[Federal Register Volume 70, Number 168 (Wednesday, August 31, 2005)]
[Rules and Regulations]
[Pages 51910-51927]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 05-16649]



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OFFICE OF MANAGEMENT AND BUDGET

2 CFR Part 225


Cost Principles for State, Local, and Indian Tribal Governments 
(OMB Circular A-87)

AGENCY: Office of Management and Budget

ACTION: Relocation of policy guidance to 2 CFR chapter II.

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SUMMARY: The Office of Management and Budget (OMB) is relocating 
Circular A-87, ``Cost Principles for State, Local, and Indian Tribal 
Governments,'' to Title 2 in the Code of Federal Regulations (2 CFR), 
Subtitle A, Chapter II, part 225 as part of an initiative to provide 
the public with a central location for Federal government policies on 
grants and other financial assistance and nonprocurement agreements. 
Consolidating the OMB guidance and co-locating the agency regulations 
provides a good foundation for streamlining and simplifying the policy 
framework for grants and agreements as part of the efforts to implement 
the Federal Financial Assistance Management Improvement Act of 1999 
(Pub. L. 106-107).

DATES: This document is effective August 31, 2005. This document 
republishes the existing OMB Circular A-87, which already is in effect.

FOR FURTHER INFORMATION CONTACT: Gil Tran, Office of Federal Financial 
Management, Office of Management and Budget, telephone 202-395-3052 
(direct) or 202-395-3993 (main office) and e-mail: Hai--M.--
Tran@omb.eop.gov.

SUPPLEMENTARY INFORMATION: On May 10, 2004 [69 FR 25970], we revised 
the three OMB circulars containing Federal cost principles. The purpose 
of those revisions was to simplify the cost principles by making the 
descriptions of similar cost items consistent across the circulars 
where possible, thereby reducing the possibility of misinterpretation. 
Those revisions, a result of OMB and Federal agency efforts to 
implement Public Law 106-107, were effective on June 9, 2004.
    In this document, we relocate OMB Circular A-87 to the CFR, in 
Title 2 which was established on May 11, 2004 [69 FR 26276] as a 
central location for OMB and Federal agency policies on grants and 
agreements.
    Our relocation of OMB Circular A-87 does not change the substance 
of the circular. Other than adjustments needed to conform to the 
formatting requirements of the CFR, this notice relocates in 2 CFR the 
version of OMB Circular A-87 as revised by the May 10, 2004 notice.

List of Subjects in 2 CFR Part 225

    Accounting, Grant administration, Grant programs, Reporting and 
recordkeeping requirements, State, local, and Indian tribal 
governments.

    Dated: August 8, 2005.
Joshua B. Bolten,
Director.

Authority and Issuance

0
For the reasons set forth above, the Office of Management and Budget 
amends 2 CFR Subtitle A, Chapter II, by adding a part 225 as set forth 
below.

PART 225--COST PRINCIPLES FOR STATE, LOCAL, AND INDIAN TRIBAL 
GOVERNMENTS (OMB CIRCULAR A-87)

Sec.
225.5 Purpose.
225.10 Authority
225.15 Background
225.20 Policy.
225.25 Definitions.
225.30 OMB responsibilities.
225.35 Federal agency responsibilities.
225.40 Effective date of changes.
225.45 Relationship to previous issuance.
225.50 Policy review date.
225.55 Information Contact.
Appendix A to Part 225--General Principles for Determining Allowable 
Costs
Appendix B to Part 225--Selected Items of Cost
Appendix C to Part 225--State/Local-Wide Central Service Cost 
Allocation Plans
Appendix D to Part 225--Public Assistance Cost Allocation Plans
Appendix E to Part 225--State and Local Indirect Cost Rate Proposals

    Authority: 31 U.S.C. 503; 31 U.S.C. 1111; 41 U.S.C. 405; 
Reorganization Plan No. 2 of 1970; E.O. 11541, 35 FR 10737, 3 CFR, 
1966-1970, p. 939.


Sec.  225.5  Purpose.

    This part establishes principles and standards for determining 
costs for Federal awards carried out through grants, cost reimbursement 
contracts, and other agreements with State and local governments and 
federally-recognized Indian tribal governments (governmental units).


Sec.  225.10  Authority.

    This part is issued under the authority of the Budget and 
Accounting Act of 1921, as amended; the Budget and Accounting 
Procedures Act of 1950, as amended; the Chief Financial Officers Act of 
1990; Reorganization Plan No. 2 of 1970; and Executive Order No. 11541 
(``Prescribing the Duties of the Office of Management and Budget and 
the Domestic Policy Council in the Executive Office of the 
President'').


Sec.  225.15  Background.

    As part of the government-wide grant streamlining effort under 
Public Law 106-107, Federal Financial Award Management Improvement Act 
of 1999, OMB led an interagency workgroup to simplify and make 
consistent, to the extent feasible, the various rules used to award 
Federal grants. An interagency task force was established in 2001 to 
review existing cost principles for Federal awards to State, local, and 
Indian tribal governments; colleges and universities; and non-profit 
organizations. The task force studied ``Selected Items of Cost'' in 
each of the three cost principles to determine which items of costs 
could be stated consistently and/or more clearly.


Sec.  225.20  Policy.

    This part establishes principles and standards to provide a uniform 
approach for determining costs and to promote effective program 
delivery, efficiency, and better relationships between governmental 
units and the Federal Government. The principles are for determining 
allowable costs only. They are not intended to identify the 
circumstances or to dictate the extent of Federal and governmental unit 
participation in the financing of a particular Federal award. Provision 
for profit or other increment above cost is outside the scope of this 
part.


Sec.  225.25  Definitions.

    Definitions of key terms used in this part are contained in 
Appendix A to this part, Section B.


Sec.  225.30  OMB responsibilities.

    The Office of Management and Budget (OMB) will review agency 
regulations and implementation of this part, and will provide policy 
interpretations and assistance to insure effective and efficient 
implementation. Any exceptions will be subject to approval by OMB. 
Exceptions will only be made in particular cases where adequate 
justification is presented.


Sec.  225.35  Federal agency responsibilities.

    Agencies responsible for administering programs that involve cost 
reimbursement contracts, grants, and other agreements with governmental 
units shall issue regulations to implement the provisions of this part 
and its appendices.


Sec.  225.40  Effective date of changes.

    This part is effective August 31, 2005.


Sec.  225.45  Relationship to previous issuance.

    (a) The guidance in this part previously was issued as OMB Circular

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A-87. Appendix A to this part contains the guidance that was in 
Attachment A (general principles) to the OMB circular; Appendix B 
contains the guidance that was in Attachment B (selected items of 
cost); Appendix C contains the information that was in Attachment C 
(state/local-wide central service cost allocation plans); Appendix D 
contains the guidance that was in Attachment D (public assistance cost 
allocation plans); and Appendix E contains the guidance that was in 
Attachment E (state and local indirect cost rate proposals).
    (b) This part supersedes OMB Circular A-87, as amended May 10, 
2004, which superseded Circular A-87, as amended and issued May 4, 
1995.


Sec.  225.50  Policy review date.

    This part will have a policy review three years from the date of 
issuance.


Sec.  225.55  Information contact.

    Further information concerning this part may be obtained by 
contacting the Office of Federal Financial Management, Financial 
Standards and Reporting Branch, Office of Management and Budget, 
Washington, DC 20503, telephone 202-395-3993.

Appendix A to Part 225--General Principles for Determining Allowable 
Costs

Table of Contents

A. Purpose and Scope
    1. Objectives
    2. Policy guides
    3. Application
B. Definitions
    1. Approval or authorization of the awarding or cognizant 
Federal agency
    2. Award
    3. Awarding agency
    4. Central service cost allocation plan
    5. Claim
    6. Cognizant agency
    7. Common rule
    8. Contract
    9. Cost
    10. Cost allocation plan
    11. Cost objective
    12. Federally-recognized Indian tribal government
    13. Governmental unit
    14. Grantee department or agency
    15. Indirect cost rate proposal
    16. Local government
    17. Public assistance cost allocation plan
    18. State
C. Basic Guidelines
    1. Factors affecting allowability of costs
    2. Reasonable costs
    3. Allocable costs
    4. Applicable credits
D. Composition of Cost
    1. Total cost
    2. Classification of costs
E. Direct Costs
    1. General
    2. Application
    3. Minor items
F. Indirect Costs
    1. General
    2. Cost allocation plans and indirect cost proposals
    3. Limitation on indirect or administrative costs
G. Interagency Services
H. Required Certifications
General Principles for Determining Allowable Costs

    A. Purpose and Scope
    1. Objectives. This Appendix establishes principles for 
determining the allowable costs incurred by State, local, and 
federally-recognized Indian tribal governments (governmental units) 
under grants, cost reimbursement contracts, and other agreements 
with the Federal Government (collectively referred to in this 
appendix and other appendices to 2 CFR part 225 as ``Federal 
awards''). The principles are for the purpose of cost determination 
and are not intended to identify the circumstances or dictate the 
extent of Federal or governmental unit participation in the 
financing of a particular program or project. The principles are 
designed to provide that Federal awards bear their fair share of 
cost recognized under these principles except where restricted or 
prohibited by law. Provision for profit or other increment above 
cost is outside the scope of 2 CFR part 225.
    2. Policy guides.
    a. The application of these principles is based on the 
fundamental premises that:
    (1) Governmental units are responsible for the efficient and 
effective administration of Federal awards through the application 
of sound management practices.
    (2) Governmental units assume responsibility for administering 
Federal funds in a manner consistent with underlying agreements, 
program objectives, and the terms and conditions of the Federal 
award.
    (3) Each governmental unit, in recognition of its own unique 
combination of staff, facilities, and experience, will have the 
primary responsibility for employing whatever form of organization 
and management techniques may be necessary to assure proper and 
efficient administration of Federal awards.
    b. Federal agencies should work with States or localities which 
wish to test alternative mechanisms for paying costs for 
administering Federal programs. The Office of Management and Budget 
(OMB) encourages Federal agencies to test fee-for-service 
alternatives as a replacement for current cost-reimbursement payment 
methods in response to the National Performance Review's (NPR) 
recommendation. The NPR recommended the fee-for-service approach to 
reduce the burden associated with maintaining systems for charging 
administrative costs to Federal programs and preparing and approving 
cost allocation plans. This approach should also increase incentives 
for administrative efficiencies and improve outcomes.
    3. Application.
    a. These principles will be applied by all Federal agencies in 
determining costs incurred by governmental units under Federal 
awards (including subawards) except those with (1) publicly-financed 
educational institutions subject to, 2 CFR part 220, Cost Principles 
for Educational Institutions (OMB Circular A-21), and (2) programs 
administered by publicly-owned hospitals and other providers of 
medical care that are subject to requirements promulgated by the 
sponsoring Federal agencies. However, 2 CFR part 225 does apply to 
all central service and department/agency costs that are allocated 
or billed to those educational institutions, hospitals, and other 
providers of medical care or services by other State and local 
government departments and agencies.
    b. All subawards are subject to those Federal cost principles 
applicable to the particular organization concerned. Thus, if a 
subaward is to a governmental unit (other than a college, university 
or hospital), 2 CFR part 225 shall apply; if a subaward is to a 
commercial organization, the cost principles applicable to 
commercial organizations shall apply; if a subaward is to a college 
or university, 2 CFR part 220 (Circular A-21) shall apply; if a 
subaward is to a hospital, the cost principles used by the Federal 
awarding agency for awards to hospitals shall apply, subject to the 
provisions of subsection A.3.a. of this Appendix; if a subaward is 
to some other non-profit organization, 2 CFR part 230, Cost 
Principles for Non-Profit Organizations (Circular A-122), shall 
apply.
    c. These principles shall be used as a guide in the pricing of 
fixed price arrangements where costs are used in determining the 
appropriate price.
    d. Where a Federal contract awarded to a governmental unit 
incorporates a Cost Accounting Standards (CAS) clause, the 
requirements of that clause shall apply. In such cases, the 
governmental unit and the cognizant Federal agency shall establish 
an appropriate advance agreement on how the governmental unit will 
comply with applicable CAS requirements when estimating, 
accumulating and reporting costs under CAS-covered contracts. The 
agreement shall indicate that 2 CFR part 225 (OMB Circular A-87) 
requirements will be applied to other Federal awards. In all cases, 
only one set of records needs to be maintained by the governmental 
unit.
    e. Conditional exemptions.
    (1) OMB authorizes conditional exemption from OMB administrative 
requirements and cost principles for certain Federal programs with 
statutorily-authorized consolidated planning and consolidated 
administrative funding, that are identified by a Federal agency and 
approved by the head of the Executive department or establishment. A 
Federal agency shall consult with OMB during its consideration of 
whether to grant such an exemption.
    (2) To promote efficiency in State and local program 
administration, when Federal non-entitlement programs with common 
purposes have specific statutorily-authorized consolidated planning 
and consolidated administrative funding and where most of the State 
agency's resources come from non-Federal sources, Federal agencies 
may exempt these covered State-administered, non-entitlement grant 
programs from certain OMB grants management requirements. The

