.C. chapter 137; and 42 U.S.C. 2473(c).

PART 16-TYPES OF CONTRACTS

2. Amend section 16.307 by revising paragraph (a)(1) to read as follows:

16.307 Contract clauses.

(a)(1) The contracting officer shall insert the clause at 52.216-7, Allowable Cost and Payment, in solicitations and contracts when a cost-reimbursement contract (other than a facilities contract) or a time-and-materials contract (other than a contract for a commercial item) is contemplated. If the contract is with an educational institution, modify the clause by deleting from paragraph (a) the words ``Subpart 31.2'' and substituting for them ``Subpart 31.3.'' If the contract is with a State or local government, modify the clause by deleting from paragraph (a) the words ``Subpart 31.2'' and substituting for them ``Subpart 31.6.'' If the contract is with a nonprofit organization other than an educational institution, a State or local government, or a nonprofit organization exempted under OMB Circular No. A-122, modify the clause by deleting from paragraph (a) the words ``Subpart 31.2'' and substituting for them ``Subpart 31.7.'' If the contract is a time-and-materials contract, the clause at 52.216-7 applies only to the portion of the contract that provides for reimbursement of materials (as defined in the clause at 52.232-7) at actual cost.

* * * * *

3. Revise section 16.601 to read as follows:

16.601 Time-and-materials contracts.

(a) Definitions for the purposes of Time-and-Materials Contracts.

Direct materials means those materials that enter directly into the end product, or that are used or consumed directly in connection with the furnishing of the end product or service.

Hourly rate means the rate(s) prescribed in the contract for payment for labor that meets the labor category qualifications of a labor category specified in the contract that are--

(1) Performed by the contractor;

(2) Performed by the subcontractors; or

(3) Transferred between divisions, subsidiaries, or affiliates of the contractor under a common control.

Materials means--

(1) Direct materials, including supplies transferred between divisions, subsidiaries, or affiliates of the contractor under a common control;

(2) Subcontracts for supplies and incidental services for which there is not a labor category specified in the contract;

(3) Other direct costs (e.g., incidental services for which there is not a labor category specified in the contract, travel, computer usage charges, etc.); and

(4) Applicable indirect costs.

(b) Description. A time-and-materials contract provides for acquiring supplies or services on the basis of--

(1) Direct labor hours at specified fixed hourly rates that include wages, overhead, general and administrative expenses, and profit; and

(2) Actual cost for materials (except as provided for in 31.205-26(e) and (f)).

(c) Application. A time-and-materials contract may be used only when it is not possible at the time of placing the contract to estimate accurately the extent or duration of the work or to anticipate costs with any reasonable degree of confidence.

(1) Government surveillance. A time-and-materials contract provides no positive profit incentive to the contractor for cost control or labor efficiency. Therefore, appropriate Government surveillance of contractor performance is required to give reasonable assurance that efficient methods and effective cost controls are being used. (2) Fixed hourly rates. (i) The contract shall specify separate fixed hourly rates that include wages, overhead, general and administrative expenses, and profit for each category of labor (see 16.601(e)(1)).

(ii) For acquisitions of noncommercial items awarded without adequate price competition (see 15.403-1(c)(1)), the contract shall specify separate fixed hourly rates that include wages, overhead, general and administrative expenses, and profit for each category of labor to be performed by--

(A) The contractor;

(B) Each subcontractor; and

(C) Each division, subsidiary, or affiliate of the contractor under a common control.

(iii) For contract actions that are not awarded using competitive procedures, unless exempt under paragraph (c)(2)(iv) of this section, the fixed hourly rates for services transferred between divisions, subsidiaries, or affiliates of the contractor under a common control--

(A) Shall not include profit for the transferring organization; but

(B) May include profit for the prime contractor.

(iv) For contract actions that are not awarded using competitive procedures, the fixed hourly rates for services that meet the definition of commercial item at 2.101 that are transferred between divisions, subsidiaries, or affiliates of the contractor under a common control may be the established catalog or market rate when--

(A) It is the established practice of the transferring organization to price interorganizational transfers at other than cost for commercial work of the contractor or any division, subsidiary or affiliate of the contractor under a common control; and

(B) The contracting officer has not determined the price to be unreasonable.

(3) Material handling costs. When included as part of material costs, material handling costs shall include only costs clearly excluded from the labor-hour rate. Material handling costs may include all appropriate indirect costs allocated to direct materials in accordance with the contractor's usual accounting procedures consistent with Part 31.

(d) Limitations. A time-and-materials contract may be used-- (1) only after the contracting officer executes a determination and findings that no other contract type is suitable, and (2) only if the contract includes a ceiling price that the contractor exceeds at its own risk. The contracting officer shall document the contract file to justify the reasons for and amount of any subsequent change in the ceiling price. Also see 12.207(b) for further limitations on use of Time-and-Materials or Labor Hour contracts for acquisition of commercial items.

(e) Solicitation provisions. (1) The contracting officer shall insert the provision at 52.216-29, Time-and-Materials/Labor-Hour Proposal Requirements--Non-Commercial Item Acquisitions With Adequate Price Competition, in solicitations contemplating use of a Time-and-Materials or Labor-Hour type of contract for noncommercial items, if the price is expected to be based on adequate price competition. If authorized by agency procedures, the contracting officer may amend the provision to make mandatory one of the three approaches in paragraph

(c) of the provision, and/or to require the identification of all subcontractors, divisions, subsidiaries, or affiliates included in a blended labor rate.

(2) The contracting officer shall insert the provision at 52.216-30, Time-and-Materials/Labor-Hour Proposal Requirements--Non-Commercial Item Acquisitions without Adequate Price Competition, in solicitations for noncommercial items contemplating use of a Time-and-Materials or Labor-Hour type of contract if the price is not expected to be based on adequate price competition.

(3) The contracting officer shall insert the provision at 52.216-31, Time-and-Materials/Labor-Hour Proposal Requirements--Commercial Item Acquisitions, in solicitations contemplating use of a Commercial Time-and-Materials or Labor-Hour contract.

PART 32--CONTRACT FINANCING

4. Amend section 32.111 in paragraph (a)(7) by removing (a)(7)(i) and redesignating paragraphs (a)(7)(ii) and (iii) as (a)(7)(i) and (a)(7)(ii), respectively; and by revising the newly designated paragraph (a)(7)(i) to read as follows:

32.111 Contract clauses for non-commercial purchases.

(a) * * *

(7) * * *

(i) If a labor-hour contract is contemplated, the contracting officer shall use the clause with its Alternate I.

* * * * *

PART 52--SOLICITATION PROVISIONS AND CONTRACT CLAUSES

5. Add sections 52.216-29, 52.216-30, and 52.216-31 to read as follows:

52.216-29 Time-and-Materials/Labor-Hour Proposal Requirements--Non-Commercial Item Acquisition With Adequate Price Competition.

As prescribed in 16.601(e)(1), insert the following provision:

TIME-AND-MATERIALS/LABOR-HOUR PROPOSAL REQUIREMENTS--NON-COMMERCIAL ITEM ACQUISITION WITH ADEQUATE PRICE COMPETITION (FEB 2007)

(a) The Government contemplates award of a Time-and-Materials or Labor-Hour type of contract resulting from this solicitation.

(b) The offeror must specify fixed hourly rates in its offer that include wages, overhead, general and administrative expenses, and profit. The offeror must specify whether the fixed hourly rate for each labor category applies to labor performed by--

(1) The offeror;

(2) Subcontractors; and/or

(3) Divisions, subsidiaries, or affiliates of the offeror under a common control;

(c) The offeror must establish fixed hourly rates using--

(1) Separate rates for each category of labor to be performed by each subcontractor and for each category of labor to be performed by the offeror, and for each category of labor to be transferred between divisions, subsidiaries, or affiliates of the offeror under a common control;

(2) Blended rates for each category of labor to be performed by the offeror, including labor transferred between divisions, subsidiaries, or affiliates of the offeror under a common control, and all subcontractors; or

(3) Any combination of separate and blended rates for each category of labor to be performed by the offeror, affiliates of the offeror under a common control, and subcontractors.

(End of provision)

52.216-30 Time-and-Materials/Labor-Hour Proposal Requirements--Non-Commercial Item Acquisition without Adequate Price Competition.

As prescribed in 16.601(e)(2), insert the following provision:

TIME-AND-MATERIALS/LABOR-HOUR PROPOSAL REQUIREMENTS--NON-COMMERCIAL ITEM ACQUISITION WITHOUT ADEQUATE PRICE COMPETITION (FEB 2007)

(a) The Government contemplates award of a Time-and-Materials or Labor-Hour type of contract resulting from this solicitation.

(b) The offeror must specify separate fixed hourly rates in its offer that include wages, overhead, general and administrative expenses, and profit for each category of labor to be performed by--

(1) The offeror;

(2) Each subcontractor; and

(3) Each division, subsidiary, or affiliate of the offeror under a common control.

(c) Unless exempt under paragraph (d) of this provision, the fixed hourly rates for services transferred between divisions, subsidiaries, or affiliates of the offeror under a common control--

(1) Shall not include profit for the transferring organization; but

(2) May include profit for the prime Contractor.

(d) The fixed hourly rates for services that meet the definition of commercial item at 2.101 that are transferred between divisions, subsidiaries, or affiliates of the offeror under a common control may be the established catalog or market rate when it is the established practice of the transferring organization to price interorganizational transfers at other than cost for commercial work of the offeror or any division, subsidiary or affiliate of the offeror under a common control.

(End of provision)

52.216-31 Time-and-Materials/Labor-Hour Proposal Requirements--Commercial Item Acquisition.

As prescribed in 16.601(e)(1), insert the following provision:

TIME-AND-MATERIALS/LABOR-HOUR PROPOSAL REQUIREMENTS--COMMERCIAL ITEM ACQUISITION (FEB 2007)

(a) The Government contemplates award of a Time-and-Materials or Labor-Hour type of contract resulting from this solicitation.

(b) The offeror must specify fixed hourly rates in its offer that include wages, overhead, general and administrative expenses, and profit. The offeror must specify whether the fixed hourly rate for each labor category applies to labor performed by--

(1) The offeror;

(2) Subcontractors; and/or

(3) Divisions, subsidiaries, or affiliates of the offeror under a common control.

(End of provision)

6. Revise section 52.232-7 to read as follows:

52.232-7 Payments under Time-and-Materials and Labor-Hour Contracts.

As prescribed in 32.111(a)(7), insert the following clause:

PAYMENTS UNDER TIME-AND-MATERIALS AND LABOR-HOUR CONTRACTS (FEB 2007)

The Government will pay the Contractor as follows upon the submission of vouchers approved by the Contracting Officer or the authorized representative:

(a) Hourly rate. (1) Hourly rate means the rate(s) prescribed in the contract for payment for labor that meets the labor category qualifications of a labor category specified in the contract that are--

(i) Performed by the Contractor;

(ii) Performed by the subcontractors; or

(iii) Transferred between divisions, subsidiaries, or affiliates of the Contractor under a common control.

(2) The amounts shall be computed by multiplying the appropriate hourly rates prescribed in the Schedule by the number of direct labor hours performed.

(3) The hourly rates shall be paid for all labor performed on the contract that meets the labor qualifications specified in the contract. Labor hours incurred to perform tasks for which labor qualifications were specified in the contract will not be paid to the extent the work is performed by employees that do not meet the qualifications specified in the contract, unless specifically authorized by the Contracting Officer.

(4) The hourly rates shall include wages, indirect costs, general and administrative expense, and profit. Fractional parts of an hour shall be payable on a prorated basis.

