All Systems Go: Making Sure You Have a Compliant Accounting System

The Federal Acquisition Regulation, more commonly known as the FAR, is the principal set of rules or the “code” of federal procurement. The main principles of FAR include meeting the buyer’s needs in terms of cost, quality, and timeliness; minimizing administrative operating costs; ensuring integrity, fairness, and openness; and fulfilling other public policy objectives. Specifically, it is FAR Part 31, that governs the contract cost policies and procedures, and provides guidance for establishing a government compliant accounting system.

A proper accounting system is critical to satisfying government auditors and providing the information necessary for planning, budgeting, proposals, and maximization of cost recovery.

The key elements of a government compliant accounting system are:

• Proper segregation of direct and indirect costs.
• Identification of a final or intermediate cost objective, usually in the form of a job, project or task.
• Identification and accumulation of direct costs by contract/grant under a job order cost system. Subsidiary cost records for each individual contract should also be available.  Direct costs must be identified by contract line item.
• Accumulation of costs must be controlled by the general ledger.
• Identification or accumulation separately of unallowable costs pursuant to FAR Part 31.
• There must be a logical and consistent method for the allocation of indirect costs to intermediate and final cost objectives.
• The timekeeping system must identify employee labor by intermediate or final cost objectives, and maintained on a daily basis within the accounting system.
• The labor distribution system must charge direct and indirect labor to appropriate cost objectives and provide an interim (at least monthly) determination of costs charged to a contract through routine posting of books of account.  This requires a monthly accrual basis closing of the books.
• FAR requires the books to be kept on a GAAP basis.

In addition to these elements and the detailed requirements that go along with each, the company must have written policies and procedures for accounting system controls, time reporting procedures, and planning and budgeting processes.

As previously noted, your accounting system must be compliant with the FAR regulations in order to satisfy the government auditors, specifically FAR 31.  Various Federal government departments and agencies perform numerous audits of one type or another. If the department or agency does not a have an audit function, they will contract with the Defense Contract Audit Agency (DCAA) to perform various types of audits.  Some of the more common are:

• Pre-award accounting system audit
• Annual cost submission of indirect rates
• Financial capability audit
• Budget proposal audit
• Post award audit
• Contract close out

The DCAA has recently focused more on pre-award and budget proposal audits.  In other words, they are auditing the costs before monies are spent rather than historical costs. This approach makes a lot of sense for the government to try and reduce fraud and abuse.

The pre-award accounting system audit is now a pass or fail audit.   If your accounting system fails, you can possibly lose the award.  You will have time to cure any deficiencies but this can delay your award for months.   In any type of audit, if the DCAA determines there are deficiencies in the accounting system’s ability to identify and accumulate costs, the company can be stopped from billing which can cause serious cash flow problems.

Once your company obtains its first government contract, it is important to update and maintain your accounting system regularly for maximum efficiency.   Upon request for documents by the DCAA for an audit, the company is expected to produce records within three business days.  If records are not produced in this time period, the accounting system can be rendered inadequate which can result in a potential loss of the contract/grant or billing delays.

If you are going to do business with the government, it is critical for your accounting system to be able to withstand an audit.  Though the accounting system is very often the last thing addressed when submitting a proposal, it is much more cost effective to set it up properly on the front end rather than wait for the government auditors to come.

Also of Interest:

SBS Group and our industry technology partner, Pleasant Valley Business Solutions (PBVS) has created an overview of the critical functionality needed for compliance and accounting in the government contracting market. PVBS offers Microsoft Dynamics solutions that are created specifically for high-growth and large government contractors in order to help these companies better manage and optimize their Federal Government contracts. Download it now at:

Microsoft Dynamics AX for Government Contractors Offers Critical Functionality, Compliance and More