For Architecture and Engineering (A&E) firms performing work on government-funded projects, compliance with the Federal Acquisition Regulations (FAR) is non-negotiable. One of the most scrutinized areas is the firm’s indirect cost rate—often referred to as the overhead (OH) rate.
State DOTs, federal agencies, and prime contractors rely on your FAR-compliant overhead rate to validate that costs charged to government contracts are allowable, allocable, and reasonable.
A FAR overhead rate audit can feel daunting, but with the right preparation, your firm can approach the process confidently and minimize disruption.
Here are six key steps from a CPA’s perspective to ensure your audit readiness.
1. Maintain a Strong Job-Costing System
Auditors will want to see a clear trail from your general ledger to project costs and indirect allocations. A robust job-costing system should:
- Track both direct and indirect labor through total time reporting (i.e., no “gaps” in time entry)
- Segregate allowable vs. unallowable costs (e.g., alcohol, lobbying, certain entertainment)
- Reconcile labor distribution reports to payroll records
Without this foundation, even well-supported rates can be challenged.
2. Document Your Cost Allocation Policies
Written policies are critical. Your firm should have documentation that explains:
- How indirect costs are pooled and allocated
- Treatment of fringe benefits, paid time off, bonuses, and incentive compensation
- Your methodology for depreciation, vehicle expenses, and home office costs
Auditors look for consistency in application. It’s not just about what your policy says, but whether you follow it every month.
3. Identify and Exclude FAR Unallowables
One of the most common audit findings is failure to properly identify unallowable costs. Examples include:
- Business development meals with alcohol
- Donations and contributions
- Marketing swag and client gifts above de minimis amounts
- Personal use of company vehicles
These costs must be separately tracked in your accounting system and removed from the overhead rate calculation.
4. Reconcile Financials to Your Overhead Schedule
The overhead rate schedule should tie directly to your audited financial statements or tax return. Reconciling total expenses ensures nothing is omitted or double-counted.
Auditors will also want to see that retained earnings, shareholder distributions, and tax expenses are excluded appropriately.
5. Conduct a Pre-Audit Review
A CPA firm specializing in A&E and FAR compliance can help you:
- Perform a mock audit of your overhead schedule
- Benchmark your rate against industry norms
- Review supporting documentation such as invoices, time sheets, and mileage logs
- Identify risk areas before the auditor does
This proactive step often saves time, reduces findings, and demonstrates your firm’s commitment to compliance.
6. Keep Communication Open
Once the audit begins, prompt and transparent communication is key. Assign an internal point person to coordinate requests and keep backup documentation ready. The more responsive and organized your team, the faster and smoother the audit will proceed.
Next Steps for Preparing Your Company for a Successful FAR Overhead Rate Audit
A FAR overhead rate audit is not just about compliance—it’s about building trust with funding agencies and positioning your firm for continued success on government projects. By maintaining strong systems, documenting policies, excluding unallowables, and engaging your CPA advisor early, you can transform the audit process from a stressful requirement into a strategic advantage.
Kreischer Miller’s Architecture & Engineering industry specialists have vast experience helping firms prepare for and navigate FAR overhead audits. Whether you need a pre-audit review, an annual audited overhead rate schedule, or ongoing compliance support, we’re here to ensure your firm is audit-ready and well-positioned for growth.