(5) Vouchers may be submitted once each month (or at more frequent intervals, if approved by the Contracting Officer), to the Contracting Officer or authorized representative. The Contractor shall substantiate vouchers (including any subcontractor hours reimbursed at the hourly rate in the schedule) by evidence of actual payment and by--

(i) Individual daily job timekeeping records;

(ii) Records that verify the employees meet the qualifications for the labor categories specified in the contract; or

(iii) Other substantiation approved by the Contracting Officer.

(6) Promptly after receipt of each substantiated voucher, the Government shall, except as otherwise provided in this contract, and subject to the terms of paragraph (e) of this clause, pay the voucher as approved by the Contracting Officer or authorized representative.

(7) Unless otherwise prescribed in the Schedule, the Contracting Officer may unilaterally issue a contract modification requiring the Contractor to withhold amounts from its billings until a reserve is set aside in an amount that the Contracting Officer considers necessary to protect the Government's interests. The Contracting Officer may require a withhold of 5 percent of the amounts due under paragraph (a) of this clause, but the total amount withheld for the contract shall not exceed $50,000. The amounts withheld shall be retained until the Contractor executes and delivers the release required by paragraph (f) of this clause.

(8) Unless the Schedule prescribes otherwise, the hourly rates in the Schedule shall not be varied by virtue of the Contractor having performed work on an overtime basis. If no overtime rates are provided in the Schedule and overtime work is approved in advance by the Contracting Officer, overtime rates shall be negotiated. Failure to agree upon these overtime rates shall be treated as a dispute under the Disputes clause of this contract. If the Schedule provides rates for overtime, the premium portion of those rates will be reimbursable only to the extent the overtime is approved by the Contracting Officer.

(b) Materials. (1) For the purposes of this clause--

(i) Direct materials means those materials that enter directly into the end product, or that are used or consumed directly in connection with the furnishing of the end product or service.

(ii) Materials means--

(A) Direct materials, including supplies transferred between divisions, subsidiaries, or affiliates of the Contractor under a common control;

(B) Subcontracts for supplies and incidental services for which there is not a labor category specified in the contract;

(C) Other direct costs (e.g., incidental services for which there is not a labor category specified in the contract, travel, computer usage charges, etc.); and

(D) Applicable indirect costs.

(2) If the Contractor furnishes its own materials that meet the definition of a commercial item at 2.101, the price to be paid for such materials shall not exceed the Contractor's established catalog or market price, adjusted to reflect the--

(i) Quantities being acquired; and

(ii) Actual cost of any modifications necessary because of contract requirements.

(3) Except as provided for in paragraph (b)(2) of this clause, the Government will reimburse the Contractor for allowable cost of materials provided the Contractor--

(i) Has made payments for materials in accordance with the terms and conditions of the agreement or invoice; or

(ii) Ordinarily makes these payments within 30 days of the submission of the Contractor's payment request to the Government and such payment is in accordance with the terms and conditions of the agreement or invoice.

(4) Payment for materials is subject to the Allowable Cost and Payment clause of this contract. The Contracting Officer will determine allowable costs of materials in accordance with Subpart 31.2 of the Federal Acquisition Regulation (FAR) in effect on the date of this contract.

(5) The Contractor may include allocable indirect costs and other direct costs to the extent they are--

(i) Comprised only of costs that are clearly excluded from the hourly rate;

(ii) Allocated in accordance with the Contractor's written or established accounting practices; and

(iii) Indirect costs are not applied to subcontracts that are paid at the hourly rates.

(6) To the extent able, the Contractor shall--

(i) Obtain materials at the most advantageous prices available with due regard to securing prompt delivery of satisfactory materials; and

(ii) Take all cash and trade discounts, rebates, allowances, credits, salvage, commissions, and other benefits. When unable to take advantage of the benefits, the Contractor shall promptly notify the Contracting Officer and give the reasons. The Contractor shall give credit to the Government for cash and trade discounts, rebates, scrap, commissions, and other amounts that have accrued to the benefit of the Contractor, or would have accrued except for the fault or neglect of the Contractor. The Contractor shall not deduct from gross costs the benefits lost without fault or neglect on the part of the Contractor, or lost through fault of the Government.

(7) Except as provided for in 31.205-26(e) and (f), the Government will not pay profit or fee to the prime Contractor on materials.

(c) If the Contractor enters into any subcontract that requires consent under the clause at 52.244-2, Subcontracts, without obtaining such consent, the Government is not required to reimburse the Contractor for any costs incurred under the subcontract prior to the date the Contractor obtains the required consent. Any reimbursement of subcontract costs incurred prior to the date the consent was obtained shall be at the sole discretion of the Government.

(d) Total cost. It is estimated that the total cost to the Government for the performance of this contract shall not exceed the ceiling price set forth in the Schedule, and the Contractor agrees to use its best efforts to perform the work specified in the Schedule and all obligations under this contract within such ceiling price. If at any time the Contractor has reason to believe that the hourly rate payments and material costs that will accrue in performing this contract in the next succeeding 30 days, if added to all other payments and costs previously accrued, will exceed 85 percent of the ceiling price in the Schedule, the Contractor shall notify the Contracting Officer giving a revised estimate of the total price to the Government for performing this contract with supporting reasons and documentation. If at any time during performing this contract, the Contractor has reason to believe that the total price to the Government for performing this contract will be substantially greater or less than the then stated ceiling price, the Contractor shall so notify the Contracting Officer, giving a revised estimate of the total price for performing this contract, with supporting reasons and documentation. If at any time during performing this contract, the Government has reason to believe that the work to be required in performing this contract will be substantially greater or less than the stated ceiling price, the Contracting Officer will so advise the Contractor, giving the then revised estimate of the total amount of effort to be required under the contract.

(e) Ceiling price. The Government will not be obligated to pay the Contractor any amount in excess of the ceiling price in the Schedule, and the Contractor shall not be obligated to continue performance if to do so would exceed the ceiling price set forth in the Schedule, unless and until the Contracting Officer notifies the Contractor in writing that the ceiling price has been increased and specifies in the notice a revised ceiling that shall constitute the ceiling price for performance under this contract. When and to the extent that the ceiling price set forth in the Schedule has been increased, any hours expended and material costs incurred by the Contractor in excess of the ceiling price before the increase shall be allowable to the same extent as if the hours expended and material costs had been incurred after the increase in the ceiling price.

(f) Audit. At any time before final payment under this contract, the Contracting Officer may request audit of the vouchers and supporting documentation. Each payment previously made shall be subject to reduction to the extent of amounts, on preceding vouchers, that are found by the Contracting Officer or authorized representative not to have been properly payable and shall also be subject to reduction for overpayments or to increase for underpayments. Upon receipt and approval of the voucher designated by the Contractor as the ``completion voucher'' and supporting documentation, and upon compliance by the Contractor with all terms of this contract (including, without limitation, terms relating to patents and the terms of paragraphs (f) and (g) of this clause), the Government shall promptly pay any balance due the Contractor. The completion voucher, and supporting documentation, shall be submitted by the Contractor as promptly as practicable following completion of the work under this contract, but in no event later than 1 year (or such longer period as the Contracting Officer may approve in writing) from the date of completion.

(g) Assignment and Release of Claims. The Contractor, and each assignee under an assignment entered into under this contract and in effect at the time of final payment under this contract, shall execute and deliver, at the time of and as a condition precedent to final payment under this contract, a release discharging the Government, its officers, agents, and employees of and from all liabilities, obligations, and claims arising out of or under this contract, subject only to the following exceptions:

(1) Specified claims in stated amounts, or in estimated amounts if the amounts are not susceptible of exact statement by the Contractor.

(2) Claims, together with reasonable incidental expenses, based upon the liabilities of the Contractor to third parties arising out of performing this contract, that are not known to the Contractor on the date of the execution of the release, and of which the Contractor gives notice in writing to the Contracting Officer not more than 6 years after the date of the release or the date of any notice to the Contractor that the Government is prepared to make final payment, whichever is earlier.

(3) Claims for reimbursement of costs (other than expenses of the Contractor by reason of its indemnification of the Government against patent liability), including reasonable incidental expenses, incurred by the Contractor under the terms of this contract relating to patents.

(h) Interim payments on contracts for other than services. (1) Interim payments made prior to the final payment under the contract are contract financing payments. Contract financing payments are not subject to the interest penalty provisions of the Prompt Payment Act

. (2) The designated payment office will make interim payments for contract financing on the ---------- [Contracting Officer insert day as prescribed by agency head; if not prescribed, insert ``30th''] day after the designated billing office receives a proper payment request. In the event that the Government requires an audit or other review of a specific payment request to ensure compliance with the terms and conditions of the contract, the designated payment office is not compelled to make payment by the specified due date. (i) Interim payments on contracts for services. For interim payments made prior to the final payment under this contract, the Government will make payment in accordance with the Prompt Payment Act (31 U.S.C. 3903) and prompt payment regulations at 5 CFR part 1315.

(End of Clause)

Alternate I (FEB 2007). If a labor-hour contract is contemplated, the Contracting Officer shall add the following paragraph (i) to the basic clause:

(i) The terms of this clause that govern reimbursement for materials furnished are considered to have been deleted.

[Federal Register: December 12, 2006 (Volume 71, Number 238)]

DEPARTMENT OF DEFENSE

GENERAL SERVICES ADMINISTRATION

NATIONAL AERONAUTICS AND SPACE ADMINISTRATION

48 CFR Parts 2, 10, 12, 16, and 52

[FAC 2005-15; FAR Case 2003-027; Item II;

Federal Acquisition Regulation; FAR Case 2003-027, Additional Commercial Contract Types

AGENCIES: Department of Defense (DoD), General Services Administration (GSA), and National Aeronautics and Space Administration (NASA).

ACTION: Final rule.

SUMMARY: The Civilian Agency Acquisition Council and the Defense Acquisition Regulations Council (Councils) have agreed on a final rule amending the Federal Acquisition Regulation (FAR) to implement section 1432 of the National Defense Authorization Act for Fiscal Year 2004. Title XIV of the Act, referred to as the Services Acquisition Report Act of 2003 (SARA), amended section 8002(d) of the Federal Acquisition Streamlining Act of 1994 (FASA) to expressly authorize the use of time-and-materials (T&M) and labor-hour (LH) contracts for certain commercial services under specified conditions.

DATES: Effective Date: February 12, 2007.

FOR FURTHER INFORMATION CONTACT: For clarification of content, contact Mr. Jeremy Olson, at (202) 501-3221. Please cite FAC 2005-15, FAR case 2003-027. For information pertaining to status or publication schedules, contact the FAR Secretariat at (202) 501-4755.

SUPPLEMENTARY INFORMATION:

A. Background This final rule amends the Federal Acquisition Regulation to implement section 1432 of the National Defense Authorization Act for Fiscal Year 2004 (Pub. L. 108-136). Title XIV of the Act, referred to as the Services Acquisition Reform Act of 2003 (SARA), amended section 8002(d) of the Federal Acquisition Streamlining Act of 1994 (FASA) (Pub. L. 103-355, 41 U.S.C. 264) to expressly authorize the use of time-and-materials (T&M) and labor-hour (LH) contracts for commercial services under specified conditions.

Section 8002(d)(3) of the Act limits use of T&M and LH contracts to the following categories of commercial services:

Commercial services procured for support of a commercial item, as described in 41 U.S.C. 403(12)(E).

Any other category of commercial services that is designated by the Administrator of Office of Federal Procurement Policy (OFPP) on the basis that--

1. The commercial services in such category are of a type of commercial services that are commonly sold to the general public through use of T&M or LH contracts; and

2. It would be in the best interests of the Federal Government to authorize use of T&M or LH contracts for purchase of the commercial services in such category.