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exemptions would be from all but the allocability of costs 
provisions of Appendix A subsection C.3 of 2 CFR part 225, Cost 
Principles for State, Local, and Indian Tribal Governments (OMB 
Circular A-87); Appendix A, Section C.4 of 2 CFR 220, Cost 
Principles for Educational Institutions (Circular A-21); Appendix A, 
subsection A.4 of 2 CFR 230 Cost Principles for Non-Profit 
Organizations (Circular A-122); and from all of the administrative 
requirements provisions of 2 CFR part 215, Uniform Administrative 
Requirements for Grants and Agreements with Institutions of Higher 
Education, Hospitals, and Other Non-Profit Organizations (Circular 
A-110), and the agencies' grants management common rule.
    (3) When a Federal agency provides this flexibility, as a 
prerequisite to a State's exercising this option, a State must adopt 
its own written fiscal and administrative requirements for expending 
and accounting for all funds, which are consistent with the 
provisions of 2 CFR part 225 (OMB Circular A-87), and extend such 
policies to all subrecipients. These fiscal and administrative 
requirements must be sufficiently specific to ensure that: Funds are 
used in compliance with all applicable Federal statutory and 
regulatory provisions, costs are reasonable and necessary for 
operating these programs, and funds are not used for general 
expenses required to carry out other responsibilities of a State or 
its subrecipients.
    B. Definitions
    1. ``Approval or authorization of the awarding or cognizant 
Federal agency'' means documentation evidencing consent prior to 
incurring a specific cost. If such costs are specifically identified 
in a Federal award document, approval of the document constitutes 
approval of the costs. If the costs are covered by a State/local-
wide cost allocation plan or an indirect cost proposal, approval of 
the plan constitutes the approval.
    2. ``Award'' means grants, cost reimbursement contracts and 
other agreements between a State, local and Indian tribal government 
and the Federal Government.
    3. ``Awarding agency'' means (a) with respect to a grant, 
cooperative agreement, or cost reimbursement contract, the Federal 
agency, and (b) with respect to a subaward, the party that awarded 
the subaward.
    4. ``Central service cost allocation plan'' means the 
documentation identifying, accumulating, and allocating or 
developing billing rates based on the allowable costs of services 
provided by a governmental unit on a centralized basis to its 
departments and agencies. The costs of these services may be 
allocated or billed to users.
    5. ``Claim'' means a written demand or written assertion by the 
governmental unit or grantor seeking, as a matter of right, the 
payment of money in a sum certain, the adjustment or interpretation 
of award terms, or other relief arising under or relating to the 
award. A voucher, invoice or other routine request for payment that 
is not a dispute when submitted is not a claim. Appeals, such as 
those filed by a governmental unit in response to questioned audit 
costs, are not considered claims until a final management decision 
is made by the Federal awarding agency.
    6. ``Cognizant agency'' means the Federal agency responsible for 
reviewing, negotiating, and approving cost allocation plans or 
indirect cost proposals developed under 2 CFR part 225 on behalf of 
all Federal agencies. OMB publishes a listing of cognizant agencies.
    7. ``Common Rule'' means the ``Uniform Administrative 
Requirements for Grants and Cooperative Agreements to State and 
Local Governments; Final Rule'' originally issued at 53 FR 8034-8103 
(March 11, 1988). Other common rules will be referred to by their 
specific titles.
    8. ``Contract'' means a mutually binding legal relationship 
obligating the seller to furnish the supplies or services (including 
construction) and the buyer to pay for them. It includes all types 
of commitments that obligate the government to an expenditure of 
appropriated funds and that, except as otherwise authorized, are in 
writing. In addition to bilateral instruments, contracts include 
(but are not limited to): Awards and notices of awards; job orders 
or task orders issued under basic ordering agreements; letter 
contracts; orders, such as purchase orders, under which the contract 
becomes effective by written acceptance or performance; and, 
bilateral contract modifications. Contracts do not include grants 
and cooperative agreements covered by 31 U.S.C. 6301 et seq.
    9. ``Cost'' means an amount as determined on a cash, accrual, or 
other basis acceptable to the Federal awarding or cognizant agency. 
It does not include transfers to a general or similar fund.
    10. ``Cost allocation plan'' means central service cost 
allocation plan, public assistance cost allocation plan, and 
indirect cost rate proposal. Each of these terms is further defined 
in this section.
    11. ``Cost objective'' means a function, organizational 
subdivision, contract, grant, or other activity for which cost data 
are needed and for which costs are incurred.
    12. ``Federally-recognized Indian tribal government'' means the 
governing body or a governmental agency of any Indian tribe, band, 
nation, or other organized group or community (including any native 
village as defined in Section 3 of the Alaska Native Claims 
Settlement Act, 85 Stat. 688) certified by the Secretary of the 
Interior as eligible for the special programs and services provided 
through the Bureau of Indian Affairs.
    13. ``Governmental unit'' means the entire State, local, or 
federally-recognized Indian tribal government, including any 
component thereof. Components of governmental units may function 
independently of the governmental unit in accordance with the term 
of the award.
    14. ``Grantee department or agency'' means the component of a 
State, local, or federally-recognized Indian tribal government which 
is responsible for the performance or administration of all or some 
part of a Federal award.
    15. ``Indirect cost rate proposal'' means the documentation 
prepared by a governmental unit or component thereof to substantiate 
its request for the establishment of an indirect cost rate as 
described in Appendix E of 2 CFR part 225.
    16. ``Local government'' means a county, municipality, city, 
town, township, local public authority, school district, special 
district, intrastate district, council of governments (whether or 
not incorporated as a non-profit corporation under State law), any 
other regional or interstate government entity, or any agency or 
instrumentality of a local government.
    17. ``Public assistance cost allocation plan'' means a narrative 
description of the procedures that will be used in identifying, 
measuring and allocating all administrative costs to all of the 
programs administered or supervised by State public assistance 
agencies as described in Appendix D of 2 CFR part 225.
    18. ``State'' means any of the several States of the United 
States, the District of Columbia, the Commonwealth of Puerto Rico, 
any territory or possession of the United States, or any agency or 
instrumentality of a State exclusive of local governments.
    C. Basic Guidelines
    1. Factors affecting allowability of costs. To be allowable 
under Federal awards, costs must meet the following general 
criteria:
    a. Be necessary and reasonable for proper and efficient 
performance and administration of Federal awards.
    b. Be allocable to Federal awards under the provisions of 2 CFR 
part 225.
    c. Be authorized or not prohibited under State or local laws or 
regulations.
    d. Conform to any limitations or exclusions set forth in these 
principles, Federal laws, terms and conditions of the Federal award, 
or other governing regulations as to types or amounts of cost items.
    e. Be consistent with policies, regulations, and procedures that 
apply uniformly to both Federal awards and other activities of the 
governmental unit.
    f. Be accorded consistent treatment. A cost may not be assigned 
to a Federal award as a direct cost if any other cost incurred for 
the same purpose in like circumstances has been allocated to the 
Federal award as an indirect cost.
    g. Except as otherwise provided for in 2 CFR part 225, be 
determined in accordance with generally accepted accounting 
principles.
    h. Not be included as a cost or used to meet cost sharing or 
matching requirements of any other Federal award in either the 
current or a prior period, except as specifically provided by 
Federal law or regulation.
    i. Be the net of all applicable credits.
    j. Be adequately documented.
    2. Reasonable costs. A cost is reasonable if, in its nature and 
amount, it does not exceed that which would be incurred by a prudent 
person under the circumstances prevailing at the time the decision 
was made to incur the cost. The question of reasonableness is 
particularly important when governmental units or components are 
predominately federally-funded. In determining reasonableness of a 
given cost, consideration shall be given to:
    a. Whether the cost is of a type generally recognized as 
ordinary and necessary for the operation of the governmental unit or 
the performance of the Federal award.

