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Direct and Indirect Costs

Any cost that can be specifically identified with a project is known as a direct cost, for example, hourly salary cost, or Other Direct Costs such as travel and/or materials. However, the performing organization incurs other costs which cannot be tied directly to a single project and these costs need to be grouped so that they can be distributed appropriately across each project. These are known as indirect costs. Examples of indirect costs are:

  • Fringe Benefits
  • Overhead
  • General and Administrative (G&A)
  • Facilities
  • Unallowable

These indirect costs for the whole organization, or segments thereof, will be grouped in cost pools, and their total calculated. A base is needed for distributing indirect costs to their final cost objectives, also known as an allocation base. Dependent on the type of indirect cost, different allocation bases might be used. For example, fringe would typically have a base of total non-fringe labor cost (including direct project and all other non-project work but excluding fringe labor such as vacation and holiday time).

If total fringe costs, also known as the fringe pool, were $1,100,000, and the allocation base of total non-fringe labor costs for the organization was $3,200,000, then the Fringe Rate would be 34% (Fringe/Base). This percentage would be multiplied by the project’s labor costs to calculate the fringe burden for that project.

Fringe Benefits

Fringe expenses are expenses that are offered to employees as components of their compensation package other than wages or salaries, plus any compensation for non-worked time such as vacation and holidays. Expenses included in the Fringe pool include but are not limited to:

  • Employer federal, state and local payroll taxes
  • Workers compensation
  • Holidays, vacations and sick or lost time
  • Jury duty, military or bereavement time
  • Medical, dental and vision insurance
  • Life insurance
  • Short and long-term disability
  • Stock incentive options
  • Company contributions to 401(k)
  • Bonuses (if applicable to all employees)

Overhead

Expenses that are not directly associated with a contract but assist with performing contractual duties, such as specialized training or security clearances, are known as Overhead costs. Overhead costs in the Overhead pool include the following:

  • Training
  • Recruiting
  • Other non-chargeable time of normally billable personnel (as opposed to General & Administrative personnel)
  • Fringe cost allocated to overhead labor
  • Travel expenses (unless allocated to the project as ODC)
  • Licenses and fees
  • Office supplies
  • Postage and shipping
  • Computer equipment and maintenance
  • Communications/telephone (can also be facilities cost)
  • Utilities (can also be facilities cost)
  • Depreciation of buildings and equipment (can also be facilities cost with)
  • Facilities cost allocated to overhead

Note: The allocation base for Overheard will typically be the total direct labor and fringe costs allocated to direct labor. Additionally, facilities costs, such as rent, utilities, etc., may be included in the overhead pool if there is no separate facilities cost pool.

G&A Expenses 

Expenses that are incurred in order to run the business as a whole are called General & Administrative (G&A) expenses. Expenses included in the G&A pool typically include:

  • Executive Management
  • Finance and Administration
  • Sales and Marketing, Business Development
  • Human Resources
  • Information Technology
  • Professional fees
  • Bid & proposal efforts
  • Fringe allocated to G&A Labor
  • Facilities allocated to G&A

Note: The commonly accepted base for allocating G&A expenses is total non-G&A costs, including direct costs (labor and ODC), fringe and overhead allocated to direct costs.

Other indirect pools may be established dependent on the organization’s particular set of facts and circumstances. However, the organization should already fully understand these concepts and their desired cost structures before attempting to configure Unanet. If not, they should work with their auditors or other financial consultant to establish their policies and procedures.

Facilities Expense

Facilities costs are those associated with housing operations. It is common to have a facilities cost pool where the accumulation of those costs are allocated between overhead, G&A, and in some cases materials and subcontractor handling. The allocation between overhead and G&A can be based upon headcount, square footage, labor dollars or some other metric that would trace the costs between overhead and G&A. Facilities expenses can include but are not limited to:

  • Rent
  • Building maintenance, property management services
  • Utilities, communications equipment
  • Depreciation of building, furniture & fixtures
  • Facilities administration
  • Security services
  • Moving and remodeling costs
  • Custodial
  • Building debt service

Unallowable Expenses

There are some expenses that must be excluded from calculating indirect rates. These expenses are identified and allocated to separate general ledger accounts so as to avoid including them in the indirect rate cost pools. The inclusion of these unallowable expenses can overstate the rates, as well as create an audit finding. Note, however, that while the unallowable expenses cannot be included in the indirect rate pool, they must typically be included in the allocation base as appropriate (e.g., time spent lobbying would not be an allowable overhead cost, but the labor cost for lobbying should be included in the allocation base for fringe, overhead and G&A). Unallowable expenses are NOT the same as the IRS definition of nondeductible. Examples of Unallowable Expenses are (list is not all inclusive):

  • Alcoholic purchases
  • Public relations, advertising - reference the FAR as some are allowable and some are not
  • Per diem overages
  • Airfare, car rental over standard rates (e.g., first class airfare, luxury sedans) unless there is adequate documentation to justify the expense
  • Bad debts
  • Legal expense - reference the FAR as some are allowable and some are not
  • Interest expense - reference the FAR as some are allowable and some are not
  • Entertainment, gifts, recreation
  • Fines, penalties
  • Losses
  • Lobbying, political activities
  • Goodwill

See also FAR 31.2

Typical Cost Structure

For reference, a representative indirect cost structure and associated rates for government contractors are shown below. Note that the indirect rates can vary widely and are often used as a competitive factor by government contractors.

35% Fringe - calculated as Rate x Labor

60% Overhead - calculated as Rate x (Labor + Fringe)

14% General & Administrative - calculated as Rate x (Labor + Fringe + Overhead + ODC)

Organizations that have many staff working on client sites would typically have lower overhead as the burden to house these employees would not be applicable.


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