In furtherance of its statutory responsibilities, OFPP worked in coordination with the Councils on a series of questions for the advance notice of proposed rulemaking (ANPR), the proposed rule, and the notices of public meeting published in the Federal Register at 69 FR 56316 on September 20, 2004 and at 70 FR 56318 on September 26, 2005, to obtain information describing how T&M and LH contracts are used commercially. In particular, the questions elicited information on the types of services that are commonly acquired on this basis and the circumstances under which these arrangements are used. Interested parties offered a variety of written observations in response to the ANPR and proposed rule. See the Federal Register at 70 FR 56320 on September 26, 2005. In addition, a number of interested parties provided oral comments during the public meetings that were held on October 19, 2004 and October 18, 2005, to facilitate an open dialogue with Government procurement policy officials.

OFPP and several Council staff members also received a briefing from the Government Accountability Office (GAO) on a survey the GAO conducted late last year to determine how often commercial companies use T&M and LH contracts in their commercial practices, either as a buyer or a provider. The GAO received 23 responses to its survey. Some of the responses came from Fortune 500 companies. Although responses were limited, the GAO indicated that they represented buying practices from a relatively wide range of industries, including airline, automotive and truck manufacturers, automotive and truck parts, business services, communications equipment, computer hardware, computer services, electric utilities, insurance, major drugs (pharmaceutical), money center bank, non-profit financial services, oil and gas, regional bank, retail (grocery and technology), scientific and technical instruments, and semiconductor.

Finally, OFPP reviewed testimony offered to the Acquisition Advisory Panel established pursuant to section 1423 of SARA to evaluate commercial practices and other acquisition-related issues. The Panel specifically sought input regarding industry's use of T&M and LH contracts. See http://www.acquisition.gov/comp/aap/index.html.

OFPP made three main findings from these inputs. First, commercial services are commonly sold on a T&M and LH basis in the marketplace when requirements are not sufficiently well understood to complete a well-defined scope of work and when risk can be managed by maintaining surveillance of costs and contractor performance. Second, these same services are also commonly sold on a fixed-price basis. Third, a few types of services are sold predominantly on a T&M and LH basis--specifically, emergency repair services. By their nature, emergency repair services are difficult to capture in a well-defined scope of work and therefore are not generally conducive to purchase on a fixed-price basis. Industry associations, representing a wide range of service industries, supported these findings in their comments in response to the ANPR, proposed rule, public meetings, and SARA Panel hearings.

OFPP advised the Councils that it is designating all categories of services (i.e., any service) as being available for acquisition on a T&M and LH basis because the findings made in conjunction with the rulemaking indicate that: (1) services under any general categorization of services, such as those examined by the GAO, are commonly sold to the general public on a T&M and LH basis under certain conditions; and (2) use of T&M and LH contracts under these conditions may be in the Government's best interest. However, OFPP further advised that its designation is limited to the same circumstances that exist when T&M and LH contracting is commonly used to sell services to the general public and where the other prerequisites set forth in section 8002(d) have been met. OFPP concluded, in view of the findings, that the identification of effective boundaries for the use of T&M and LH contracts is a function of the specific circumstances surrounding the acquisition rather than the specific type of service being sold. OFPP requested that the Councils reflect its designation in the final FAR rule.

Specifically, OFPP requested that the rule allow an agency to purchase any commercial service on a T&M or LH basis if it has completed a determination and findings (D&F) containing sufficient facts and rationale to justify that a firm-fixed pricing arrangement is not suitable. With respect to the contents of the required D&F, OFPP advised the Councils that the rationale supporting use of a T&M or LH contract for commercial services must establish that a T&M or LH contract is being used under the same conditions where the private sector would commonly rely on these arrangements--namely, where it is not possible at the time of placing the contract or order to accurately estimate the extent or duration of the work or to anticipate costs with any reasonable degree of certainty. In addition, if the need is of a recurring nature and is being acquired through a contract extension or renewal, OFPP expects, consistent with FAR 7.103(r), that the D&F reflect why knowledge gained from the prior acquisition could not be used to further refine requirements and acquisition strategies in a manner that would enable purchase on a fixed-price basis. OFPP reminded the Councils that agencies will also need to comply with the other limitations set forth in 8002(d)--i.e., the service is acquired under a contract awarded using competitive procedures, the contract or order includes a ceiling price that the contractor exceeds at its own risk, and any subsequent change in the ceiling price is authorized only upon a determination, documented in the contract file, that it is in the best interest of the procuring agency to change the ceiling price. Finally, OFPP requested that the rule include appropriate additional mechanisms that help agencies manage risk by maintaining surveillance of costs and contractor performance, since effective surveillance is emphasized in commercial use of T&M and LH contracts.

The Councils concur with OFPP's findings and conclusions and have shaped the rule accordingly.

DoD, GSA, and NASA published an advance notice of public rulemaking (ANPR) in the Federal Register at 69 FR 56316 on September 20, 2004 and a proposed rule at 70 FR 56318 on September 26, 2005. Comments were received from 13 respondents in response to the proposed rule. The Councils considered all of the comments and recommendations in developing the final rule. The Councils made the following changes to the rule as a result of the public comments and deliberations:

(1) 16.601(d)--Added a requirement for the head of contracting activity to approve any D&Fs that would extend the period of performance beyond five years for both commercial and non-commercial T&M contracts to help ensure T&M contracts are only used when no other type of contract is suitable, to maximize the use of fixed price commercial contracts consistent with the statute, and to avoid protracted use of non-commercial time-and-materials contracts after experience provides a basis for firmer pricing.

(2) Clause 52.212-4 Alternate I--

(a) Paragraph (i)(1)(ii)(B)--Eliminate the provisions that only permitted reimbursement of subcontract costs at the hourly rates in the contract schedule when the subcontractors are listed in contract because the provisions were problematic and contrary to standard commercial practice (see Comment 4.b.(6)(a)). Instead added provisions that require the subcontract to be reimbursed at the hourly rates prescribed in the contract except when the employees performing the work do not meet the qualifications specified in the contract.

(b) Paragraph (i)(1)(ii)(C)(2)--Eliminated the provisions that required commercial contractors to give the Government credit for rebates, refunds, or discounts that ``accrued to'' the contractor because the provision could have imposed unique Government accounting requirements on commercial T&M contracts (see Comment 4.b.(7)(b)).

(c) Paragraph (i)(1)(ii)(C)--Excluded indirect costs as a type of cost that could be reimbursed at actual costs since the indirect costs will be reimbursed at the fixed amount in the schedule(see Comment 4.b.(8)(a)).

(d) Paragraph (i)(1)(ii)(D)(1)--Revised the rule to allow contracting officers to establish the types of other direct costs (ODC) that will be reimbursed at actual costs and the fixed amounts for indirect costs at the order level on indefinite delivery indefinite quantity (IDIQ) contracts. The type of ODC that will be needed to perform an order and any fixed amount for indirect costs may need to be established on an order-by-order basis (see Comment 4.b.(8)(a)).

(e) Paragraph (i)(4)(ii)(A)--Revised the rule to recognize that companies use both paper-based and electronic timecards (see Comment 4.b.(9)(b)).

(f) Paragraph (u)--Eliminated the subcontract consent provisions because the provisions were unduly restrictive, inappropriate, and the provisions could have permitted the Government to inappropriately impact a company's commercial reputation (see Comment 4.b.(6)(a)).Public Comment

The public comments are discussed below:

Comment: Commercial Item Definition. Agree with deleting the exclusion of ``services that are sold based on hourly rates without an established catalog or market price for a specific service performed or a specific outcome to be achieved'' from the definition of a commercial item to be consistent with SARA.

Comment: Market Research. Agree with adding ``type of contract'' to the examples provided for determining practices of firms engaged in producing, distributing, and supporting commercial items because it assists with the implementation of SARA.Appropriate Use

Comment: Support OFPP's decision to restrict commercial T&M/LH contracts to circumstances where no other contract type is suitable instead of developing a list of commercial services commonly sold on a T&M/LH basis. The conditions for using commercial T&M/LH contracts (i.e., the contracting officer executes a determination and finding that no other contract type is suitable, the contract includes a ceiling price that the contractor exceeds at its own risk, and subsequent changes in the ceiling price only authorized upon a determination that it is in the best interest of the Government) implement the statute in a clear and concise manner.

Comment: Support OFPP's conclusion that the use of T&M/LH contracts should not be limited to a list of specific categories of services. Many types of commercial services are sold and purchased on both T&M/LH and firm fixed-price (FFP) basis depending on the circumstances of the particular project. There are no general rules or practices that restrict use of T&M/LH to any specific service categories. Regardless of the service type, there are often times when work cannot be sufficiently defined at contract award to provide for meaningful firm-fixed prices.

Comment: Limit as much as possible the types of services eligible to be procured on a commercial T&M/LH basis. A list of the types of services commonly sold using commercial T&M vehicles would help contracting officers chose the appropriate contract type and draft the required D&F.

Response: As discussed above, OFPP's decision is based on its findings that-- (a) commercial services are commonly sold on a T&M and LH basis in the marketplace when requirements are not sufficiently well understood to complete a well-defined scope of work and when risk can be managed by maintaining surveillance of costs and contractor performance; (b) these same services are also generally offered on a fixed-price basis; and (c) a few types of services are sold predominantly on a T&M and LH basis--specifically, emergency repair services. Based on these findings, OFPP recommended to the Councils that the rule allow an agency to purchase any commercial service on a T&M or LH basis if it has completed a determination and findings (D&F) containing sufficient facts and rationale to justify that a firm-fixed pricing arrangement is not suitable. OFPP stated that this conclusion is consistent with the statutory requirement in section 8002(d) that contracting officers must execute a D&F that establishes that no contract type is suitable before pursuing one of these arrangements. The Councils agree with OFPP's finding and shaped the rule accordingly. The Councils do not believe it is practical or feasible to develop and maintain a comprehensive list of services sold on a T&M/LH basis because many services may be sold on both a T&M/LH and fixed price basis depending on the circumstances of the acquisition. The rule clearly provides that commercial T&M/LH contracts can only be used when the other commercial services' contract types are not suitable.

Comment: Clarify whether competitive procedures means ``full and open competition'' or ``limited competition'' when the competition is conducted with as many sources as practicable under one of the authorities listed in FAR 6.302.

Response: Sole source commercial T&M/LH contracts are not authorized. Commercial T&M/LH contracts may be awarded under the statutory authorities that permit contracting without providing for full and open competition. When these authorities are used, contracting officers are required to solicit offers from as many potential sources as is practicable under the circumstances. Nothing in this rule requires ``full and open'' competition.

Comment: Restrict the use of T&M contracts to when it is not ``practicable'' instead of not ``possible'' at the time of placing the contract or order to accurately estimate the extent or duration of the work or to anticipate costs with any reasonable degree of certainty. It may be ``possible'' to estimate the duration and cost of work but impracticable given the time and effort that would be required, the urgency of the work, and the agencies competing priorities.

Response: T&M contracts comprise the highest contract type risk to the Government. As such, they should only be used when it is not possible at the time of award to estimate accurately the extent or duration of the work or to anticipate costs with any reasonable degree of confidence. Also, restricting the use of T&M contracts to when it is not ``possible'' is consistent with the requirements for non-commercial T&M contracts.