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    b. The restraints or requirements imposed by such factors as: 
Sound business practices; arm's-length bargaining; Federal, State 
and other laws and regulations; and, terms and conditions of the 
Federal award.
    c. Market prices for comparable goods or services.
    d. Whether the individuals concerned acted with prudence in the 
circumstances considering their responsibilities to the governmental 
unit, its employees, the public at large, and the Federal 
Government.
    e. Significant deviations from the established practices of the 
governmental unit which may unjustifiably increase the Federal 
award's cost.
    3. Allocable costs.
    a. A cost is allocable to a particular cost objective if the 
goods or services involved are chargeable or assignable to such cost 
objective in accordance with relative benefits received.
    b. All activities which benefit from the governmental unit's 
indirect cost, including unallowable activities and services donated 
to the governmental unit by third parties, will receive an 
appropriate allocation of indirect costs.
    c. Any cost allocable to a particular Federal award or cost 
objective under the principles provided for in 2 CFR part 225 may 
not be charged to other Federal awards to overcome fund 
deficiencies, to avoid restrictions imposed by law or terms of the 
Federal awards, or for other reasons.
    d. Where an accumulation of indirect costs will ultimately 
result in charges to a Federal award, a cost allocation plan will be 
required as described in Appendices C, D, and E to this part.
    4. Applicable credits.
    a. Applicable credits refer to those receipts or reduction of 
expenditure-type transactions that offset or reduce expense items 
allocable to Federal awards as direct or indirect costs. Examples of 
such transactions are: Purchase discounts, rebates or allowances, 
recoveries or indemnities on losses, insurance refunds or rebates, 
and adjustments of overpayments or erroneous charges. To the extent 
that such credits accruing to or received by the governmental unit 
relate to allowable costs, they shall be credited to the Federal 
award either as a cost reduction or cash refund, as appropriate.
    b. In some instances, the amounts received from the Federal 
Government to finance activities or service operations of the 
governmental unit should be treated as applicable credits. 
Specifically, the concept of netting such credit items (including 
any amounts used to meet cost sharing or matching requirements) 
should be recognized in determining the rates or amounts to be 
charged to Federal awards. (See Appendix B to this part, item 11, 
``Depreciation and use allowances,'' for areas of potential 
application in the matter of Federal financing of activities.)
    D. Composition of Cost
    1. Total cost. The total cost of Federal awards is comprised of 
the allowable direct cost of the program, plus its allocable portion 
of allowable indirect costs, less applicable credits.
    2. Classification of costs. There is no universal rule for 
classifying certain costs as either direct or indirect under every 
accounting system. A cost may be direct with respect to some 
specific service or function, but indirect with respect to the 
Federal award or other final cost objective. Therefore, it is 
essential that each item of cost be treated consistently in like 
circumstances either as a direct or an indirect cost. Guidelines for 
determining direct and indirect costs charged to Federal awards are 
provided in the sections that follow.
    E. Direct Costs
    1. General. Direct costs are those that can be identified 
specifically with a particular final cost objective.
    2. Application. Typical direct costs chargeable to Federal 
awards are:
    a. Compensation of employees for the time devoted and identified 
specifically to the performance of those awards.
    b. Cost of materials acquired, consumed, or expended 
specifically for the purpose of those awards.
    c. Equipment and other approved capital expenditures.
    d. Travel expenses incurred specifically to carry out the award.
    3. Minor items. Any direct cost of a minor amount may be treated 
as an indirect cost for reasons of practicality where such 
accounting treatment for that item of cost is consistently applied 
to all cost objectives.
    F. Indirect Costs
    1. General. Indirect costs are those: Incurred for a common or 
joint purpose benefiting more than one cost objective, and not 
readily assignable to the cost objectives specifically benefitted, 
without effort disproportionate to the results achieved. The term 
``indirect costs,'' as used herein, applies to costs of this type 
originating in the grantee department, as well as those incurred by 
other departments in supplying goods, services, and facilities. To 
facilitate equitable distribution of indirect expenses to the cost 
objectives served, it may be necessary to establish a number of 
pools of indirect costs within a governmental unit department or in 
other agencies providing services to a governmental unit department. 
Indirect cost pools should be distributed to benefitted cost 
objectives on bases that will produce an equitable result in 
consideration of relative benefits derived.
    2. Cost allocation plans and indirect cost proposals. 
Requirements for development and submission of cost allocation plans 
and indirect cost rate proposals are contained in Appendices C, D, 
and E to this part.
    3. Limitation on indirect or administrative costs.
    a. In addition to restrictions contained in 2 CFR part 225, 
there may be laws that further limit the amount of administrative or 
indirect cost allowed.
    b. Amounts not recoverable as indirect costs or administrative 
costs under one Federal award may not be shifted to another Federal 
award, unless specifically authorized by Federal legislation or 
regulation.
    G. Interagency Services. The cost of services provided by one 
agency to another within the governmental unit may include allowable 
direct costs of the service plus a pro rate share of indirect costs. 
A standard indirect cost allowance equal to ten percent of the 
direct salary and wage cost of providing the service (excluding 
overtime, shift premiums, and fringe benefits) may be used in lieu 
of determining the actual indirect costs of the service. These 
services do not include centralized services included in central 
service cost allocation plans as described in Appendix C to this 
part.
    H. Required Certifications. Each cost allocation plan or 
indirect cost rate proposal required by Appendices C and E to this 
part must comply with the following:
    1. No proposal to establish a cost allocation plan or an 
indirect cost rate, whether submitted to a Federal cognizant agency 
or maintained on file by the governmental unit, shall be acceptable 
unless such costs have been certified by the governmental unit using 
the Certificate of Cost Allocation Plan or Certificate of Indirect 
Costs as set forth in Appendices C and E to this part. The 
certificate must be signed on behalf of the governmental unit by an 
individual at a level no lower than chief financial officer of the 
governmental unit that submits the proposal or component covered by 
the proposal.
    2. No cost allocation plan or indirect cost rate shall be 
approved by the Federal Government unless the plan or rate proposal 
has been certified. Where it is necessary to establish a cost 
allocation plan or an indirect cost rate and the governmental unit 
has not submitted a certified proposal for establishing such a plan 
or rate in accordance with the requirements, the Federal Government 
may either disallow all indirect costs or unilaterally establish 
such a plan or rate. Such a plan or rate may be based upon audited 
historical data or such other data that have been furnished to the 
cognizant Federal agency and for which it can be demonstrated that 
all unallowable costs have been excluded. When a cost allocation 
plan or indirect cost rate is unilaterally established by the 
Federal Government because of failure of the governmental unit to 
submit a certified proposal, the plan or rate established will be 
set to ensure that potentially unallowable costs will not be 
reimbursed.

Appendix B to Part 225--Selected Items of Cost

Table of Contents

1. Advertising and public relations costs
2. Advisory councils
3. Alcoholic beverages
4. Audit costs and related services
5. Bad debts
6. Bonding costs
7. Communication costs
8. Compensation for personal services
9. Contingency provisions
10. Defense and prosecution of criminal and civil proceedings, and 
claims
11. Depreciation and use allowances
12. Donations and contributions
13. Employee morale, health, and welfare costs
14. Entertainment costs
15. Equipment and other capital expenditures
16. Fines and penalties
17. Fund raising and investment management costs
18. Gains and losses on disposition of depreciable property and 
other capital

[[Page 51914]]

assets and substantial relocation of Federal programs
19. General government expenses
20. Goods or services for personal use
21. Idle facilities and idle capacity
22. Insurance and indemnification
23. Interest
24. Lobbying
25. Maintenance, operations, and repairs
26. Materials and supplies costs
27. Meetings and conferences
28. Memberships, subscriptions, and professional activity costs
29. Patent costs
30. Plant and homeland security costs
31. Pre-award costs
32. Professional service costs
33. Proposal costs
34. Publication and printing costs
35. Rearrangement and alteration costs
36. Reconversion costs
37. Rental costs of building and equipment
38. Royalties and other costs for the use of patents
39. Selling and marketing
40. Taxes
41. Termination costs applicable to sponsored agreements
42. Training costs
43. Travel costs

    Sections 1 through 43 provide principles to be applied in 
establishing the allowability or unallowability of certain items of 
cost. These principles apply whether a cost is treated as direct or 
indirect. A cost is allowable for Federal reimbursement only to the 
extent of benefits received by Federal awards and its conformance 
with the general policies and principles stated in Appendix A to 
this part. Failure to mention a particular item of cost in these 
sections is not intended to imply that it is either allowable or 
unallowable; rather, determination of allowability in each case 
should be based on the treatment or standards provided for similar 
or related items of cost.
    1. Advertising and public relations costs.
    a. The term advertising costs means the costs of advertising 
media and corollary administrative costs. Advertising media include 
magazines, newspapers, radio and television, direct mail, exhibits, 
electronic or computer transmittals, and the like.
    b. The term public relations includes community relations and 
means those activities dedicated to maintaining the image of the 
governmental unit or maintaining or promoting understanding and 
favorable relations with the community or public at large or any 
segment of the public.
    c. The only allowable advertising costs are those which are 
solely for:
    (1) The recruitment of personnel required for the performance by 
the governmental unit of obligations arising under a Federal award;
    (2) The procurement of goods and services for the performance of 
a Federal award;
    (3) The disposal of scrap or surplus materials acquired in the 
performance of a Federal award except when governmental units are 
reimbursed for disposal costs at a predetermined amount; or
    (4) Other specific purposes necessary to meet the requirements 
of the Federal award.
    d. The only allowable public relations costs are:
    (1) Costs specifically required by the Federal award;
    (2) Costs of communicating with the public and press pertaining 
to specific activities or accomplishments which result from 
performance of Federal awards (these costs are considered necessary 
as part of the outreach effort for the Federal award); or
    (3) Costs of conducting general liaison with news media and 
government public relations officers, to the extent that such 
activities are limited to communication and liaison necessary keep 
the public informed on matters of public concern, such as notices of 
Federal contract/grant awards, financial matters, etc.
    e. Costs identified in subsections c and d if incurred for more 
than one Federal award or for both sponsored work and other work of 
the governmental unit, are allowable to the extent that the 
principles in Appendix A to this part, sections E. (``Direct 
Costs'') and F. (``Indirect Costs'') are observed.
    f. Unallowable advertising and public relations costs include 
the following:
    (1) All advertising and public relations costs other than as 
specified in subsections 1.c, d, and e of this appendix;
    (2) Costs of meetings, conventions, convocations, or other 
events related to other activities of the governmental unit, 
including:
    (a) Costs of displays, demonstrations, and exhibits;
    (b) Costs of meeting rooms, hospitality suites, and other 
special facilities used in conjunction with shows and other special 
events; and
    (c) Salaries and wages of employees engaged in setting up and 
displaying exhibits, making demonstrations, and providing briefings;
    (3) Costs of promotional items and memorabilia, including 
models, gifts, and souvenirs;
    (4) Costs of advertising and public relations designed solely to 
promote the governmental unit.
    2. Advisory councils. Costs incurred by advisory councils or 
committees are allowable as a direct cost where authorized by the 
Federal awarding agency or as an indirect cost where allocable to 
Federal awards.
    3. Alcoholic beverages. Costs of alcoholic beverages are 
unallowable.
    4. Audit costs and related services.
    a. The costs of audits required by , and performed in accordance 
with, the Single Audit Act, as implemented by Circular A-133, 
``Audits of States, Local Governments, and Non-Profit 
Organizations'' are allowable. Also see 31 U.S.C. 7505(b) and 
section 230 (``Audit Costs'') of Circular A-133.
    b. Other audit costs are allowable if included in a cost 
allocation plan or indirect cost proposal, or if specifically 
approved by the awarding agency as a direct cost to an award.
    c. The cost of agreed-upon procedures engagements to monitor 
subrecipients who are exempted from A-133 under section 200(d) are 
allowable, subject to the conditions listed in A-133, section 230 
(b)(2).
    5. Bad debts. Bad debts, including losses (whether actual or 
estimated) arising from uncollectable accounts and other claims, 
related collection costs, and related legal costs, are unallowable.
    6. Bonding costs.
    a. Bonding costs arise when the Federal Government requires 
assurance against financial loss to itself or others by reason of 
the act or default of the governmental unit. They arise also in 
instances where the governmental unit requires similar assurance. 
Included are such bonds as bid, performance, payment, advance 
payment, infringement, and fidelity bonds.
    b. Costs of bonding required pursuant to the terms of the award 
are allowable.
    c. Costs of bonding required by the governmental unit in the 
general conduct of its operations are allowable to the extent that 
such bonding is in accordance with sound business practice and the 
rates and premiums are reasonable under the circumstances.
    7. Communication costs. Costs incurred for telephone services, 
local and long distance telephone calls, telegrams, postage, 
messenger, electronic or computer transmittal services and the like 
are allowable.
    8. Compensation for personal services.
    a. General. Compensation for personnel services includes all 
remuneration, paid currently or accrued, for services rendered 
during the period of performance under Federal awards, including but 
not necessarily limited to wages, salaries, and fringe benefits. The 
costs of such compensation are allowable to the extent that they 
satisfy the specific requirements of this and other appendices under 
2 CFR Part 225, and that the total compensation for individual 
employees:
    (1) Is reasonable for the services rendered and conforms to the 
established policy of the governmental unit consistently applied to 
both Federal and non-Federal activities;
    (2) Follows an appointment made in accordance with a 
governmental unit's laws and rules and meets merit system or other 
requirements required by Federal law, where applicable; and
    (3) Is determined and supported as provided in subsection h.
    b. Reasonableness. Compensation for employees engaged in work on 
Federal awards will be considered reasonable to the extent that it 
is consistent with that paid for similar work in other activities of 
the governmental unit. In cases where the kinds of employees 
required for Federal awards are not found in the other activities of 
the governmental unit, compensation will be considered reasonable to 
the extent that it is comparable to that paid for similar work in 
the labor market in which the employing government competes for the 
kind of employees involved. Compensation surveys providing data 
representative of the labor market involved will be an acceptable 
basis for evaluating reasonableness.
    c. Unallowable costs. Costs which are unallowable under other 
sections of these principles shall not be allowable under this 
section solely on the basis that they constitute personnel 
compensation.
    d. Fringe benefits.
    (1) Fringe benefits are allowances and services provided by 
employers to their

