Government be warned: Contractors do not have to keep cost reimbursement records forever

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The Defense Contract Audit Agency or DCAA found out something the hard way. If it takes too long to audit cost reimbursement support documents held by contractors – tough. The government is still responsible for those costs. The recent Armed Services Contract Board of Appeals handled that outcome. Zach Prince is a partner at Smith, Pachter, McWhorter, He joined  the Federal Drive with Tom Temin  to explain the case.,

Interview transcript:

Tom Temin: So tell us more about this case. I guess it revolves around the fact that records like timesheets have to be held by contractors, but not forever.

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Zach Prince: That’s right. And the facts of this case will be pretty familiar to any companies that are dealing with cost side contracts. The costs were incurred. 2008, 2009, 2010. DCAA didn’t conduct an audit of those costs until sometime in 2015. An audit report didn’t come out until 2017. As happens pretty frequently, by the time the government gets around to claiming costs were improperly supported, the people who know enough to back it up and the documents are long gone. So in this case, the government challenged about $600,000 in costs the contractor incurred, arguing that they simply didn’t have enough timesheets to support those. In response, the board said, Well, there’s a contract clause here that has a record retention period. It incorporates by reference 404.7, which provides that for timesheets, the contractor and has to retain those for two years after the close of the fiscal year in which the costs were incurred.

Tom Temin: Right. So the DCAA took five years to get around to auditing that contract. Well, golly, and the whole case dragged on longer than you have to even retain tax records.

Zach Prince: That’s right. And to be fair to DCAA, the contractor here didn’t get its cost proposal submitted on time. They submitted their cost proposals in 2013, for both fiscal years, ’09 and ’10. They’re supposed to do it six months after the close of the fiscal year. But the impact of that is a day-for- day extension of the record retention period. So even with that extension, DCAA didn’t start the audit much less finish it until eight months after the expiration of the period.

Tom Temin: And just as background, what is the process of DCAA? Do we know how they choose a particular contract to audit since there’s what 10s of 1000s, hundreds of 1000s of contract actions in a given year? Is it random till they get around to a particular contract five years later?

Zach Prince: There’s a risk assessment that they conduct. And to some extent, there is random sampling. This is coming from a time period where DCAA was incredibly delayed in all their cost audits. It’s astonishing that in 2022, we’re seeing a dispute about costs that were incurred in 2008, 2009 and 20010. But a few years ago, this wouldn’t have been at all surprising. This got the attention of Congress. And there are several provisions of National Defense Authorization Act forcing DCAA to act faster.

Tom Temin: Right. And we were talking about timesheets, because this was a cost reimbursement or hourly type of contract, and the company was called Double Shots, correct?

Zach Prince: That’s right, whatever that is.

Tom Temin: Besides timesheets does this record retention to support cost reimbursement extend to other types of documents, say travel expenses or material expenses?

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Zach Prince: It does for 404.7 details, different categories of cost and different categories of support, and has different periods applicable to each. So this would apply to receipts and other backup under a same sort of analysis. This is an important decision for contractors to track because in almost every cost dispute I’ve been involved in, it involves DCAA challenging the sufficiency of backup support long, long, long after those costs were incurred.

Tom Temin: Right. In this case, then DCAA said sorry, these are disallowed, because you can’t document them and the company then appealed to the board of contract appeals. The prevailing document then is the retention period and not the costs themselves.

Zach Prince: That’s right. The board wasn’t exactly sympathetic to the government’s argument that the board should ignore the government’s regulations. The government drafted these regulations. They’re theirs. Nonetheless, the government was arguing that it’s not fair to enforce the contract as written.

Tom Temin: We’re speaking with Zach Prince. He’s a partner at Smith, Pachter, McWhorter specializing in contract disputes and contract protests. Well, what’s to stop a company from saying, golly, it’s one day after the records retention is over for this big contract. Let’s shred everything, and let’s make up new cost reimbursements that we can really sock it to them.

Zach Prince: Well, something that I think is worthwhile noting about this case is the board emphasized that the company had proven they paid these people. So they paid their employees and they demonstrated it. It was just about whether the timecards were adequate. So they do have an obligation to submit their incurred cost proposal within six months after the close of the fiscal year. And of course, the False Claims Act is in the background acting as the the hammer that’s going to fall down if they violate it.

Tom Temin: Sure, and just as a background question, if a company is a small company, or even some large companies use third party payroll services, the ADPs of the world and so on, do we know how long those records are kept? That’s a cloud-based type of service. And it could be kept forever. So far as we know.

Zach Prince: It could be, I’m not sure, I would expect up to 10 years, but it’s probably dependent on the contract that you’ve got with those companies,

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Tom Temin: Right. So even if you don’t have timecards, you can still verify to the government that people were paid on a certain date. And then if you have the right coding, then it could prove that it was for that contract,

Zach Prince: Typically yes. Although, if you’re looking at costs that were incurred back in the mid 2000s, you may not have had sort of outside vendor.

Tom Temin: So your advice would be for contractors, then even though the statutory period might expire for given sets of records, it’s probably worth keeping them. Even if you win, you still can avoid the whole process of going through the ASPCA, which is expensive and time consuming.

Zach Prince: Absolutely. This is an after the fact offense. It’s not a best practice, from an initial perspective. Initially, you should set a policy that you retain records for as long as the government could possibly have a claim. That should be six to 10 years, depending on the type of record. Because the statute limitations on the False Claims Act is up to 10 years.

Tom Temin: And what is your experience that the large contractors, the ones that have giant compliance departments that have been dealing with the government since you know, 1927, or whatever the case might be? Do they tend to keep these records much longer than the statutory requirement, the requirement?

Zach Prince: They do. Ten years after final payment under a contract is pretty typical.

Tom Temin: So that might load DCAA into a false sense of the ability to get after these things, even though they’re way behind the FAR requirement.

Zach Prince: That’s right. DCAA doesn’t always appreciate the difference between small businesses, especially small businesses that are operating in contingency environments, which is where I see a lot of these disputes arising. Iraq and Afghanistan contractors and your big entities like your Lockheed, and your Raytheons.

Tom Temin: Interesting. All right, well, good lessons learned here. Zack Prince is a partner at Smith, Pachter McWhorter.

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