Determination and Finding (D&F)

Comment: Delete the minimum D&F requirements for justifying no other contract type is suitable because specifying the minimum requirements imposes a potentially greater burden on contracting officers than the corresponding provisions for non-commercial T&M/LH contracts. Delete the requirement to execute a D&F for each order when the indefinite-delivery contract is priced on a T&M/LH or FFP basis because it is inconsistent with FAR 1.602-2 which stipulates ``contracting officers should be allowed wide latitude to exercise business judgment.'' SARA requires a D&F to justify the contract type, not the use of the contract once justified.

Comment: Eliminate the requirement for approval one level above the contracting officer for a commercial T&M/LH IDIQ contract that only allows for issuance of orders on a T&M/LH basis to be consistent with non-commercial T&M/LH contracts. Commercial T&M/LH contracts pose no greater risk to the Government than non-commercial T&M/LH contracts.

Comment: The rule contradicts and goes beyond the intent of SARA by potentially creating, in practice and effect, a prohibition on the use of T&M contracts. Specifically, the rule adds administrative burden and procedural complication to the use of T&M contracts which would inhibit the use of these contracts as a practical contracting tool, e.g., requiring a D&F for each T&M task order is beyond the intent of Section 1432 and appears to show little confidence in the business judgment of contracting officers.

Comment: Develop an approval level for D&Fs commensurate with the risk to the Government.

Response: The Councils acknowledge that the rule contains additional requirements for commercial T&M/LH IDIQ D&Fs than those required for noncommercial T&M/LH IDIQ D&Fs. While the Councils recognize these additional requirements may be more burdensome, the Councils believe the additional requirements are needed to encourage the preference for the use of fixed price contracts for commercial items. In addition, the Councils believe additional controls are needed to ensure both commercial and non-commercial T&M contracts are only used when no other type of contract is suitable. The Councils revised the rule to require head of contracting activity approval for any D&Fs that extend the performance period beyond five years for both commercial and non-commercial T&M contracts.

Comment: Establish a $100,000 threshold for D&F to recognize a reasonable level at which tangible deliverable would be expected. Comment: Exempt small purchases at or below the five million dollar commercial item threshold at FAR 12.203 from the D&F requirements. This threshold allows agencies to use simplified acquisition procedures up to five million dollars for commercial item acquisitions. The Councils have discretion to implement the statutory provisions addressing D&Fs. See Chevron, U.S.A. v. Natural Resources Defense Council, Inc., 467 U.S. 837, 844 (1984).

Response: When a statute is silent or ambiguous with respect to a certain issue, agencies have discretion to interpret the statute in a reasonable manner, consistent with its legislative history. However, the statute is not ambiguous and the legislative history contains nothing which would support an interpretation that the D&F condition can be limited to a dollar threshold. The statute requires a D&F for T&M/LH contracts regardless of the dollar amount.Nonconforming

Comment: Paying for reperformance, excluding profit, is a significant improvement over the ANPR and properly reflects commercial practices. The parties will be permitted to tailor the provision pursuant to FAR 12.302 when customary commercial practices provide different warranty terms.

Comment: Except for the default 10 percent profit rate, the proposed provisions are the same as those used for non-commercial T&M contracts. These provisions contain significant departures from terms typically found in the commercial marketplace. The proposed 10 percent default profit rate is irrelevant if the contracting officer knows the contractor's profit rate. Contracting officers could terminate the contract or retain another contractor to complete the work as provided in FAR 52.246-6(f) and (g) if a contractor is expending best efforts and still not performing properly. Require contracting officers to better focus on the requirements of FAR 7.105, Contents of Written Acquisition Plans, rather than adopting the proposed inspection and acceptance clause.

Comment: Contractors are under less budgetary pressure to perform under a T&M contract than a FFP contract and should be held to as stringent quality standards as FFP contracts. Paying for rework will not discourage ``shoddy work'' since the contractor will be reimbursed, without profit, for its costs. Develop an appropriate profit percentage based on historical data or some other measure to avoid a potential unintended consequence of establishing a 10 percent profit standard for T&M contracts. A 10 percent profit may be excessive for low risk T&M contracts.

Response: The comments reflect a varying set of commercial practices for nonconforming supplies and services. The ANPR required contractors to repair or replace rejected supplies or reperform rejected services at no cost to the Government. Public commenters on the ANPR said requiring contractors to repair or replace rejected supplies or reperform rejected services at no cost to the Government imposed more contract risk on the contractor than the non-commercial clause. The Government is essentially imposing a fixed-price level of risk. Combining a ceiling price that contractors exceed at their own risk and a requirement that the contractor use ``best efforts'' to perform within the ceiling price means contractors are required accomplish a certain result (i.e., performance of the work specified in the Schedule) within a specified dollar amount (i.e., the ceiling price). The Councils agreed that contractors are generally only required to use ``best efforts'' to accomplish the desired results within the established ceiling price on both commercial and non-commercial T&M contracts as opposed to FFP contracts which requires contractors to accomplish stated results within the fixed price. Therefore, the Councils revised the proposed rule to be consistent with the non-commercial T&M requirements. The 10 percent default profit rate will only be used when the contracting officer does not know the contractor's actual profit rate, which may be commonplace in competitive awards. Contractors are under less budgetary pressure to perform under a T&M than a FFP contract. However, it is not appropriate to hold contractors to the same standards used on FFP contracts. The risk of ``shoddy work'' is inherent to all ``best efforts'' type contracts. Accordingly, T&M/LH contracts are only authorized when no other contract type is suitable. The 10 percent default profit rate is arbitrary, not necessarily representative of the actual profit rates. However, the rate is intended to protect the Government by helping to ensure profit is not paid for replacement or reperformance.

Comment: The proposed rule does not address reimbursement of costs for providing accommodations to the Government for testing and inspections at contractor and subcontractors' facility. Fairness dictates that the Government reimburse contractors and subcontractors for reasonable costs incurred for the required accommodations.

Response: The costs for providing accommodations to the Government for testing and inspecting at contractor and subcontractors' facilities are generally included in the fully burdened labor rate.Subcontracts and Interdivisional Labor

Comment: Reimburse subcontract labor at the schedule labor rates without listing the subcontractors in the contract for standard commercial services, e.g., ``on-call'' IT installation and repair services in support of commercial IT products. Reimburse subcontract labor at the schedule labor rates without listing the subcontractors in the contract when the contractor's proposal indicates that some of the work may be performed by subcontractors that meet the contract's qualification requirements and that the price for that ``type of work'' will be the prime contract's labor rate which may be blended or other rate. Reimburse subcontract labor at the schedule labor rates without subcontract consent when the subcontractor personnel satisfy the qualification and other requirements for the labor categories for which the contractor is seeking compensation. T&M/LH contracts specify the required labor qualifications. Whether the person filling the position is an employee of the prime or a subcontractor, the qualifications must be met. The Government has already determined the price for the ``type of work'' to be fair and reasonable by competition. Include interdivisional transfers and subcontracted labor costs as elements of ``time'' instead of ``materials'' to allow prime contractors to recover adequate compensation for the time and resources it expends on administering subcontracts and for the financial exposure is assumes for its subcontractor's performance.

Comment: Appreciate the Councils efforts to clarify the treatment for subcontracts and interdivisional transfers but recommends reimbursing all subcontract labor at the schedule labor rates to avoid confusion over whether the costs are reimbursable as ``material'' or ``labor.'' Separately address the proper treatment for subcontracts and interdivisional labor to avoid inevitable disputes over whether the costs should be treated as ``labor'' or ``material.'' Contractors frequently require use of subcontractors for any number of reasons included to:

(a) Secure specific skill sets;

(b) Augment an existing workforce;

(c) Use small and/or small, disadvantaged businesses to meet socioeconomic goals;

(d) Incorporate small business innovative solutions; and

(e) Replace subcontractors during contract performance for failure to achieve the prime contractor's performance standards.

Prime contractors may not know which subcontractors will be used to perform the work since T&M contracts are used when it is not possible to estimate accurately the extent or duration of work at the time of award. Contractors will not know at the time of award which subcontractors may be used to fulfill ``on call'' or ``on demand'' services. It is unfair to require contractors to perform services without knowing in advance whether the necessary subcontractors can be brought to task and how the contractor will be reimbursed. Expand the definition of ``subcontract'' to clarify that subcontracts on commercial contracts includes ``transfers of commercial items between divisions, subsidiaries, or affiliates of a contractor or subcontractor'' to be consistent with FASA which specified interdivisional transfers for commercial items are to be treated as subcontracts (see FAR 12.001). Clarify the provisions that allow contractors to be reimbursed for its own material at the contractor's established catalog or the market price includes services that meet the definition of a commercial item at FAR 2.101. Do not object to appropriate subcontractor disclosure requirements when the contractor does not have an approved purchasing system and the subcontract will be cost-reimbursement, time-and-materials, labor-hour, or letter contract (see FAR 44.201(b)(1)) but the Government should not interject its authority over the prime contractor's determination of how to accomplish the work being bid and awarded. Recommend the Councils instead consider a notification requirement without the need for formal contract amendment. In the commercial world, sellers are generally free to delegate their duties to subcontractors as they see fit. In the Government world, agencies make these determinations in the evaluation of a contractor's proposal and through oversight of awarded work. The Government could be exposed to claims for delay or disruption when the contractor is attempting to substitute one qualified subcontractor for another and approvals are improperly denied or unreasonable delayed. The Councils concerns that the basis for ``best value'' determination used to award the contract may be altered by contractors adding or substituting subcontractors after award do not justify the provisions that limit reimbursement of subcontract costs to those listed in the contract or those subsequently approved by the contracting officer. The question is not one of reimbursement but of Government payment for services rendered. The attendant administrative procedures in the proposed rule might impede the contractor's ability to deliver services in accordance with the terms of the contract. The ``consent to subcontract'' provisions and payment limitations significantly increase the risk to contractors for meeting contract deliverables. The administrative and financial burden of establishing and maintaining a list of subcontractors that can be reimbursed at the hourly schedule rates increases contract execution risk.

Comment: Consent to subcontract is inconsistent with the underlying intent of commercial acquisitions.

Coalition and Comment: Reimburse interdivisional transfers at the schedule hourly rates like subcontract labor. The proposed rule restricts reimbursement for interdivisional transfers (e.g., transfers from divisions, subsidiaries, and affiliates under the common control of the commercial contractor) to cost, without profit or fee, unless the interdivisional transfer meets the definition of a commercial item at FAR 2.101. Commercial contractors will be required to identify the actual costs, potentially subjecting their allowability to a determination under the cost principles. Commercial contractors should have the ability to use any of their resources without penalty of profit erosion. These contracts have commercial market reference points and disallowing profit discourages vendors from using their best employees to meet the Government's needs.

Comment: Revise the instructions for reimbursing subcontracts at the schedule rate to clearly permit the listing of actual or ``potential'' subcontractor name(s) since the subcontractors listed for reimbursement at the schedule hourly rates may reflect a pool of ``potential'' subcontractors that may or may not actually work on the contract.

Comment: Reimburse all subcontract costs at the schedule hourly rates without requiring contracting officer consent to be consistent with commercial practices.

Comment: Reimburse subcontract efforts requiring consent only if proper advance consent is obtained. Do not allow contracting officers to retroactively grant consent for subcontracts.

Comment: Restrict reimbursement of subcontract costs to actual costs because the prime contractor could subsequently negotiate lower rates with subcontractors that were authorized to be paid at the schedule rates and the Government would pay excessive prices for subcontracted effort that may be of a level less than that envisioned by the Government. Reimbursement at the schedule rates encourages contractors to maximize profit by subcontracting out more of the effort at lower subcontract rates. Government will expend additional resources to monitor the quality and efficiency of subcontract labor since the subcontract effort will not be readily apparent when billed at the schedule rates.