[[Page 51915]]

employees as compensation in addition to regular salaries and wages. 
Fringe benefits include, but are not limited to, the costs of leave, 
employee insurance, pensions, and unemployment benefit plans. Except 
as provided elsewhere in these principles, the costs of fringe 
benefits are allowable to the extent that the benefits are 
reasonable and are required by law, governmental unit-employee 
agreement, or an established policy of the governmental unit.
    (2) The cost of fringe benefits in the form of regular 
compensation paid to employees during periods of authorized absences 
from the job, such as for annual leave, sick leave, holidays, court 
leave, military leave, and other similar benefits, are allowable if: 
They are provided under established written leave policies; the 
costs are equitably allocated to all related activities, including 
Federal awards; and, the accounting basis (cash or accrual) selected 
for costing each type of leave is consistently followed by the 
governmental unit.
    (3) When a governmental unit uses the cash basis of accounting, 
the cost of leave is recognized in the period that the leave is 
taken and paid for. Payments for unused leave when an employee 
retires or terminates employment are allowable in the year of 
payment provided they are allocated as a general administrative 
expense to all activities of the governmental unit or component.
    (4) The accrual basis may be only used for those types of leave 
for which a liability as defined by Generally Accepted Accounting 
Principles (GAAP) exists when the leave is earned. When a 
governmental unit uses the accrual basis of accounting, in 
accordance with GAAP, allowable leave costs are the lesser of the 
amount accrued or funded.
    (5) The cost of fringe benefits in the form of employer 
contributions or expenses for social security; employee life, 
health, unemployment, and worker's compensation insurance (except as 
indicated in section 22, Insurance and indemnification); pension 
plan costs (see subsection e.); and other similar benefits are 
allowable, provided such benefits are granted under established 
written policies. Such benefits, whether treated as indirect costs 
or as direct costs, shall be allocated to Federal awards and all 
other activities in a manner consistent with the pattern of benefits 
attributable to the individuals or group(s) of employees whose 
salaries and wages are chargeable to such Federal awards and other 
activities.
    e. Pension plan costs. Pension plan costs may be computed using 
a pay-as-you-go method or an acceptable actuarial cost method in 
accordance with established written policies of the governmental 
unit.
    (1) For pension plans financed on a pay-as-you-go method, 
allowable costs will be limited to those representing actual 
payments to retirees or their beneficiaries.
    (2) Pension costs calculated using an actuarial cost-based 
method recognized by GAAP are allowable for a given fiscal year if 
they are funded for that year within six months after the end of 
that year. Costs funded after the six month period (or a later 
period agreed to by the cognizant agency) are allowable in the year 
funded. The cognizant agency may agree to an extension of the six 
month period if an appropriate adjustment is made to compensate for 
the timing of the charges to the Federal Government and related 
Federal reimbursement and the governmental unit's contribution to 
the pension fund. Adjustments may be made by cash refund or other 
equitable procedures to compensate the Federal Government for the 
time value of Federal reimbursements in excess of contributions to 
the pension fund.
    (3) Amounts funded by the governmental unit in excess of the 
actuarially determined amount for a fiscal year may be used as the 
governmental unit's contribution in future periods.
    (4) When a governmental unit converts to an acceptable actuarial 
cost method, as defined by GAAP, and funds pension costs in 
accordance with this method, the unfunded liability at the time of 
conversion shall be allowable if amortized over a period of years in 
accordance with GAAP.
    (5) The Federal Government shall receive an equitable share of 
any previously allowed pension costs (including earnings thereon) 
which revert or inure to the governmental unit in the form of a 
refund, withdrawal, or other credit.
    f. Post-retirement health benefits. Post-retirement health 
benefits (PRHB) refers to costs of health insurance or health 
services not included in a pension plan covered by subsection 8.e. 
of this appendix for retirees and their spouses, dependents, and 
survivors. PRHB costs may be computed using a pay-as-you-go method 
or an acceptable actuarial cost method in accordance with 
established written polices of the governmental unit.
    (1) For PRHB financed on a pay as-you-go method, allowable costs 
will be limited to those representing actual payments to retirees or 
their beneficiaries.
    (2) PRHB costs calculated using an actuarial cost method 
recognized by GAAP are allowable if they are funded for that year 
within six months after the end of that year. Costs funded after the 
six month period (or a later period agreed to by the cognizant 
agency) are allowable in the year funded. The cognizant agency may 
agree to an extension of the six month period if an appropriate 
adjustment is made to compensate for the timing of the charges to 
the Federal Government and related Federal reimbursements and the 
governmental unit's contributions to the PRHB fund. Adjustments may 
be made by cash refund, reduction in current year's PRHB costs, or 
other equitable procedures to compensate the Federal Government for 
the time value of Federal reimbursements in excess of contributions 
to the PRHB fund.
    (3) Amounts funded in excess of the actuarially determined 
amount for a fiscal year may be used as the government's 
contribution in a future period.
    (4) When a governmental unit converts to an acceptable actuarial 
cost method and funds PRHB costs in accordance with this method, the 
initial unfunded liability attributable to prior years shall be 
allowable if amortized over a period of years in accordance with 
GAAP, or, if no such GAAP period exists, over a period negotiated 
with the cognizant agency.
    (5) To be allowable in the current year, the PRHB costs must be 
paid either to:
    (a) An insurer or other benefit provider as current year costs 
or premiums, or
    (b) An insurer or trustee to maintain a trust fund or reserve 
for the sole purpose of providing post-retirement benefits to 
retirees and other beneficiaries.
    (6) The Federal Government shall receive an equitable share of 
any amounts of previously allowed post-retirement benefit costs 
(including earnings thereon) which revert or inure to the 
governmental unit in the form of a refund, withdrawal, or other 
credit.
    g. Severance pay.
    (1) Payments in addition to regular salaries and wages made to 
workers whose employment is being terminated are allowable to the 
extent that, in each case, they are required by law, employer-
employee agreement, or established written policy.
    (2) Severance payments (but not accruals) associated with normal 
turnover are allowable. Such payments shall be allocated to all 
activities of the governmental unit as an indirect cost.
    (3) Abnormal or mass severance pay will be considered on a case-
by-case basis and is allowable only if approved by the cognizant 
Federal agency.
    h. Support of salaries and wages. These standards regarding time 
distribution are in addition to the standards for payroll 
documentation.
    (1) Charges to Federal awards for salaries and wages, whether 
treated as direct or indirect costs, will be based on payrolls 
documented in accordance with generally accepted practice of the 
governmental unit and approved by a responsible official(s) of the 
governmental unit.
    (2) No further documentation is required for the salaries and 
wages of employees who work in a single indirect cost activity.
    (3) Where employees are expected to work solely on a single 
Federal award or cost objective, charges for their salaries and 
wages will be supported by periodic certifications that the 
employees worked solely on that program for the period covered by 
the certification. These certifications will be prepared at least 
semi-annually and will be signed by the employee or supervisory 
official having first hand knowledge of the work performed by the 
employee.
    (4) Where employees work on multiple activities or cost 
objectives, a distribution of their salaries or wages will be 
supported by personnel activity reports or equivalent documentation 
which meets the standards in subsection 8.h.(5) of this appendix 
unless a statistical sampling system (see subsection 8.h.(6) of this 
appendix) or other substitute system has been approved by the 
cognizant Federal agency. Such documentary support will be required 
where employees work on:
    (a) More than one Federal award,
    (b) A Federal award and a non-Federal award,
    (c) An indirect cost activity and a direct cost activity,
    (d) Two or more indirect activities which are allocated using 
different allocation bases, or
    (e) An unallowable activity and a direct or indirect cost 
activity.

[[Page 51916]]

    (5) Personnel activity reports or equivalent documentation must 
meet the following standards:
    (a) They must reflect an after-the-fact distribution of the 
actual activity of each employee,
    (b) They must account for the total activity for which each 
employee is compensated,
    (c) They must be prepared at least monthly and must coincide 
with one or more pay periods, and
    (d) They must be signed by the employee.
    (e) Budget estimates or other distribution percentages 
determined before the services are performed do not qualify as 
support for charges to Federal awards but may be used for interim 
accounting purposes, provided that:
    (i) The governmental unit's system for establishing the 
estimates produces reasonable approximations of the activity 
actually performed;
    (ii) At least quarterly, comparisons of actual costs to budgeted 
distributions based on the monthly activity reports are made. Costs 
charged to Federal awards to reflect adjustments made as a result of 
the activity actually performed may be recorded annually if the 
quarterly comparisons show the differences between budgeted and 
actual costs are less than ten percent; and
    (iii) The budget estimates or other distribution percentages are 
revised at least quarterly, if necessary, to reflect changed 
circumstances.
    (6) Substitute systems for allocating salaries and wages to 
Federal awards may be used in place of activity reports. These 
systems are subject to approval if required by the cognizant agency. 
Such systems may include, but are not limited to, random moment 
sampling, case counts, or other quantifiable measures of employee 
effort.
    (a) Substitute systems which use sampling methods (primarily for 
Temporary Assistance to Needy Families (TANF), Medicaid, and other 
public assistance programs) must meet acceptable statistical 
sampling standards including:
    (i) The sampling universe must include all of the employees 
whose salaries and wages are to be allocated based on sample results 
except as provided in subsection 8.h.(6)(c) of this appendix;
    (ii) The entire time period involved must be covered by the 
sample; and
    (iii) The results must be statistically valid and applied to the 
period being sampled.
    (b) Allocating charges for the sampled employees' supervisors, 
clerical and support staffs, based on the results of the sampled 
employees, will be acceptable.
    (c) Less than full compliance with the statistical sampling 
standards noted in subsection 8.h.(6)(a) of this appendix may be 
accepted by the cognizant agency if it concludes that the amounts to 
be allocated to Federal awards will be minimal, or if it concludes 
that the system proposed by the governmental unit will result in 
lower costs to Federal awards than a system which complies with the 
standards.
    (7) Salaries and wages of employees used in meeting cost sharing 
or matching requirements of Federal awards must be supported in the 
same manner as those claimed as allowable costs under Federal 
awards.
    i. Donated services.
    (1) Donated or volunteer services may be furnished to a 
governmental unit by professional and technical personnel, 
consultants, and other skilled and unskilled labor. The value of 
these services is not reimbursable either as a direct or indirect 
cost. However, the value of donated services may be used to meet 
cost sharing or matching requirements in accordance with the 
provisions of the Common Rule.
    (2) The value of donated services utilized in the performance of 
a direct cost activity shall, when material in amount, be considered 
in the determination of the governmental unit's indirect costs or 
rate(s) and, accordingly, shall be allocated a proportionate share 
of applicable indirect costs.
    (3) To the extent feasible, donated services will be supported 
by the same methods used by the governmental unit to support the 
allocability of regular personnel services.
    9. Contingency provisions. Contributions to a contingency 
reserve or any similar provision made for events the occurrence of 
which cannot be foretold with certainty as to time, intensity, or 
with an assurance of their happening, are unallowable. The term 
``contingency reserve'' excludes self-insurance reserves (see 
section 22.c. of this appendix), pension plan reserves (see section 
8.e.), and post-retirement health and other benefit reserves 
(section 8.f.) computed using acceptable actuarial cost methods.
    10. Defense and prosecution of criminal and civil proceedings, 
and claims.
    a. The following costs are unallowable for contracts covered by 
10 U.S.C. 2324(k), ``Allowable costs under defense contracts.''
    (1) Costs incurred in defense of any civil or criminal fraud 
proceeding or similar proceeding (including filing of false 
certification brought by the United States where the contractor is 
found liable or has pleaded nolo contendere to a charge of fraud or 
similar proceeding (including filing of a false certification).
    (2) Costs incurred by a contractor in connection with any 
criminal, civil or administrative proceedings commenced by the 
United States or a State to the extent provided in 10 U.S.C. 
2324(k).
    b. Legal expenses required in the administration of Federal 
programs are allowable. Legal expenses for prosecution of claims 
against the Federal Government are unallowable.
    11. Depreciation and use allowances.
    a. Depreciation and use allowances are means of allocating the 
cost of fixed assets to periods benefiting from asset use. 
Compensation for the use of fixed assets on hand may be made through 
depreciation or use allowances. A combination of the two methods may 
not be used in connection with a single class of fixed assets (e.g., 
buildings, office equipment, computer equipment, etc.) except as 
provided for in subsection g. Except for enterprise funds and 
internal service funds that are included as part of a State/local 
cost allocation plan, classes of assets shall be determined on the 
same basis used for the government-wide financial statements.
    b. The computation of depreciation or use allowances shall be 
based on the acquisition cost of the assets involved. Where actual 
cost records have not been maintained, a reasonable estimate of the 
original acquisition cost may be used. The value of an asset donated 
to the governmental unit by an unrelated third party shall be its 
fair market value at the time of donation. Governmental or quasi-
governmental organizations located within the same State shall not 
be considered unrelated third parties for this purpose.
    c. The computation of depreciation or use allowances will 
exclude:
    (1) The cost of land;
    (2) Any portion of the cost of buildings and equipment borne by 
or donated by the Federal Government irrespective of where title was 
originally vested or where it presently resides; and
    (3) Any portion of the cost of buildings and equipment 
contributed by or for the governmental unit, or a related donor 
organization, in satisfaction of a matching requirement.
    d. Where the depreciation method is followed, the following 
general criteria apply:
    (1) The period of useful service (useful life) established in 
each case for usable capital assets must take into consideration 
such factors as type of construction, nature of the equipment used, 
historical usage patterns, technological developments, and the 
renewal and replacement policies of the governmental unit followed 
for the individual items or classes of assets involved. In the 
absence of clear evidence indicating that the expected consumption 
of the asset will be significantly greater in the early portions 
than in the later portions of its useful life, the straight line 
method of depreciation shall be used.
    (2) Depreciation methods once used shall not be changed unless 
approved by the Federal cognizant or awarding agency. When the 
depreciation method is introduced for application to an asset 
previously subject to a use allowance, the annual depreciation 
charge thereon may not exceed the amount that would have resulted 
had the depreciation method been in effect from the date of 
acquisition of the asset. The combination of use allowances and 
depreciation applicable to the asset shall not exceed the total 
acquisition cost of the asset or fair market value at time of 
donation.
    e. When the depreciation method is used for buildings, a 
building's shell may be segregated from the major component of the 
building (e.g., plumbing system, heating, and air conditioning 
system, etc.) and each major component depreciated over its 
estimated useful life, or the entire building (i.e., the shell and 
all components) may be treated as a single asset and depreciated 
over a single useful life.
    f. Where the use allowance method is followed, the following 
general criteria apply:
    (1) The use allowance for buildings and improvements (including 
land improvements, such as paved parking areas, fences, and 
sidewalks) will be computed at an annual rate not exceeding two 
percent of acquisition costs.