Comment: Restrict reimbursement of subcontract costs to actual costs as long as those costs do not exceed the prime's rates. Subcontractors have reported primes charging prime contractor labor rates for the subcontractor's labor while paying the subcontractors significantly lower rates. Vendors should make a reasonable profit on services provided to the Government but there is no justification for unduly enriching contractors by allowing them to charge their own higher rates for subcontract effort. Permitting contractors to bill their established rates for work they subcontract out will likely have the unintended consequence of creating new vendor organizations developed solely to extract higher profits from Government projects. Contractors that believe the Government is best served by permitting the wide use of subcontracts are free to do so in FFP agreements. Revise or restate in a clearer fashion the provisions regarding reimbursement for subcontract efforts at proposed FAR 52.212-4(i)(1)(ii)(B) because the provisions are difficult to follow.

Response: The methodology in the proposed rule was problematic and contrary to standard commercial practice.

First, the rule permitted reimbursement of commercial materials, including subcontracts and interdivisional transfers, at the contractor's established catalog or market price. At the same time, the rule limited reimbursement of qualifying commercial subcontracts to actual costs unless the subcontracts were listed in the contract for reimbursement at the hourly schedule rates. For some commercial companies, the established catalog or market price for its commercial material (including subcontracts and interdivisional transfers) is the prime contractor's established catalog or market price for labor. Reimbursing commercial materials at actual cost is inconsistent with commercial practices and contrary to the statutory preference for acquisitions of commercial items and the intent of FASA, i.e., established acquisition policies more closely resembling those of the commercial marketplace. In addition, subcontracts under FAR Part 12 include transfers of commercial items between divisions, subsidiaries, or affiliates of a contractor or subcontractor. While the actual costs for subcontracts other than interdivisional transfers can be easily determined from an independent third party invoice, actual costs for interdivisional transfers can only be determined using the procedures of FAR Part 31. Imposing FAR Part 31 requirements on commercial interdivisional transfers is contrary to commercial practices and the intent of FASA. Further, the proposed rule failed to fully consider the implications of subsequently altering the elements included in the catalog or market prices. The catalog or market prices will be determined fair and reasonable based on competition. Subsequent modifications to the elements of those prices could impact the overall pricing integrity and the fair and reasonable determination. Finally, limiting reimbursement to actual costs discourages subcontracting and would have a negative impact on small businesses. Small businesses traditionally receive approximately 35 percent of subcontracts on Government prime contracts and only 24 percent of prime Government contracts. Reimbursing subcontracts at actual costs is not consistent with the treatment on all other flexibly priced Government contracts where prime contractors are paid profit on subcontract costs. Restricting reimbursement of subcontract costs to actual costs ``as long as those costs do not exceed the prime's rates'' is not equitable or fair. Upon further consideration, the Councils believe it is appropriate to reimburse commercial subcontracts at the schedule labor rates without listing the subcontracts when the contractor's established catalog or market price includes the price of its subcontracts for the reasons discussed above. The Councils revised the rule accordingly. In addition, the Councils believe imposing subcontract consent requirements on these commercial subcontracts is unduly restrictive and inappropriate and revised the rule accordingly. If a contracting officer failed to provide a timely consent or disagreed with the subcontract award, the Government could wrongly affect contract performance and potentially impact a company's commercial reputation. The Councils also revised the rule to recognize that subcontracts under FAR Part 12 include transfers of commercial items between divisions, subsidiaries, and affiliates of a contractor or subcontractor to be consistent with FAR 12.001. Finally, the Councils did not believe it was necessary to clarify that qualifying services are commercial items since the definition of commercial items at FAR 2.101 clearly identifies the services that meet the definition

of commercial services.

Comment: Agree subcontract consent applies only to costs that are directly charged to the contract and not overhead expenses and G&A but recommend explicitly stating so in the final rule to avoid future questions about the application of this provision.

Response: As noted above, the final rule does not require subcontract consents.Material Costs

Comment: Agree there should be no ``most favored customer'' pricing requirement because it is a barrier for market entry and inconsistent with the Government pricing policies at FAR Subpart 15.4.

Comment: Refunds. Reimbursement of material at actual costs less any rebates, refunds, or discounts received by or accrued to the contractor is contrary to commercial practice which does not rely on cost accounting information. If an accrual entry is made at all, the accrual is typically identified to more global considerations (e.g., total volume of purchases), not individual contract actions. The reference to accruals and other cost accounting data is not appropriate.

Comment: Delete the requirement for commercial companies to give the Government credit for rebates from interdivisional labor since the divisions will likely have little visibility into the other business units.

Comment: Delete the requirement to provide the Government credit for rebates on commercial T&M contracts. Vendors typically provide some services (e.g., maintenance on standard equipment) through the organizational resources of their commercial business. Federal entities have little visibility into those business units, creating a dilemma as to how to account for a rebate.

Response: The Councils do not believe it is appropriate to require unique Government accounting requirements for materials on commercial T&M/LH contracts. The Councils revised the rule to only require contractors to reduce the costs of material for any rebates, refunds, or discounts that are identifiable to the contract.

Comment: Revise the proposed provisions to say modification to items that meet the definition of commercial items at FAR 2.101 are reimbursed at ``price'' instead of ``actual costs'' for to be consistent with FAR Subpart 15.4.

Response: Depending on the circumstance of a particular acquisition, it may be appropriate to pay ``price'' instead of ``costs'' for modifications to commercial items. To provide maximum flexibility to the contracting officer, the Councils revised the rule to permit reimbursement at either price or cost.Indirect Costs and Other Direct Costs

Comment: Exclude indirect costs from the definition of material costs to eliminate the two contradictory methods for reimbursing indirect costs. The proposed rule permits reimbursement at a fixed amount but also defines indirect costs as an element of material costs that can only be reimbursed at actual costs unless the material meets the definition of commercial item.

Response: The Councils revised the rule to eliminate the contradictory methods. Instead of excluding indirect costs from the definition of materials, the Councils revised the provisions in the alternate clause at FAR 52.212-4, Alternate I (i)(1)(ii)(D)(2) to exclude indirect costs from being reimbursed at actual cost.

Comment: Agree with the provisions that permit reimbursement of indirect costs at a fixed price on a pro-rata basis over the period of contract performance but recommend clarifying that the fixed price could be adjusted as new work is added and also allowing contractors to be reimbursed at the Government approved percentage mark-up for non-commercial contracts. Cost Accounting Standards (CAS) covered contractors are required to allocate material handling in accordance with their approved accounting practices. Material handling rates are well-recognized in Federal and commercial markets. The Councils are proposing to reimburse indirect costs at a fixed price because of concerns over violating the cost-plus-a-percentage-of-cost prohibition. Material handling rates do not add fee or any other price component to cost and therefore could not be considered a cost-plus-a-percentage-of-cost violation. Recommend revising the coverage to permit contractors to recover material handling provided it is excluded from the hourly rates.

Response: If new work is added, a fixed amount may be added for indirect expenses if appropriate. Nothing in the rule prevents contract changes. The approved percentage mark-up for non-commercial contracts is subject to the allowability provisions of FAR Part 31. The Councils believe it is more appropriate to reimburse indirect costs without imposing the requirements of FAR Part 31 to be consistent with commercial practices. While the commenter disagrees, the Councils believe use of a fixed rate violates the cost plus percentage of cost contract prohibition. CAS covered contractors already allocate material handling and other indirect costs to commercial and non-commercial FFP contracts in accordance with their disclosed accounting practices. While the costs are allocated to those FFP contracts, the allocation may be different from the amounts recovered under the contracts for those elements of cost.

Comment: Clarify which contracting officer (the contracting officer who awards the contract or the one that awards the task order) has the authority and ability to make determination on the method for reimbursing subcontract efforts and the allowability of ODC and indirect costs for IDIQ or Multiple Award Schedule (MAS) contracts.

Response: As stated in the alternate clause at (i)(1)(ii)(D)(1) and (2) of 52.212-4, Alternate I, the contracting officer awarding the indefinite delivery contract can authorize other contracting officers to determine how ODC and indirect costs will be reimbursed.

Comment: Revise the rule to clarify ODC and indirect costs will only be recovered as stand alone elements of costs if the amounts are not also included in the loaded labor rates.

Response: ODC and indirect costs should only be recovered as separate elements of costs if they are excluded from the schedule labor rates. However, contracting officers will not always know the elements of costs included in the schedule labor rates since commercial T&M/LH contracts can only be awarded using competitive procedures. Generally, contracting officers are precluded from obtaining detailed cost information on these types of acquisitions. However, contracting officers will know the proposed amount for indirect expenses and the types of ODC proposed to be reimbursed at actual costs for each competing contractor during the proposal evaluation phase.Government Oversight

Comment: The right to interview contractor employees is unreasonable intrusive and contrary to customary commercial practice. Notwithstanding a statement by the Councils to the contrary, no similar right exists in the FAR for any contract type. The audit clause at FAR 52.215-2 gives the contracting officer the right to examine ``records and other evidence'' to verify claimed costs. Records are not defined to include interviews and it is hard to believe ``other evidence'' includes employee interviews. This new right lacks precedent in the FAR. Not even the Offices of Inspector General under the Inspectors General Act has this authority. The Government does not need this newly created contractual right because the Government already has this right in cases of alleged fraud or wrongdoing pursuant to its subpoena powers under applicable statutes. The Government should rely on the invoices which are required, under penalty of law, to be accurate. The right to interview employees is not required by SARA or any other law. This authority also conflicts with FASA which requires commercial item contracts contain only those terms and conditions that are required by law or customary in the commercial marketplace. There is no provision in SARA for this approach, a fact recognized by Defense Contract Audit Agency (DCAA) in its April 9, 2004 ``GSA Schedule'' memorandum.

Comment: Commercial T&M/LH contracts are subject to a strict oversight process performed by company project managers that are accountable for the successful completion of the work.

Comment: Oppose the rule because commercial contracts will not be subject to full oversight and audit provisions. To protect taxpayer interests, commercial T&M/LH contracts should be subject to full oversight, audits, and CAS. Additionally, the commercial T&M contracts need clauses for refunds or price reduction so the Government can recoup overages identified in the audit.

Comment: Remove the restriction that limits the Government's access to records to those listed in the contract because the Government should not limit its access to records.

Response: The rule permits, but does not require, contracting officers to have access to contractor employees. While such access may not be a standard commercial practice, the Councils believe employee interviews may be necessary in some cases to verify the hours claimed by the contractor. According to one commenter in response to the ANPR, requiring access to contractor employees is a standard commercial practice for T&M contracting. The provisions for access to contractor employees are no broader than what is currently provided for under non-commercial T&M contracts. FAR 52.215-2, Audit and Records--Negotiation, provides the Government the right to examine and audit all records and other evidence sufficient to reflect properly all cost claimed to have been incurred or anticipated to be incurred directly or indirectly in performance of the contract. The Government routinely conducts employee interviews and other audit procedures to verify that labor costs at contractor locations having fixed-price, cost-reimbursement, incentive, non-commercial time-and-material and labor hour, commercial, or price redeterminable contracts are charged to the correct contract and not inappropriately shifted to the flexibly priced Government contracts. Employee interviews are part of DCAA's normal surveillance of Government contracts and are required by DCAA's Mandatory Annual Audit Requirements (MAARs). The Government should not have to allege wrongdoing to interview contractor employees when their labor hours are included on invoices submitted to the Government. The Councils do not believe that SARA or FASA requires the Government to make payments based on actual hours incurred without being able to verify the employees actually worked the hours charged. The Councils have carefully considered existing requirements for T&M contracts as well as differences between commercial and non-commercial contracts. The Councils believe that the rule provides the proper balance between the need to verify compliance with contract terms and the need to minimize access to contractor records. Finally, the Councils believe the oversight provided in the rule will provide sufficient information to verify the validity of amounts claimed on the contract without the oversight requirements in FAR and CAS that are imposed on noncommercial T&M/LH contracts.