[[Page 51917]]

    (2) The use allowance for equipment will be computed at an 
annual rate not exceeding 6\2/3\ percent of acquisition cost.
    (3) When the use allowance method is used for buildings, the 
entire building must be treated as a single asset; the building's 
components (e.g., plumbing system, heating and air condition, etc.) 
cannot be segregated from the building's shell. The two percent 
limitation, however, need not be applied to equipment which is 
merely attached or fastened to the building but not permanently 
fixed to it and which is used as furnishings or decorations or for 
specialized purposes (e.g., dentist chairs and dental treatment 
units, counters, laboratory benches bolted to the floor, 
dishwashers, modular furniture, carpeting, etc.). Such equipment 
will be considered as not being permanently fixed to the building if 
it can be removed without the destruction of, or need for costly or 
extensive alterations or repairs, to the building or the equipment. 
Equipment that meets these criteria will be subject to the 6\2/3\ 
percent equipment use allowance limitation.
    g. A reasonable use allowance may be negotiated for any assets 
that are considered to be fully depreciated, after taking into 
consideration the amount of depreciation previously charged to the 
government, the estimated useful life remaining at the time of 
negotiation, the effect of any increased maintenance charges, 
decreased efficiency due to age, and any other factors pertinent to 
the utilization of the asset for the purpose contemplated.
    h. Charges for use allowances or depreciation must be supported 
by adequate property records. Physical inventories must be taken at 
least once every two years (a statistical sampling approach is 
acceptable) to ensure that assets exist, and are in use. 
Governmental units will manage equipment in accordance with State 
laws and procedures. When the depreciation method is followed, 
depreciation records indicating the amount of depreciation taken 
each period must also be maintained.
    12. Donations and contributions.
     a. Contributions or donations rendered. Contributions or 
donations, including cash, property, and services, made by the 
governmental unit, regardless of the recipient, are unallowable.
    b. Donated services received:
    (1) Donated or volunteer services may be furnished to a 
governmental unit by professional and technical personnel, 
consultants, and other skilled and unskilled labor. The value of 
these services is not reimbursable either as a direct or indirect 
cost. However, the value of donated services may be used to meet 
cost sharing or matching requirements in accordance with the Federal 
Grants Management Common Rule.
    (2) The value of donated services utilized in the performance of 
a direct cost activity shall, when material in amount, be considered 
in the determination of the governmental unit's indirect costs or 
rate(s) and, accordingly, shall be allocated a proportionate share 
of applicable indirect costs.
    (3) To the extent feasible, donated services will be supported 
by the same methods used by the governmental unit to support the 
allocability of regular personnel services.
    13. Employee morale, health, and welfare costs.
    a. The costs of employee information publications, health or 
first-aid clinics and/or infirmaries, recreational activities, 
employee counseling services, and any other expenses incurred in 
accordance with the governmental unit's established practice or 
custom for the improvement of working conditions, employer-employee 
relations, employee morale, and employee performance are allowable.
    b. Such costs will be equitably apportioned to all activities of 
the governmental unit. Income generated from any of these activities 
will be offset against expenses.
    14. Entertainment. Costs of entertainment, including amusement, 
diversion, and social activities and any costs directly associated 
with such costs (such as tickets to shows or sports events, meals, 
lodging, rentals, transportation, and gratuities) are unallowable.
    15. Equipment and other capital expenditures.
    a. For purposes of this subsection 15, the following definitions 
apply:
    (1) ``Capital Expenditures'' means expenditures for the 
acquisition cost of capital assets (equipment, buildings, land), or 
expenditures to make improvements to capital assets that materially 
increase their value or useful life. Acquisition cost means the cost 
of the asset including the cost to put it in place. Acquisition cost 
for equipment, for example, means the net invoice price of the 
equipment, including the cost of any modifications, attachments, 
accessories, or auxiliary apparatus necessary to make it usable for 
the purpose for which it is acquired. Ancillary charges, such as 
taxes, duty, protective in transit insurance, freight, and 
installation may be included in, or excluded from the acquisition 
cost in accordance with the governmental unit's regular accounting 
practices.
    (2) ``Equipment'' means an article of nonexpendable, tangible 
personal property having a useful life of more than one year and an 
acquisition cost which equals or exceeds the lesser of the 
capitalization level established by the governmental unit for 
financial statement purposes, or $5000.
    (3) ``Special purpose equipment'' means equipment which is used 
only for research, medical, scientific, or other technical 
activities. Examples of special purpose equipment include 
microscopes, x-ray machines, surgical instruments, and 
spectrometers.
    (4) ``General purpose equipment'' means equipment, which is not 
limited to research, medical, scientific or other technical 
activities. Examples include office equipment and furnishings, 
modular offices, telephone networks, information technology 
equipment and systems, air conditioning equipment, reproduction and 
printing equipment, and motor vehicles.
    b. The following rules of allowability shall apply to equipment 
and other capital expenditures:
    (1) Capital expenditures for general purpose equipment, 
buildings, and land are unallowable as direct charges, except where 
approved in advance by the awarding agency.
    (2) Capital expenditures for special purpose equipment are 
allowable as direct costs, provided that items with a unit cost of 
$5000 or more have the prior approval of the awarding agency.
    (3) Capital expenditures for improvements to land, buildings, or 
equipment which materially increase their value or useful life are 
unallowable as a direct cost except with the prior approval of the 
awarding agency.
    (4) When approved as a direct charge pursuant to section 
15.b(1), (2), and (3)of this appendix, capital expenditures will be 
charged in the period in which the expenditure is incurred, or as 
otherwise determined appropriate and negotiated with the awarding 
agency. In addition, Federal awarding agencies are authorized at 
their option to waive or delegate the prior approval requirement.
    (5) Equipment and other capital expenditures are unallowable as 
indirect costs. However, see section 11 of this appendix, 
Depreciation and use allowance, for rules on the allowability of use 
allowances or depreciation on buildings, capital improvements, and 
equipment. Also, see section 37 of this appendix, Rental costs, 
concerning the allowability of rental costs for land, buildings, and 
equipment.
    (6) The unamortized portion of any equipment written off as a 
result of a change in capitalization levels may be recovered by 
continuing to claim the otherwise allowable use allowances or 
depreciation on the equipment, or by amortizing the amount to be 
written off over a period of years negotiated with the cognizant 
agency.
    (7) When replacing equipment purchased in whole or in part with 
Federal funds, the governmental unit may use the equipment to be 
replaced as a trade-in or sell the property and use the proceeds to 
offset the cost of the replacement property.
    16. Fines and penalties. Fines, penalties, damages, and other 
settlements resulting from violations (or alleged violations) of, or 
failure of the governmental unit to comply with, Federal, State, 
local, or Indian tribal laws and regulations are unallowable except 
when incurred as a result of compliance with specific provisions of 
the Federal award or written instructions by the awarding agency 
authorizing in advance such payments.
    17. Fund raising and investment management costs.
    a. Costs of organized fund raising, including financial 
campaigns, solicitation of gifts and bequests, and similar expenses 
incurred to raise capital or obtain contributions are unallowable, 
regardless of the purpose for which the funds will be used.
    b. Costs of investment counsel and staff and similar expenses 
incurred to enhance income from investments are unallowable. 
However, such costs associated with investments covering pension, 
self-insurance, or other funds which include Federal participation 
allowed by this and other appendices of 2 CFR part 225 are 
allowable.
    c. Fund raising and investment activities shall be allocated an 
appropriate share of indirect costs under the conditions described 
in subsection C.3.b. of Appendix A to this part.
    18. Gains and losses on disposition of depreciable property and 
other capital assets

[[Page 51918]]

and substantial relocation of Federal programs.
    a. (1) Gains and losses on the sale, retirement, or other 
disposition of depreciable property shall be included in the year in 
which they occur as credits or charges to the asset cost grouping(s) 
in which the property was included. The amount of the gain or loss 
to be included as a credit or charge to the appropriate asset cost 
grouping(s) shall be the difference between the amount realized on 
the property and the undepreciated basis of the property.
    (2) Gains and losses on the disposition of depreciable property 
shall not be recognized as a separate credit or charge under the 
following conditions:
    (a) The gain or loss is processed through a depreciation account 
and is reflected in the depreciation allowable under sections 11 and 
15 of this appendix.
    (b) The property is given in exchange as part of the purchase 
price of a similar item and the gain or loss is taken into account 
in determining the depreciation cost basis of the new item.
    (c) A loss results from the failure to maintain permissible 
insurance, except as otherwise provided in subsection 22.d of this 
appendix.
    (d) Compensation for the use of the property was provided 
through use allowances in lieu of depreciation.
    b. Substantial relocation of Federal awards from a facility 
where the Federal Government participated in the financing to 
another facility prior to the expiration of the useful life of the 
financed facility requires Federal agency approval. The extent of 
the relocation, the amount of the Federal participation in the 
financing, and the depreciation charged to date may require 
negotiation of space charges for Federal awards.
    c. Gains or losses of any nature arising from the sale or 
exchange of property other than the property covered in subsection 
18.a. of this appendix, e.g., land or included in the fair market 
value used in any adjustment resulting from a relocation of Federal 
awards covered in subsection b. shall be excluded in computing 
Federal award costs.
    19. General government expenses.
    a. The general costs of government are unallowable (except as 
provided in section 43 of this appendix, Travel costs). These 
include:
    (1) Salaries and expenses of the Office of the Governor of a 
State or the chief executive of a political subdivision or the chief 
executive of federally-recognized Indian tribal government;
    (2) Salaries and other expenses of a State legislature, tribal 
council, or similar local governmental body, such as a county 
supervisor, city council, school board, etc., whether incurred for 
purposes of legislation or executive direction;
    (3) Costs of the judiciary branch of a government;
    (4) Costs of prosecutorial activities unless treated as a direct 
cost to a specific program if authorized by program statute or 
regulation (however, this does not preclude the allowability of 
other legal activities of the Attorney General); and
    (5) Costs of other general types of government services normally 
provided to the general public, such as fire and police, unless 
provided for as a direct cost under a program statute or regulation.
    b. For federally-recognized Indian tribal governments and 
Councils Of Governments (COGs), the portion of salaries and expenses 
directly attributable to managing and operating Federal programs by 
the chief executive and his staff is allowable.
    20. Goods or services for personal use. Costs of goods or 
services for personal use of the governmental unit's employees are 
unallowable regardless of whether the cost is reported as taxable 
income to the employees.
    21. Idle facilities and idle capacity.
    As used in this section the following terms have the meanings 
set forth below:
    (1) ``Facilities'' means land and buildings or any portion 
thereof, equipment individually or collectively, or any other 
tangible capital asset, wherever located, and whether owned or 
leased by the governmental unit.
    (2) ``Idle facilities'' means completely unused facilities that 
are excess to the governmental unit's current needs.
    (3) ``Idle capacity'' means the unused capacity of partially 
used facilities. It is the difference between: that which a facility 
could achieve under 100 percent operating time on a one-shift basis 
less operating interruptions resulting from time lost for repairs, 
setups, unsatisfactory materials, and other normal delays; and the 
extent to which the facility was actually used to meet demands 
during the accounting period. A multi-shift basis should be used if 
it can be shown that this amount of usage would normally be expected 
for the type of facility involved.
    (4) ``Cost of idle facilities or idle capacity'' means costs 
such as maintenance, repair, housing, rent, and other related costs, 
e.g., insurance, interest, property taxes and depreciation or use 
allowances.
    b. The costs of idle facilities are unallowable except to the 
extent that:
    (1) They are necessary to meet fluctuations in workload; or
    (2) Although not necessary to meet fluctuations in workload, 
they were necessary when acquired and are now idle because of 
changes in program requirements, efforts to achieve more economical 
operations, reorganization, termination, or other causes which could 
not have been reasonably foreseen. Under the exception stated in 
this subsection, costs of idle facilities are allowable for a 
reasonable period of time, ordinarily not to exceed one year, 
depending on the initiative taken to use, lease, or dispose of such 
facilities.
    c. The costs of idle capacity are normal costs of doing business 
and are a factor in the normal fluctuations of usage or indirect 
cost rates from period to period. Such costs are allowable, provided 
that the capacity is reasonably anticipated to be necessary or was 
originally reasonable and is not subject to reduction or elimination 
by use on other Federal awards, subletting, renting, or sale, in 
accordance with sound business, economic, or security practices. 
Widespread idle capacity throughout an entire facility or among a 
group of assets having substantially the same function may be 
considered idle facilities.
    22. Insurance and indemnification.
    a. Costs of insurance required or approved and maintained, 
pursuant to the Federal award, are allowable.
    b. Costs of other insurance in connection with the general 
conduct of activities are allowable subject to the following 
limitations:
    (1) Types and extent and cost of coverage are in accordance with 
the governmental unit's policy and sound business practice.
    (2) Costs of insurance or of contributions to any reserve 
covering the risk of loss of, or damage to, Federal Government 
property are unallowable except to the extent that the awarding 
agency has specifically required or approved such costs.
    c. Actual losses which could have been covered by permissible 
insurance (through a self-insurance program or otherwise) are 
unallowable, unless expressly provided for in the Federal award or 
as described below. However, the Federal Government will participate 
in actual losses of a self insurance fund that are in excess of 
reserves. Costs incurred because of losses not covered under nominal 
deductible insurance coverage provided in keeping with sound 
management practice, and minor losses not covered by insurance, such 
as spoilage, breakage, and disappearance of small hand tools, which 
occur in the ordinary course of operations, are allowable.
    d. Contributions to a reserve for certain self-insurance 
programs including workers compensation, unemployment compensation, 
and severance pay are allowable subject to the following provisions:
    (1) The type of coverage and the extent of coverage and the 
rates and premiums would have been allowed had insurance (including 
reinsurance) been purchased to cover the risks. However, provision 
for known or reasonably estimated self-insured liabilities, which do 
not become payable for more than one year after the provision is 
made, shall not exceed the discounted present value of the 
liability. The rate used for discounting the liability must be 
determined by giving consideration to such factors as the 
governmental unit's settlement rate for those liabilities and its 
investment rate of return.
    (2) Earnings or investment income on reserves must be credited 
to those reserves.
    (3) Contributions to reserves must be based on sound actuarial 
principles using historical experience and reasonable assumptions. 
Reserve levels must be analyzed and updated at least biennially for 
each major risk being insured and take into account any reinsurance, 
coinsurance, etc. Reserve levels related to employee-related 
coverages will normally be limited to the value of claims submitted 
and adjudicated but not paid, submitted but not adjudicated, and 
incurred but not submitted. Reserve levels in excess of the amounts 
based on the above must be identified and justified in the cost 
allocation plan or indirect cost rate proposal.
    (4) Accounting records, actuarial studies, and cost allocations 
(or billings) must recognize any significant differences due to 
types of insured risk and losses generated by the various insured 
activities or agencies of the governmental unit. If individual 
departments or agencies of the governmental

[[Page 51919]]

unit experience significantly different levels of claims for a 
particular risk, those differences are to be recognized by the use 
of separate allocations or other techniques resulting in an 
equitable allocation.
    (5) Whenever funds are transferred from a self-insurance reserve 
to other accounts (e.g., general fund), refunds shall be made to the 
Federal Government for its share of funds transferred, including 
earned or imputed interest from the date of transfer.
    e. Actual claims paid to or on behalf of employees or former 
employees for workers' compensation, unemployment compensation, 
severance pay, and similar employee benefits (e.g., subsection 8.f. 
for post retirement health benefits), are allowable in the year of 
payment provided the governmental unit follows a consistent costing 
policy and they are allocated as a general administrative expense to 
all activities of the governmental unit.
    f. Insurance refunds shall be credited against insurance costs 
in the year the refund is received.
    g. Indemnification includes securing the governmental unit 
against liabilities to third persons and other losses not 
compensated by insurance or otherwise. The Federal Government is 
obligated to indemnify the governmental unit only to the extent 
expressly provided for in the Federal award, except as provided in 
subsection 22.d of this appendix.
    h. Costs of commercial insurance that protects against the costs 
of the contractor for correction of the contractor's own defects in 
materials or workmanship are unallowable.
    23. Interest.
    a. Costs incurred for interest on borrowed capital or the use of 
a governmental unit's own funds, however represented, are 
unallowable except as specifically provided in subsection b. or 
authorized by Federal legislation.
    b. Financing costs (including interest) paid or incurred which 
are associated with the otherwise allowable costs of building 
acquisition, construction, or fabrication, reconstruction or 
remodeling completed on or after October 1, 1980 is allowable 
subject to the conditions in section 23.b.(1) through (4) of this 
appendix. Financing costs (including interest) paid or incurred on 
or after September 1, 1995 for land or associated with otherwise 
allowable costs of equipment is allowable, subject to the conditions 
in section 23.b. (1) through (4) of this appendix.
    (1) The financing is provided (from other than tax or user fee 
sources) by a bona fide third party external to the governmental 
unit;
    (2) The assets are used in support of Federal awards;
    (3) Earnings on debt service reserve funds or interest earned on 
borrowed funds pending payment of the construction or acquisition 
costs are used to offset the current period's cost or the 
capitalized interest, as appropriate. Earnings subject to being 
reported to the Federal Internal Revenue Service under arbitrage 
requirements are excludable.
    (4) For debt arrangements over $1 million, unless the 
governmental unit makes an initial equity contribution to the asset 
purchase of 25 percent or more, the governmental unit shall reduce 
claims for interest cost by an amount equal to imputed interest 
earnings on excess cash flow, which is to be calculated as follows. 
Annually, non-Federal entities shall prepare a cumulative (from the 
inception of the project) report of monthly cash flows that includes 
inflows and outflows, regardless of the funding source. Inflows 
consist of depreciation expense, amortization of capitalized 
construction interest, and annual interest cost. For cash flow 
calculations, the annual inflow figures shall be divided by the 
number of months in the year (i.e., usually 12) that the building is 
in service for monthly amounts. Outflows consist of initial equity 
contributions, debt principal payments (less the pro rata share 
attributable to the unallowable costs of land) and interest 
payments. Where cumulative inflows exceed cumulative outflows, 
interest shall be calculated on the excess inflows for that period 
and be treated as a reduction to allowable interest cost. The rate 
of interest to be used to compute earnings on excess cash flows 
shall be the three-month Treasury bill closing rate as of the last 
business day of that month.
    (5) Interest attributable to fully depreciated assets is 
unallowable.
    24. Lobbying.
    a. General. The cost of certain influencing activities 
associated with obtaining grants, contracts, cooperative agreements, 
or loans is an unallowable cost. Lobbying with respect to certain 
grants, contracts, cooperative agreements, and loans shall be 
governed by the common rule, ``New Restrictions on Lobbying'' (see 
Section J.24 of Appendix A to 2 CFR part 220), including 
definitions, and the Office of Management and Budget ``Government-
wide Guidance for New Restrictions on Lobbying'' and notices 
published at 54 FR 52306 (December 20, 1989), 55 FR 24540 (June 15, 
1990), and 57 FR 1772 (January 15, 1992), respectively.
    b. Executive lobbying costs. Costs incurred in attempting to 
improperly influence either directly or indirectly, an employee or 
officer of the Executive Branch of the Federal Government to give 
consideration or to act regarding a sponsored agreement or a 
regulatory matter are unallowable. Improper influence means any 
influence that induces or tends to induce a Federal employee or 
officer to give consideration or to act regarding a federally-
sponsored agreement or regulatory matter on any basis other than the 
merits of the matter.
    25. Maintenance, operations, and repairs. Unless prohibited by 
law, the cost of utilities, insurance, security, janitorial 
services, elevator service, upkeep of grounds, necessary 
maintenance, normal repairs and alterations, and the like are 
allowable to the extent that they: keep property (including Federal 
property, unless otherwise provided for) in an efficient operating 
condition, do not add to the permanent value of property or 
appreciably prolong its intended life, and are not otherwise 
included in rental or other charges for space. Costs which add to 
the permanent value of property or appreciably prolong its intended 
life shall be treated as capital expenditures (see sections 11 and 
15 of this appendix).
    26. Materials and supplies costs.
    a. Costs incurred for materials, supplies, and fabricated parts 
necessary to carry out a Federal award are allowable.
    b. Purchased materials and supplies shall be charged at their 
actual prices, net of applicable credits. Withdrawals from general 
stores or stockrooms should be charged at their actual net cost 
under any recognized method of pricing inventory withdrawals, 
consistently applied. Incoming transportation charges are a proper 
part of materials and supplies costs.
    c. Only materials and supplies actually used for the performance 
of a Federal award may be charged as direct costs.
    d. Where federally-donated or furnished materials are used in 
performing the Federal award, such materials will be used without 
charge.
    27. Meetings and conferences. Costs of meetings and conferences, 
the primary purpose of which is the dissemination of technical 
information, are allowable. This includes costs of meals, 
transportation, rental of facilities, speakers' fees, and other 
items incidental to such meetings or conferences. But see section 
14, Entertainment costs, of this appendix.
    28. Memberships, subscriptions, and professional activity costs.
    a. Costs of the governmental unit's memberships in business, 
technical, and professional organizations are allowable.
    b. Costs of the governmental unit's subscriptions to business, 
professional, and technical periodicals are allowable.
    c. Costs of membership in civic and community, social 
organizations are allowable as a direct cost with the approval of 
the Federal awarding agency.
    d. Costs of membership in organizations substantially engaged in 
lobbying are unallowable.
    29. Patent costs.
    a. The following costs relating to patent and copyright matters 
are allowable: cost of preparing disclosures, reports, and other 
documents required by the Federal award and of searching the art to 
the extent necessary to make such disclosures; cost of preparing 
documents and any other patent costs in connection with the filing 
and prosecution of a United States patent application where title or 
royalty-free license is required by the Federal Government to be 
conveyed to the Federal Government; and general counseling services 
relating to patent and copyright matters, such as advice on patent 
and copyright laws, regulations, clauses, and employee agreements 
(but see sections 32, Professional service costs, and 38, Royalties 
and other costs for use of patents and copyrights, of this 
appendix).
    b. The following costs related to patent and copyright matter 
are unallowable: Cost of preparing disclosures, reports, and other 
documents and of searching the art to the extent necessary to make 
disclosures not required by the award; costs in connection with 
filing and prosecuting any foreign patent application; or any United 
States patent application, where the Federal award does not require 
conveying title or a royalty-free license to the Federal Government 
(but see section 38, Royalties and other costs for use of patents 
and copyrights, of this appendix).