Comment: Define the term ``original timecards'' broadly enough to encompass both paper-based and electronic timecards because many companies use electronic timecards.

Response: The Councils revised the final rule to provide access to original timecards (paper-based or electronic).

Comment: Provide contracting officers specific guidance regarding what prime oversight efforts are adequate for subcontracts listed in the contract and reimbursed at the schedule rates. Contracting officers may lack the expertise or time to assess the existence or quality of a contractor's mechanism to oversee the qualifications and hours worked by subcontractor employees. The only way to substantiate qualifications and hours worked is through examination of payrolls and resumes for each subcontractor.

Response: The prime contractor is responsible for the oversight of its subcontractors. When requested by the Government, the contractors are required to substantiate invoices (including any subcontractor hours reimbursed at the hourly rate in the schedule) by evidence of actual payment, individual daily job timecards, records that verify the employees meet the qualifications for the labor categories specified in the contract, or other substantiation specified in the contract. Contracting officers can seek the advice of the cognizant audit office when needed. Training would be more appropriately addressed in agency training materials.Withholds

Comment: Explicitly state contracting officers cannot withhold on commercial T&M/LH contracts because some contracting officers may elect to withhold even though the practice is not specifically allowed by the payment clause.

Response: We do not contemplate withholds in commercial contracts but there may be circumstances, at the contracting officer's discretion, where withholds are appropriate.Contractor Purchasing System Review (CPSR)

Comment: The proposed rule prohibits contractors with firm fixed-price (FFP) or FFP with economic price adjustment (EPA) contracts from obtaining approved purchasing systems thereby creating a ``class of contractor'' that can never obtain an approved purchasing system. This new class of contractors will have more oversight in terms of subcontractor approval and approval of subcontract modifications. These contractors are currently exempt from the subcontract approval process--an exemptions supported by FASA and FARA.

Comment: Do not impose CPSR on commercial contractors because doing so may deter commercial companies from doing business with the Government. Commercial contractors may not perform sufficient Government business to justify the establishment of a CPSR.

Response: The objective of a contractor purchasing system review (CPSR) is to evaluate the efficiency and effectiveness with which the contractor spends Government funds. The review provides the cognizant contracting officer a basis for granting, withholding, or withdrawing approval of the contractor's purchasing system. Under the existing FAR requirements, the Government does not review a contractor's purchasing system if all the contractor's Governments sales are commercial FFP and FFP EPA contracts. The same is true if all a contractor's Government sales are non-commercial competitively awarded firm-fixed-price and competitively awarded fixed-price with economic price adjustment contracts. For these types of contracts, the Government has no reason to evaluate the efficiency and effectiveness with which the contractor spends Government funds since the amounts paid to the contractor are not affected by the efficiency and effectiveness of the contractors' purchasing practices. The proposed rule did not impose a CPSR requirement but simply recognized that contractors who otherwise have approved purchasing systems require less oversight of their subcontractors because the contractor's overall system provides adequate controls and procedures to protect the Government. However, the Councils revised the rule to eliminate the subcontract consent requirement which means subcontracts for T&M contracts awarded pursuant to FAR Part 12 will be excluded from CPSRs.Cost Accounting Standards (CAS)

Comment: Do not apply CAS and other onerous Government-only requirements to commercial T&M/LH contracts because doing so is counter to acquisition reform legislation that envisions the Government purchasing more like its commercial counterparts. Congress exempted commercial item contracts from CAS; however, the CAS Board only exempted FFP and FFP EPA contracts. Agree the Councils lack the authority to make CAS changes but recommend the Councils implement the statute and treat T&M contracts as covered by the existing CAS exclusions.

Response: The decision as to whether CAS applies to commercial T&M/LH contracts rests with the CAS Board. The Councils have limited the imposition of other Government-only requirements to the maximum extent practicable. The Councils do not believe commercial T&M/LH contracts are currently exempted by any CAS exemption and therefore cannot simply waive the requirements of CAS.Total Cost

Comment: The rule establishes a notification procedure much like the limitation of cost and limitation of funds clauses for non-commercial items. Since this rule involves contracts for commercial items, suggest it instead refer to ``Total Price.''

Response: While the rule relates to commercial T&M/LH contracts, some material and ODC will be reimbursed at ``cost'' not ``price.'' Therefore, the Councils did not revise the title as suggested.General Comments

Comment: Do not support the rule in its present form.

Comment: In a number of areas, the proposed rule simply imports into this commercial items regulation many of the terms and conditions already used by the Government when purchasing non-commercial T&M/LH contracts. This action results in the inclusion of provisions that are significant departures from standard commercial practices, contrary to the spirit of FASA and in violation of FAR 12.301(a)(2) that require commercial item contracts to only include those clauses determined to be consistent with customary commercial practices. Other provisions of the rule extend the Government's audit and oversight inappropriately and unnecessary. Deeply concerned that the proposed rule will undercut the intent of SARA by creating what effectively amounts to a prohibition on the use of T&M contracts. The rule adds significant administrative burden, procedural complications, and certain significant financial disincentives. Recommend the Councils reconsider the entire approach to T&M contracting and the expansive rulemaking in the proposed rule. Also, recommend the Councils hold additional public meetings to provide the public additional opportunities to explain the submitted comments. Recommend delaying issuance of a final rule until the Acquisition Advisory Panel has released its report and recommendations since there may be a conflict between their recommendations and this rule.

Response: The Councils reviewed public comments and held two public meetings, obtaining a very complete picture of the views of interested parties on this rule, and have determined it is appropriate to go forward with a final rule. It is highly unlikely that further comments or public meetings would provide any information or opinions not already provided and evaluated.

Comment: Concur.

Comment: Industry does not prefer T&M contracts and would avoid them for IT work.

Response: T&M/LH contracts represent the highest contract type risk and industry, like the Government, avoids using them to the maximum extent practicable. However, there are circumstances when these contract types are needed and used.

Comment: The main difference between the commercial market and the rule is the rule only requires the contractor to use its ``best efforts'' to perform within the ceiling. There is no consumer in the commercial market that would blindly allow a car repair shop to work on their car for up to $1,000 without any guarantee that the car will be fixed.

Response: T&M/LH contracts, commercial and non-commercial, are ``best effort'' contracts that can only be used when it is not possible at the time of placing the contract or order to accurately estimate the extent or duration of the work or to anticipate costs with any reasonable degree of certainty. If it is possible to estimate the extent or duration of work or anticipate costs with a reasonable degree of certainty, T&M/LH contracts should not be used.

Comment: The use of the term ``schedule'' may be confusing to some who understand it to refer to MAS or FSSs contracts. The subcontract reimbursement provisions that permit reimbursement of subcontracts at the hourly rates prescribed in the schedule could be interpreted to mean there are separate subcontract rates on MAS contracts. Clarify the final rule the term is not meant to connote MAS contracts.

Response: The term is used throughout the FAR and widely understood by contracting professionals. The Councils are unaware of any issues with its interpretation and does not believe changing the term could be confusing to contracting professionals.

This is not a significant regulatory action and, therefore, was not subject to review under Section 6(b) of Executive Order 12866, Regulatory Planning and Review, dated September 30, 1993. This rule is not a major rule under 5 U.S.C. 804.

B. Regulatory Flexibility Act The Regulatory Flexibility Act, 5 U.S.C. 601, et seq., applies to this final rule. The Councils prepared a Final Regulatory Flexibility Analysis (FRFA), and it is summarized as follows:

1. Statement of need for, and objectives of, the rule.

This final rule revises the Federal Acquisition Regulation to allow contracting officers to award Time and Material and Labor Hour (T&M/LH) contracts when procuring commercial items. This FAR case was initiated to implement Section 1432 of the National Defense Authorization Act for Fiscal Year 2004 (Pub. L. 108-136).

2. Summary of significant issues raised by the public comments in response to the Initial Regulatory Flexibility Analysis (IRFA), a summary of the assessment of the agency of such issues, and a statement of any changes made in the proposed rule as a result of such comments.

Thirteen (13) comments were received from the public in response to the proposed rule. One of the most significant areas of controversy in the proposed rule issued for public comment concerned the matter of labor provided by subcontractors. The proposed rule required that the prime contractor be reimbursed at actual cost for all subcontractors providing labor under the contract, unless a subcontractor was specifically authorized under the prime contract by inclusion on a list of subcontractors to be reimbursed at the prime contract labor hour rate. Public commenters complained that this procedure created major administrative burdens and, because reimbursement at actual cost did not permit prime contractors to obtain profit of those subcontracts, it would significantly reduce the use of subcontractors. The commenters pointed out that the subcontractors at issue are commonly small businesses.

The final rule eliminates this feature regarding payment of labor subcontractors at actual cost and use of a list of approved subcontractors. The final rule provides that a prime contractor can provide qualifying labor hours under the contract through use of subcontractors and the government will pay the prime contract labor hour rate, without use of any pre-authorization list in the contract. Prime contractors will be able to include profit on this labor and there will be no special administrative approvals required. The final rule approach eliminates the part of the proposed rule that was most objectionable to small entities.

3. Description of, and an estimate of the number of, small entities to which the rule will apply or an explanation of why no such estimate is available.

This rule will apply to small and large entities that accept Time-and-Material or Labor-Hour contracts for commercial items. Because this rule is the first FAR authorization for use of these types of contracts for commercial items, no history is available on the number of awards made to small businesses. However, the Federal Procurement Data System (FPDS) data from FY 2004 show that small businesses received approximately 50 percent of the 42,840 noncommercial item T&M/LH awards made and approximately 30% of the $17 Billion obligated under those awards.

4. Description of the projected reporting, recordkeeping, and other compliance requirements of the rule, including an estimate of the classes of small entities which will be subject to the requirement and the type of professional skills necessary for preparation of the report or record.

The rule would require contractors to maintain records to support invoices presented to the Government for payment. Such records would include original timecards, the contractor's timekeeping procedures, distribution of labor, invoices for material, and so forth. These are standard records maintained by any company, large or small, and the fact that the contract would require that these records be made available to the Government should not place any additional record keeping burden on the entity.

5. Description of steps the agency has taken to minimize significant economic impact on small entities consistent with the stated objectives of applicable statutes, including a statement of the factual, policy, and legal reasons for selecting the alternative adopted in the final rule and why each of the other significant alternatives to the rule considered by the agency was rejected.

Public comments submitted in response to the proposed rule were reviewed and substantial policy adjustments to the rule were made as a result. One of the most significant areas of controversy in the proposed rule issued for public comment concerned the matter of labor provided by subcontractors. The proposed rule required that the prime contractor be reimbursed at actual cost for all subcontractors providing labor under the contract, unless a subcontractor was specifically authorized under the prime contract by inclusion on a list of subcontractors to be reimbursed at the prime contract labor hour rate. Public commenters complained that this procedure created major administrative burdens and, because reimbursement at actual cost did not permit prime contractors to obtain profit of those subcontracts, it would significantly reduce the use of subcontractors. The commenters pointed out that the subcontractors at issue are commonly small businesses.