[[Page 51920]]

    30. Plant and homeland security costs. Necessary and reasonable 
expenses incurred for routine and homeland security to protect 
facilities, personnel, and work products are allowable. Such costs 
include, but are not limited to, wages and uniforms of personnel 
engaged in security activities; equipment; barriers; contractual 
security services; consultants; etc. Capital expenditures for 
homeland and plant security purposes are subject to section 15, 
Equipment and other capital expenditures, of this appendix.
    31. Pre-award costs. Pre-award costs are those incurred prior to 
the effective date of the award directly pursuant to the negotiation 
and in anticipation of the award where such costs are necessary to 
comply with the proposed delivery schedule or period of performance. 
Such costs are allowable only to the extent that they would have 
been allowable if incurred after the date of the award and only with 
the written approval of the awarding agency.
    32. Professional service costs.
    a. Costs of professional and consultant services rendered by 
persons who are members of a particular profession or possess a 
special skill, and who are not officers or employees of the 
governmental unit, are allowable, subject to subparagraphs b and c 
when reasonable in relation to the services rendered and when not 
contingent upon recovery of the costs from the Federal Government. 
In addition, legal and related services are limited under section 10 
of this appendix.
    b. In determining the allowability of costs in a particular 
case, no single factor or any special combination of factors is 
necessarily determinative. However, the following factors are 
relevant:
    (1) The nature and scope of the service rendered in relation to 
the service required.
    (2) The necessity of contracting for the service, considering 
the governmental unit's capability in the particular area.
    (3) The past pattern of such costs, particularly in the years 
prior to Federal awards.
    (4) The impact of Federal awards on the governmental unit's 
business (i.e., what new problems have arisen).
    (5) Whether the proportion of Federal work to the governmental 
unit's total business is such as to influence the governmental unit 
in favor of incurring the cost, particularly where the services 
rendered are not of a continuing nature and have little relationship 
to work under Federal grants and contracts.
    (6) Whether the service can be performed more economically by 
direct employment rather than contracting.
    (7) The qualifications of the individual or concern rendering 
the service and the customary fees charged, especially on non-
Federal awards.
    (8) Adequacy of the contractual agreement for the service (e.g., 
description of the service, estimate of time required, rate of 
compensation, and termination provisions).
    c. In addition to the factors in subparagraph b, retainer fees 
to be allowable must be supported by available or rendered evidence 
of bona fide services available or rendered.
    33. Proposal costs. Costs of preparing proposals for potential 
Federal awards are allowable. Proposal costs should normally be 
treated as indirect costs and should be allocated to all activities 
of the governmental unit utilizing the cost allocation plan and 
indirect cost rate proposal. However, proposal costs may be charged 
directly to Federal awards with the prior approval of the Federal 
awarding agency.
    34. Publication and printing costs.
    a. Publication costs include the costs of printing (including 
the processes of composition, plate-making, press work, binding, and 
the end products produced by such processes), distribution, 
promotion, mailing, and general handling. Publication costs also 
include page charges in professional publications.
    b. If these costs are not identifiable with a particular cost 
objective, they should be allocated as indirect costs to all 
benefiting activities of the governmental unit.
    c. Page charges for professional journal publications are 
allowable as a necessary part of research costs where:
    (1) The research papers report work supported by the Federal 
Government; and
    (2) The charges are levied impartially on all research papers 
published by the journal, whether or not by federally-sponsored 
authors.
    35. Rearrangement and alteration costs. Costs incurred for 
ordinary and normal rearrangement and alteration of facilities are 
allowable. Special arrangements and alterations costs incurred 
specifically for a Federal award are allowable with the prior 
approval of the Federal awarding agency.
    36. Reconversion costs. Costs incurred in the restoration or 
rehabilitation of the governmental unit's facilities to 
approximately the same condition existing immediately prior to 
commencement of Federal awards, less costs related to normal wear 
and tear, are allowable.
    37. Rental costs of buildings and equipment.
    a. Subject to the limitations described in subsections b. 
through d. of this section, rental costs are allowable to the extent 
that the rates are reasonable in light of such factors as: rental 
costs of comparable property, if any; market conditions in the area; 
alternatives available; and the type, life expectancy, condition, 
and value of the property leased. Rental arrangements should be 
reviewed periodically to determine if circumstances have changed and 
other options are available.
    b. Rental costs under ``sale and lease back'' arrangements are 
allowable only up to the amount that would be allowed had the 
governmental unit continued to own the property. This amount would 
include expenses such as depreciation or use allowance, maintenance, 
taxes, and insurance.
    c. Rental costs under ``less-than-arm's-length'' leases are 
allowable only up to the amount (as explained in section 37.b of 
this appendix) that would be allowed had title to the property 
vested in the governmental unit. For this purpose, a less-than-
arm's-length lease is one under which one party to the lease 
agreement is able to control or substantially influence the actions 
of the other. Such leases include, but are not limited to those 
between divisions of a governmental unit; governmental units under 
common control through common officers, directors, or members; and a 
governmental unit and a director, trustee, officer, or key employee 
of the governmental unit or his immediate family, either directly or 
through corporations, trusts, or similar arrangements in which they 
hold a controlling interest. For example, a governmental unit may 
establish a separate corporation for the sole purpose of owning 
property and leasing it back to the governmental unit.
    d. Rental costs under leases which are required to be treated as 
capital leases under GAAP are allowable only up to the amount (as 
explained in subsection 37.b of this appendix) that would be allowed 
had the governmental unit purchased the property on the date the 
lease agreement was executed. The provisions of Financial Accounting 
Standards Board Statement 13, Accounting for Leases, shall be used 
to determine whether a lease is a capital lease. Interest costs 
related to capital leases are allowable to the extent they meet the 
criteria in section 23 of this appendix. Unallowable costs include 
amounts paid for profit, management fees, and taxes that would not 
have been incurred had the governmental unit purchased the facility.
    38. Royalties and other costs for the use of patents.
    a. Royalties on a patent or copyright or amortization of the 
cost of acquiring by purchase a copyright, patent, or rights 
thereto, necessary for the proper performance of the award are 
allowable unless:
    (1) The Federal Government has a license or the right to free 
use of the patent or copyright.
    (2) The patent or copyright has been adjudicated to be invalid, 
or has been administratively determined to be invalid.
    (3) The patent or copyright is considered to be unenforceable.
    (4) The patent or copyright is expired.
    b. Special care should be exercised in determining 
reasonableness where the royalties may have been arrived at as a 
result of less-than-arm's-length bargaining, e.g.:
    (1) Royalties paid to persons, including corporations, 
affiliated with the governmental unit.
    (2) Royalties paid to unaffiliated parties, including 
corporations, under an agreement entered into in contemplation that 
a Federal award would be made.
    (3) Royalties paid under an agreement entered into after an 
award is made to a governmental unit.
    c. In any case involving a patent or copyright formerly owned by 
the governmental unit, the amount of royalty allowed should not 
exceed the cost which would have been allowed had the governmental 
unit retained title thereto.
    39. Selling and marketing. Costs of selling and marketing any 
products or services of the governmental unit are unallowable 
(unless allowed under section 1. of this appendix as allowable 
public relations costs or under section 33. of this appendix as 
allowable proposal costs.
    40. Taxes.
    a. Taxes that a governmental unit is legally required to pay are 
allowable, except for self-

[[Page 51921]]