The final rule eliminates this feature regarding payment of labor subcontractors at actual cost and use of a list of approved subcontractors. The final rule provides that a prime contractor can provide qualifying labor hours under the contract through use of subcontractors and the government will pay the prime contract labor hour rate, without use of any pre-authorization list in the contract. Prime contractors will be able to include profit on this labor and there will be no special administrative approvals required. The final rule approach eliminates the part of the proposed rule that was most objectionable to small entities. Interested parties may obtain a copy of the FRFA from the FAR Secretariat. The FAR Secretariat has submitted a copy of the FRFA to the Chief Counsel for Advocacy of the Small Business Administration.

C. Paperwork Reduction Act The Paperwork Reduction Act does not apply because the changes to the FAR do not impose information collection requirements that require the approval of the Office of Management and Budget under 44 U.S.C. 3501, et seq.

List of Subjects in 48 CFR Parts 2, 10, 12, 16, and 52

Government procurement.

Dated: December 4, 2006. Linda K. Nelson, Deputy Director, Contract Policy Division.

Therefore, DoD, GSA, and NASA amend 48 CFR parts 2, 10, 12, 16, and 52 as set forth below:

1. The authority citation for 48 CFR parts 2, 10, 12, 16, and 52 continues to read as follows:

Authority: 40 U.S.C. 121(c); 10 U.S.C. chapter 137; and 42 U.S.C. 2473(c).

PART 2--DEFINITIONS OF WORDS AND TERMS

2.101 [Amended]

2. Amend section 2.101 in paragraph (b), in the definition ``Commercial item'', by removing the second sentence in the introductory text of paragraph (6).

PART 10--MARKET RESEARCH

10.001 [Amended]

3. Amend section 10.001 by removing from paragraph (a)(3)(iv) ``as terms'' and adding ``as type of contract, terms'' in its place.

4. Amend section 10.002 by revising paragraph (b)(1)(iii) to read as follows:

10.002 Procedures.

* * * * *

(b) * * *

(1) * * *

(iii) Customary practices, including warranty, buyer financing, discounts, contract type considering the nature and risk associated with the requirement, etc., under which commercial sales of the products or services are made;

* * * * *

PART 12--ACQUISITION OF COMMERCIAL ITEMS

5. Revise section 12.207 to read as follows:

12.207 Contract type.

(a) Except as provided in paragraph (b) of this section, agencies shall use firm-fixed-price contracts or fixed-price contracts with economic price adjustment for the acquisition of commercial items.

(b)(1) A time-and-materials contract or labor-hour contract (see Subpart 16.6) may be used for the acquisition of commercial services when--

(i) The service is acquired under a contract awarded using--

(A) Competitive procedures (e.g., the procedures in 6.102, the set-aside procedures in Subpart 19.5, or competition conducted in accordance with Part 13);

(B) The procedures for other than full and open competition in 6.3 provided the agency receives offers that satisfy the Government's expressed requirement from two or more responsible offerors; or

(C) The fair opportunity procedures in 16.505, if placing an order under a multiple award delivery-order contract; and (ii) The contracting officer--

(A) Executes a determination and findings (D&F) for the contract, in accordance with paragraph (b)(2) of this section (but see paragraph (c) of this section for indefinite-delivery contracts), that no other contract type authorized by this subpart is suitable;

(B) Includes a ceiling price in the contract or order that the contractor exceeds at its own risk; and

(C) Authorizes any subsequent change in the ceiling price only upon a determination, documented in the contract file, that it is in the best interest of the procuring agency to change the ceiling price.

(2) Each D&F required by paragraph (b)(1)(ii)(A) of this section shall contain sufficient facts and rationale to justify that no other contract type authorized by this subpart is suitable. At a minimum, the D&F shall--

(i) Include a description of the market research conducted (see 10.002(e));

(ii) Establish that it is not possible at the time of placing the contract or order to accurately estimate the extent or duration of the work or to anticipate costs with any reasonable degree of certainty; and

(iii) Establish that the requirement has been structured to maximize the use of firm-fixed-price or fixed-price with economic price adjustment contracts (e.g., by limiting the value or length of the time-and-material/labor-hour contract or order; establishing fixed prices for portions of the requirement) on future acquisitions for the same or similar requirements.

(iv) Describe actions planned to maximize the use of firm-fixed-price or fixed-price with economic price adjustment contracts on future acquisitions for the same requirements.

(3) See 16.601(d)(1) for additional approval required for contracts expected to extend beyond three years.

(c)(1) Indefinite-delivery contracts (see Subpart 16.5) may be used when--

(i) The prices are established based on a firm-fixed-price or fixed-price with economic price adjustment; or

(ii) Rates are established for commercial services acquired on a time-and-materials or labor-hour basis.

(2) When an indefinite-delivery contract is awarded with services priced on a time-and-materials or labor-hour basis, contracting officers shall, to the maximum extent practicable, also structure the contract to allow issuance of orders on a firm-fixed-price or fixed-price with economic price adjustment basis. For such contracts, the contracting officer shall execute the D&F required by paragraph (b)(2) of this section, for each order placed on a time-and-materials or labor-hour basis. Placement of orders shall be in accordance with Subpart 8.4 or 16.5, as applicable.

(3) If an indefinite-delivery contract only allows for the issuance of orders on a time-and-materials or labor-hour basis, the D&F required by paragraph (b)(2) of this section shall be executed to support the basic contract and shall also explain why providing for an alternative firm-fixed-price or fixed-price with economic price adjustment pricing structure is not practicable. The D&F for this contract shall be approved one level above the contracting officer. Placement of orders shall be in accordance with Subpart 16.5.

(d) The contract types authorized by this subpart may be used in conjunction with an award fee and performance or delivery incentives when the award fee or incentive is based solely on factors other than cost (see 16.202-1 and 16.203-1).

(e) Use of any contract type other than those authorized by this subpart to acquire commercial items is prohibited.

6. Amend section 12.301 by adding a sentence after the first sentence in paragraph (b)(3) to read as follows:

12.301 Solicitation provisions and contract clauses for the acquisition of commercial items.

* * * * *

(b) * * *

(3) * * * Use this clause with its Alternate I when a time-and-materials or labor-hour contract will be awarded. * * *

* * * * *

7. Amend section 12.403 by revising paragraph (d)(1)(i) to read as follows:

12.403 Termination.

* * * * *

(d) * * *

(1) * * *

(i)(A) The percentage of the contract price reflecting the percentage of the work performed prior to the notice of the termination for fixed-price or fixed-price with economic price adjustment contracts; or

(B) An amount for direct labor hours (as defined in the Schedule of the contract) determined by multiplying the number of direct labor hours expended before the effective date of termination by the hourly rate(s) in the Schedule; and

* * * * *

PART 16--TYPES OF CONTRACTS

8. Amend section 16.601 by adding a sentence to the end of paragraph (c) introductory text and revising paragraph (d) to read as follows:

16.601 Time-and-materials contracts.

* * * * *

(c) Application. * * * See 12.207(b) for the use of time-and-material contracts for certain commercial services.

* * * * *

(d) Limitations. A time-and-materials contract may be used only if--

(1) The contracting officer prepares a determination and findings that no other contract type is suitable. The determination and finding shall be--

(i) Signed by the contracting officer prior to the execution of the base period or any option periods of the contracts; and

(ii) Approved by the head of the contracting activity prior to the execution of the base period when the base period plus any option periods exceeds three years; and

(2) The contract includes a ceiling price that the contractor exceeds at its own risk. The contracting officer shall document the contract file to justify the reasons for and amount of any subsequent change in the ceiling price. Also see 12.207(b) for further limitations on use of Time-and-Materials or Labor Hour contracts for acquisition of commercial items.

* * * * *

9. Revise section 16.602 to read as follows:

16.602 Labor-hour contracts.

Description. A labor-hour contract is a variation of the time-and-materials contract, differing only in that materials are not supplied by the contractor. See 12.207(b), 16.601(c), and 16.601(d) for application and limitations, for time-and-materials contracts that also apply to labor-hour contracts. See 12.207(b) for the use of labor-hour contracts for certain commercial services.

PART 52--SOLICITATION PROVISIONS AND CONTRACT CLAUSES

10. Amend section 52.212-4 by--

a. Revising the date of the clause;

b. Adding a new sentence after the third sentence in the introductory text of paragraph (a); and

c. Adding Alternate I;

The revised and added text reads as follows:

52.212-4 Contract Terms and Conditions--Commercial Items.

* * * * *

CONTRACT TERMS AND CONDITIONS--COMMERCIAL ITEMS (FEB 2007)

(a) Inspection/Acceptance. * * * If repair/replacement or reperformance will not correct the defects or is not possible, the Government may seek an equitable price reduction or adequate consideration for acceptance of nonconforming supplies or services. * * *

* * * * *

(End of clause)

Alternate I (FEB 2007). When a time-and-materials or labor-hour contract is contemplated, substitute the following paragraphs (a), (e), (i) and (l) for those in the basic clause.

(a) Inspection/Acceptance. (1) The Government has the right to inspect and test all materials furnished and services performed under this contract, to the extent practicable at all places and times, including the period of performance, and in any event before acceptance. The Government may also inspect the plant or plants of the Contractor or any subcontractor engaged in contract performance. The Government will perform inspections and tests in a manner that will not unduly delay the work.

(2) If the Government performs inspection or tests on the premises of the Contractor or a subcontractor, the Contractor shall furnish and shall require subcontractors to furnish all reasonable facilities and assistance for the safe and convenient performance of these duties.

(3) Unless otherwise specified in the contract, the Government will accept or reject services and materials at the place of delivery as promptly as practicable after delivery, and they will be presumed accepted 60 days after the date of delivery, unless accepted earlier.

(4) At any time during contract performance, but not later than 6 months (or such other time as may be specified in the contract) after acceptance of the services or materials last delivered under this contract, the Government may require the Contractor to replace or correct services or materials that at time of delivery failed to meet contract requirements. Except as otherwise specified in paragraph (a)(6) of this clause, the cost of replacement or correction shall be determined under paragraph (i) of this clause, but the ``hourly rate'' for labor hours incurred in the replacement or correction shall be reduced to exclude that portion of the rate attributable to profit. Unless otherwise specified below, the portion of the ``hourly rate'' attributable to profit shall be 10 percent. The Contractor shall not tender for acceptance materials and services required to be replaced or corrected without disclosing the former requirement for replacement or correction, and, when required, shall disclose the corrective action taken. [Insert portion of labor rate attributable to profit.]

(5)(i) If the Contractor fails to proceed with reasonable promptness to perform required replacement or correction, and if the replacement or correction can be performed within the ceiling price (or the ceiling price as increased by the Government), the Government may--

(A) By contract or otherwise, perform the replacement or correction, charge to the Contractor any increased cost, or deduct such increased cost from any amounts paid or due under this contract; or

(B) Terminate this contract for cause.

(ii) Failure to agree to the amount of increased cost to be charged to the Contractor shall be a dispute under the Disputes clause of the contract.

(6) Notwithstanding paragraphs (a)(4) and (5) above, the Government may at any time require the Contractor to remedy by correction or replacement, without cost to the Government, any failure by the Contractor to comply with the requirements of this contract, if the failure is due to--

(i) Fraud, lack of good faith, or willful misconduct on the part of the Contractor's managerial personnel; or

(ii) The conduct of one or more of the Contractor's employees selected or retained by the Contractor after any of the Contractor's managerial personnel has reasonable grounds to believe that the employee is habitually careless or unqualified.

(7) This clause applies in the same manner and to the same extent to corrected or replacement materials or services as to materials and services originally delivered under this contract.

(8) The Contractor has no obligation or liability under this contract to correct or replace materials and services that at time of delivery do not meet contract requirements, except as provided in this clause or as may be otherwise specified in the contract.

(9) Unless otherwise specified in the contract, the Contractor's obligation to correct or replace Government-furnished property shall be governed by the clause pertaining to Government property.

(e) Definitions. (1) The clause at FAR 52.202-1, Definitions, is incorporated herein by reference. As used in this clause--

(i) Direct materials means those materials that enter directly into the end product, or that are used or consumed directly in connection with the furnishing of the end product or service. (ii) Hourly rate means the rate(s) prescribed in the contract for payment for labor that meets the labor category qualifications of a labor category specified in the contract that are--

(A) Performed by the contractor;

(B) Performed by the subcontractors; or

(C) Transferred between divisions, subsidiaries, or affiliates of the contractor under a common control.

(iii) Materials means--

(A) Direct materials, including supplies transferred between divisions, subsidiaries, or affiliates of the contractor under a common control;

(B) Subcontracts for supplies and incidental services for which there is not a labor category specified in the contract;

(C) Other direct costs (e.g., incidental services for which there is not a labor category specified in the contract, travel, computer usage charges, etc.);

(D) The following subcontracts for services which are specifically excluded from the hourly rate: [Insert any subcontracts for services to be excluded from the hourly rates prescribed in the schedule.]; and

(E) Indirect costs specifically provided for in this clause.

(iv) Subcontract means any contract, as defined in FAR Subpart 2.1, entered into with a subcontractor to furnish supplies or services for performance of the prime contract or a subcontract including transfers between divisions, subsidiaries, or affiliates of a contractor or subcontractor. It includes, but is not limited to, purchase orders, and changes and modifications to purchase orders.

(i) Payments. (1) Services accepted. Payment shall be made for services accepted by the Government that have been delivered to the delivery destination(s) set forth in this contract. The Government will pay the Contractor as follows upon the submission of commercial invoices approved by the Contracting Officer: (i) Hourly rate.

(A) The amounts shall be computed by multiplying the appropriate hourly rates prescribed in the contract by the number of direct labor hours performed. Fractional parts of an hour shall be payable on a prorated basis.

(B) The rates shall be paid for all labor performed on the contract that meets the labor qualifications specified in the contract. Labor hours incurred to perform tasks for which labor qualifications were specified in the contract will not be paid to the extent the work is performed by individuals that do not meet the qualifications specified in the contract, unless specifically authorized by the Contracting Officer.

(C) Invoices may be submitted once each month (or at more frequent intervals, if approved by the Contracting Officer) to the Contracting Officer or the authorized representative.

(D) When requested by the Contracting Officer or the authorized representative, the Contractor shall substantiate invoices (including any subcontractor hours reimbursed at the hourly rate in the schedule) by evidence of actual payment, individual daily job timecards, records that verify the employees meet the qualifications for the labor categories specified in the contract, or other substantiation specified in the contract.

(E) Unless the Schedule prescribes otherwise, the hourly rates in the Schedule shall not be varied by virtue of the Contractor having performed work on an overtime basis.

(1) If no overtime rates are provided in the Schedule and the Contracting Officer approves overtime work in advance, overtime rates shall be negotiated.

(2) Failure to agree upon these overtime rates shall be treated as a dispute under the Disputes clause of this contract.

(3) If the Schedule provides rates for overtime, the premium portion of those rates will be reimbursable only to the extent the overtime is approved by the Contracting Officer.

(ii) Materials.

(A) If the Contractor furnishes materials that meet the definition of a commercial item at FAR 2.101, the price to be paid for such materials shall be the contractor's established catalog or market price, adjusted to reflect the--

(1) Quantities being acquired; and

(2) Any modifications necessary because of contract requirements.

(B) Except as provided for in paragraph (i)(1)(ii)(A) and (D)(2) of this clause, the Government will reimburse the Contractor the actual cost of materials (less any rebates, refunds, or discounts received by the contractor that are identifiable to the contract) provided the Contractor--

(1) Has made payments for materials in accordance with the terms and conditions of the agreement or invoice; or

(2) Makes these payments within 30 days of the submission of the Contractor's payment request to the Government and such payment is in accordance with the terms and conditions of the agreement or invoice.

(C) To the extent able, the Contractor shall--

(1) Obtain materials at the most advantageous prices available with due regard to securing prompt delivery of satisfactory materials; and

(2) Give credit to the Government for cash and trade discounts, rebates, scrap, commissions, and other amounts that are identifiable to the contract.

(D) Other Costs. Unless listed below, other direct and indirect costs will not be reimbursed.

(1) Other Direct Costs. The Government will reimburse the Contractor on the basis of actual cost for the following, provided such costs comply with the requirements in paragraph (i)(1)(ii)(B) of this clause: [Insert each element of other direct costs (e.g., travel, computer usage charges, etc. Insert ``None'' if no reimbursement for other direct costs will be provided. If this is an indefinite delivery contract, the Contracting Officer may insert ``Each order must list separately the elements of other direct charge(s) for that order or, if no reimbursement for other direct costs will be provided, insert `None''.']

(2) Indirect Costs (Material Handling, Subcontract Administration, etc.). The Government will reimburse the Contractor for indirect costs on a pro-rata basis over the period of contract performance at the following fixed price: [Insert a fixed amount for the indirect costs and payment schedule. Insert ``$0'' if no fixed price reimbursement for indirect costs will be provided. (If this is an indefinite delivery contract, the Contracting Officer may insert ``Each order must list separately the fixed amount for the indirect costs and payment schedule or, if no reimbursement for indirect costs, insert `None').'']

(2) Total cost. It is estimated that the total cost to the Government for the performance of this contract shall not exceed the ceiling price set forth in the Schedule and the Contractor agrees to use its best efforts to perform the work specified in the Schedule and all obligations under this contract within such ceiling price. If at any time the Contractor has reason to believe that the hourly rate payments and material costs that will accrue in performing this contract in the next succeeding 30 days, if added to all other payments and costs previously accrued, will exceed 85 percent of the ceiling price in the Schedule, the Contractor shall notify the Contracting Officer giving a revised estimate of the total price to the Government for performing this contract with supporting reasons and documentation. If at any time during the performance of this contract, the Contractor has reason to believe that the total price to the Government for performing this contract will be substantially greater or less than the then stated ceiling price, the Contractor shall so notify the Contracting Officer, giving a revised estimate of the total price for performing this contract, with supporting reasons and documentation. If at any time during performance of this contract, the Government has reason to believe that the work to be required in performing this contract will be substantially greater or less than the stated ceiling price, the Contracting Officer will so advise the Contractor, giving the then revised estimate of the total amount of effort to be required under the contract.

(3) Ceiling price. The Government will not be obligated to pay the Contractor any amount in excess of the ceiling price in the Schedule, and the Contractor shall not be obligated to continue performance if to do so would exceed the ceiling price set forth in the Schedule, unless and until the Contracting Officer notifies the Contractor in writing that the ceiling price has been increased and specifies in the notice a revised ceiling that shall constitute the ceiling price for performance under this contract. When and to the extent that the ceiling price set forth in the Schedule has been increased, any hours expended and material costs incurred by the Contractor in excess of the ceiling price before the increase shall be allowable to the same extent as if the hours expended and material costs had been incurred after the increase in the ceiling price.

(4) Access to records. At any time before final payment under this contract, the Contracting Officer (or authorized representative) will have access to the following (access shall be limited to the listing below unless otherwise agreed to by the Contractor and the Contracting Officer): (i) Records that verify that the employees whose time has been included in any invoice meet the qualifications for the labor categories specified in the contract;

(ii) For labor hours (including any subcontractor hours reimbursed at the hourly rate in the schedule), when timecards are required as substantiation for payment--

(A) The original timecards (paper-based or electronic);

(B) The Contractor's timekeeping procedures;

(C) Contractor records that show the distribution of labor between jobs or contracts; and

(D) Employees whose time has been included in any invoice for the purpose of verifying that these employees have worked the hours shown on the invoices.

(iii) For material and subcontract costs that are reimbursed on the basis of actual cost--

(A) Any invoices or subcontract agreements substantiating material costs; and

(B) Any documents supporting payment of those invoices.

(5) Overpayments/Underpayments. (i) Each payment previously made shall be subject to reduction to the extent of amounts, on preceding invoices, that are found by the Contracting Officer not to have been properly payable and shall also be subject to reduction for overpayments or to increase for underpayments. The Contractor shall promptly pay any such reduction within 30 days unless the parties agree otherwise. The Government within 30 days will pay any such increases, unless the parties agree otherwise. The contractor's payment will be made by check. If the Contractor becomes aware of a duplicate invoice payment or that the Government has otherwise overpaid on an invoice payment, the Contractor shall immediately notify the Contracting Officer and request instructions for disposition of the overpayment.

(ii) Upon receipt and approval of the invoice designated by the Contractor as the ``completion invoice'' and supporting documentation, and upon compliance by the Contractor with all terms of this contract, any outstanding balances will be paid within 30 days unless the parties agree otherwise. The completion invoice, and supporting documentation, shall be submitted by the Contractor as promptly as practicable following completion of the work under this contract, but in no event later than 1 year (or such longer period as the Contracting Officer may approve in writing) from the date of completion.

(6) Release of claims. The Contractor, and each assignee under an assignment entered into under this contract and in effect at the time of final payment under this contract, shall execute and deliver, at the time of and as a condition precedent to final payment under this contract, a release discharging the Government, its officers, agents, and employees of and from all liabilities, obligations, and claims arising out of or under this contract, subject only to the following exceptions.

(i) Specified claims in stated amounts, or in estimated amounts if the amounts are not susceptible to exact statement by the Contractor.

(ii) Claims, together with reasonable incidental expenses, based upon the liabilities of the Contractor to third parties arising out of performing this contract, that are not known to the Contractor on the date of the execution of the release, and of which the Contractor gives notice in writing to the Contracting Officer not more than 6 years after the date of the release or the date of any notice to the Contractor that the Government is prepared to make final payment, whichever is earlier.

(iii) Claims for reimbursement of costs (other than expenses of the Contractor by reason of its indemnification of the Government against patent liability), including reasonable incidental expenses, incurred by the Contractor under the terms of this contract relating

to patents.

(7) Prompt payment. The Government will make payment in accordance with the Prompt Payment Act (31 U.S.C. 3903) and prompt payment regulations at 5 CFR part 1315.

(8) Electronic Funds Transfer (EFT). If the Government makes payment by EFT, see 52.212-5(b) for the appropriate EFT clause.

(9) Discount. In connection with any discount offered for early payment, time shall be computed from the date of the invoice. For the purpose of computing the discount earned, payment shall be considered to have been made on the date that appears on the payment check or the specified payment date if an electronic funds transfer payment is made.

(l) Termination for the Government's convenience. The Government reserves the right to terminate this contract, or any part hereof, for its sole convenience. In the event of such termination, the Contractor shall immediately stop all work hereunder and shall immediately cause any and all of its suppliers and subcontractors to cease work. Subject to the terms of this contract, the Contractor shall be paid an amount for direct labor hours (as defined in the Schedule of the contract) determined by multiplying the number of direct labor hours expended before the effective date of termination by the hourly rate(s) in the contract, less any hourly rate payments already made to the Contractor plus reasonable charges the Contractor can demonstrate to the satisfaction of the Government using its standard record keeping system that have resulted from the termination. The Contractor shall not be required to comply with the cost accounting standards or contract cost principles for this purpose. This paragraph does not give the Government any right to audit the Contractor's records. The Contractor shall not be paid for any work performed or costs incurred that reasonably could have been avoided.

END OF FAC 2005-15