assessed taxes that disproportionately affect Federal programs or 
changes in tax policies that disproportionately affect Federal 
programs. This provision is applicable to taxes paid during the 
governmental unit's first fiscal year that begins on or after 
January 1, 1998, and applies thereafter.
    b. Gasoline taxes, motor vehicle fees, and other taxes that are 
in effect user fees for benefits provided to the Federal Government 
are allowable.
    c. This provision does not restrict the authority of Federal 
agencies to identify taxes where Federal participation is 
inappropriate. Where the identification of the amount of unallowable 
taxes would require an inordinate amount of effort, the cognizant 
agency may accept a reasonable approximation thereof.
    41. Termination costs applicable to sponsored agreements. 
Termination of awards generally gives rise to the incurrence of 
costs, or the need for special treatment of costs, which would not 
have arisen had the Federal award not been terminated. Cost 
principles covering these items are set forth below. They are to be 
used in conjunction with the other provisions of this appendix in 
termination situations.
    a. The cost of items reasonably usable on the governmental 
unit's other work shall not be allowable unless the governmental 
unit submits evidence that it would not retain such items at cost 
without sustaining a loss. In deciding whether such items are 
reasonably usable on other work of the governmental unit, the 
awarding agency should consider the governmental unit's plans and 
orders for current and scheduled activity. Contemporaneous purchases 
of common items by the governmental unit shall be regarded as 
evidence that such items are reasonably usable on the governmental 
unit's other work. Any acceptance of common items as allocable to 
the terminated portion of the Federal award shall be limited to the 
extent that the quantities of such items on hand, in transit, and on 
order are in excess of the reasonable quantitative requirements of 
other work.
    b. If in a particular case, despite all reasonable efforts by 
the governmental unit, certain costs cannot be discontinued 
immediately after the effective date of termination, such costs are 
generally allowable within the limitations set forth in this and 
other appendices of 2 CFR part 225, except that any such costs 
continuing after termination due to the negligent or willful failure 
of the governmental unit to discontinue such costs shall be 
unallowable.
    c. Loss of useful value of special tooling, machinery, and 
equipment is generally allowable if:
    (1) Such special tooling, special machinery, or equipment is not 
reasonably capable of use in the other work of the governmental 
unit,
    (2) The interest of the Federal Government is protected by 
transfer of title or by other means deemed appropriate by the 
awarding agency, and
    (3) The loss of useful value for any one terminated Federal 
award is limited to that portion of the acquisition cost which bears 
the same ratio to the total acquisition cost as the terminated 
portion of the Federal award bears to the entire terminated Federal 
award and other Federal awards for which the special tooling, 
machinery, or equipment was acquired.
    d. Rental costs under unexpired leases are generally allowable 
where clearly shown to have been reasonably necessary for the 
performance of the terminated Federal award less the residual value 
of such leases, if:
    (1) The amount of such rental claimed does not exceed the 
reasonable use value of the property leased for the period of the 
Federal award and such further period as may be reasonable, and
    (2) The governmental unit makes all reasonable efforts to 
terminate, assign, settle, or otherwise reduce the cost of such 
lease. There also may be included the cost of alterations of such 
leased property, provided such alterations were necessary for the 
performance of the Federal award, and of reasonable restoration 
required by the provisions of the lease.
    e. Settlement expenses including the following are generally 
allowable:
    (1) Accounting, legal, clerical, and similar costs reasonably 
necessary for:
    (a) The preparation and presentation to the awarding agency of 
settlement claims and supporting data with respect to the terminated 
portion of the Federal award, unless the termination is for default 
(see Subpart --.44 of the Grants Management Common Rule (see Sec.  
215.5) implementing OMB Circular A-102); and
    (b) The termination and settlement of subawards.
    (2) Reasonable costs for the storage, transportation, 
protection, and disposition of property provided by the Federal 
Government or acquired or produced for the Federal award, except 
when grantees or contractors are reimbursed for disposals at a 
predetermined amount in accordance with Subparts --.31 and --.32 of 
the Grants Management Common Rule (see Sec.  215.5) implementing OMB 
Circular A-102.
    f. Claims under subawards, including the allocable portion of 
claims which are common to the Federal award, and to other work of 
the governmental unit are generally allowable. An appropriate share 
of the governmental unit's indirect expense may be allocated to the 
amount of settlements with subcontractors and/or subgrantees, 
provided that the amount allocated is otherwise consistent with the 
basic guidelines contained in Appendix A to this part. The indirect 
expense so allocated shall exclude the same and similar costs 
claimed directly or indirectly as settlement expenses.
    42. Training costs. The cost of training provided for employee 
development is allowable.
    43. Travel costs.
    a. General. Travel costs are the expenses for transportation, 
lodging, subsistence, and related items incurred by employees who 
are in travel status on official business of the governmental unit. 
Such costs may be charged on an actual cost basis, on a per diem or 
mileage basis in lieu of actual costs incurred, or on a combination 
of the two, provided the method used is applied to an entire trip 
and not to selected days of the trip, and results in charges 
consistent with those normally allowed in like circumstances in the 
governmental unit's non-federally-sponsored activities. 
Notwithstanding the provisions of section 19 of this appendix, 
General government expenses, travel costs of officials covered by 
that section are allowable with the prior approval of an awarding 
agency when they are specifically related to Federal awards.
    b. Lodging and subsistence. Costs incurred by employees and 
officers for travel, including costs of lodging, other subsistence, 
and incidental expenses, shall be considered reasonable and 
allowable only to the extent such costs do not exceed charges 
normally allowed by the governmental unit in its regular operations 
as the result of the governmental unit's written travel policy. In 
the absence of an acceptable, written governmental unit policy 
regarding travel costs, the rates and amounts established under 
subchapter I of Chapter 57, Title 5, United States Code (``Travel 
and Subsistence Expenses; Mileage Allowances''), or by the 
Administrator of General Services, or by the President (or his or 
her designee) pursuant to any provisions of such subchapter shall 
apply to travel under Federal awards (48 CFR 31.205-46(a)).
    c. Commercial air travel.
    (1) Airfare costs in excess of the customary standard commercial 
airfare (coach or equivalent), Federal Government contract airfare 
(where authorized and available), or the lowest commercial discount 
airfare are unallowable except when such accommodations would:
    (a) Require circuitous routing;
    (b) Require travel during unreasonable hours;
    (c) Excessively prolong travel;
    (d) Result in additional costs that would offset the 
transportation savings; or
    (e) Offer accommodations not reasonably adequate for the 
traveler's medical needs. The governmental unit must justify and 
document these conditions on a case-by-case basis in order for the 
use of first-class airfare to be allowable in such cases.
    (2) Unless a pattern of avoidance is detected, the Federal 
Government will generally not question a governmental unit's 
determinations that customary standard airfare or other discount 
airfare is unavailable for specific trips if the governmental unit 
can demonstrate either of the following:
    (aa) That such airfare was not available in the specific case; 
or
    (b) That it is the governmental unit's overall practice to make 
routine use of such airfare.
    d. Air travel by other than commercial carrier. Costs of travel 
by governmental unit-owned, -leased, or -chartered aircraft include 
the cost of lease, charter, operation (including personnel costs), 
maintenance, depreciation, insurance, and other related costs. The 
portion of such costs that exceeds the cost of allowable commercial 
air travel, as provided for in subsection 43.c. of this appendix, is 
unallowable.
    e. Foreign travel. Direct charges for foreign travel costs are 
allowable only when the travel has received prior approval of the 
awarding agency. Each separate foreign trip

[[Page 51922]]

must receive such approval. For purposes of this provision, 
``foreign travel'' includes any travel outside Canada, Mexico, the 
United States, and any United States territories and possessions. 
However, the term ``foreign travel'' for a governmental unit located 
in a foreign country means travel outside that country.

Appendix C to Part 225--State/Local-Wide Central Service Cost 
Allocation Plans

Table of Contents

A. General
B. Definitions
    1. Billed central services
    2. Allocated central services
    3. Agency or operating agency
C. Scope of the Central Service Cost Allocation Plans
D. Submission Requirements
E. Documentation Requirements for Submitted Plans
    1. General
    2. Allocated central services
    3. Billed services
    a. General
    b. Internal service funds
    c. Self-insurance funds
    d. Fringe benefits
    4. Required certification
F. Negotiation and Approval of Central Service Plans
G. Other Policies
    1. Billed central service activities
    2. Working capital reserves
    3. Carry-forward adjustments of allocated central service costs
    4. Adjustments of billed central services
    5. Records retention
    6. Appeals
    7. OMB assistance State/Local-Wide Central Service Cost 
Allocation Plans
    A. General.
    1. Most governmental units provide certain services, such as 
motor pools, computer centers, purchasing, accounting, etc., to 
operating agencies on a centralized basis. Since federally-supported 
awards are performed within the individual operating agencies, there 
needs to be a process whereby these central service costs can be 
identified and assigned to benefitted activities on a reasonable and 
consistent basis. The central service cost allocation plan provides 
that process. All costs and other data used to distribute the costs 
included in the plan should be supported by formal accounting and 
other records that will support the propriety of the costs assigned 
to Federal awards.
    2. Guidelines and illustrations of central service cost 
allocation plans are provided in a brochure published by the 
Department of Health and Human Services entitled ``A Guide for State 
and Local Government Agencies: Cost Principles and Procedures for 
Establishing Cost Allocation Plans and Indirect Cost Rates for 
Grants and Contracts with the Federal Government.'' A copy of this 
brochure may be obtained from the Superintendent of Documents, U.S. 
Government Printing Office, Washington, DC 20401.
    B. Definitions.
    1. ``Billed central services'' means central services that are 
billed to benefitted agencies and/or programs on an individual fee-
for-service or similar basis. Typical examples of billed central 
services include computer services, transportation services, 
insurance, and fringe benefits.
    2. ``Allocated central services'' means central services that 
benefit operating agencies but are not billed to the agencies on a 
fee-for-service or similar basis. These costs are allocated to 
benefitted agencies on some reasonable basis. Examples of such 
services might include general accounting, personnel administration, 
purchasing, etc.
    3. ``Agency or operating agency'' means an organizational unit 
or sub-division within a governmental unit that is responsible for 
the performance or administration of awards or activities of the 
governmental unit.
    C. Scope of the Central Service Cost Allocation Plans. The 
central service cost allocation plan will include all central 
service costs that will be claimed (either as a billed or an 
allocated cost) under Federal awards and will be documented as 
described in section E. Costs of central services omitted from the 
plan will not be reimbursed.
    D. Submission Requirements.
    1. Each State will submit a plan to the Department of Health and 
Human Services for each year in which it claims central service 
costs under Federal awards. The plan should include a projection of 
the next year's allocated central service cost (based either on 
actual costs for the most recently completed year or the budget 
projection for the coming year), and a reconciliation of actual 
allocated central service costs to the estimated costs used for 
either the most recently completed year or the year immediately 
preceding the most recently completed year.
    2. Each local government that has been designated as a ``major 
local government'' by the Office of Management and Budget (OMB) is 
also required to submit a plan to its cognizant agency annually. OMB 
periodically lists major local governments in the Federal Register.
    3. All other local governments claiming central service costs 
must develop a plan in accordance with the requirements described in 
this appendix and maintain the plan and related supporting 
documentation for audit. These local governments are not required to 
submit their plans for Federal approval unless they are specifically 
requested to do so by the cognizant agency. Where a local government 
only receives funds as a sub-recipient, the primary recipient will 
be responsible for negotiating indirect cost rates and/or monitoring 
the sub-recipient's plan.
    4. All central service cost allocation plans will be prepared 
and, when required, submitted within six months prior to the 
beginning of each of the governmental unit's fiscal years in which 
it proposes to claim central service costs. Extensions may be 
granted by the cognizant agency on a case-by-case basis.
    E. Documentation Requirements for Submitted Plans. The 
documentation requirements described in this section may be 
modified, expanded, or reduced by the cognizant agency on a case-by-
case basis. For example, the requirements may be reduced for those 
central services which have little or no impact on Federal awards. 
Conversely, if a review of a plan indicates that certain additional 
information is needed, and will likely be needed in future years, it 
may be routinely requested in future plan submissions. Items marked 
with an asterisk (*) should be submitted only once; subsequent plans 
should merely indicate any changes since the last plan.
    1. General. All proposed plans must be accompanied by the 
following: An organization chart sufficiently detailed to show 
operations including the central service activities of the State/
local government whether or not they are shown as benefiting from 
central service functions; a copy of the Comprehensive Annual 
Financial Report (or a copy of the Executive Budget if budgeted 
costs are being proposed) to support the allowable costs of each 
central service activity included in the plan; and, a certification 
(see subsection 4.) that the plan was prepared in accordance with 
this and other appendices to this part, contains only allowable 
costs, and was prepared in a manner that treated similar costs 
consistently among the various Federal awards and between Federal 
and non-Federal awards/activities.
    2. Allocated central services. For each allocated central 
service, the plan must also include the following: A brief 
description of the service*, an identification of the unit rendering 
the service and the operating agencies receiving the service, the 
items of expense included in the cost of the service, the method 
used to distribute the cost of the service to benefitted agencies, 
and a summary schedule showing the allocation of each service to the 
specific benefitted agencies. If any self-insurance funds or fringe 
benefits costs are treated as allocated (rather than billed) central 
services, documentation discussed in subsections 3.b. and c. shall 
also be included.
    3. Billed services.
    a. General. The information described below shall be provided 
for all billed central services, including internal service funds, 
self-insurance funds, and fringe benefit funds.
    b. Internal service funds.
    (1) For each internal service fund or similar activity with an 
operating budget of $5 million or more, the plan shall include: A 
brief description of each service; a balance sheet for each fund 
based on individual accounts contained in the governmental unit's 
accounting system; a revenue/expenses statement, with revenues 
broken out by source, e.g., regular billings, interest earned, etc.; 
a listing of all non-operating transfers (as defined by Generally 
Accepted Accounting Principles (GAAP)) into and out of the fund; a 
description of the procedures (methodology) used to charge the costs 
of each service to users, including how billing rates are 
determined; a schedule of current rates; and, a schedule comparing 
total revenues (including imputed revenues) generated by the service 
to the allowable costs of the service, as determined under this and 
other appendices of this part, with an explanation of how variances 
will be handled.

[[Page 51923]]

    (2) Revenues shall consist of all revenues generated by the 
service, including unbilled and uncollected revenues. If some users 
were not billed for the services (or were not billed at the full 
rate for that class of users), a schedule showing the full imputed 
revenues associated with these users shall be provided. Expenses 
shall be broken out by object cost categories (e.g., salaries, 
supplies, etc.).
    c. Self-insurance funds. For each self-insurance fund, the plan 
shall include: The fund balance sheet; a statement of revenue and 
expenses including a summary of billings and claims paid by agency; 
a listing of all non-operating transfers into and out of the fund; 
the type(s) of risk(s) covered by the fund (e.g., automobile 
liability, workers' compensation, etc.); an explanation of how the 
level of fund contributions are determined, including a copy of the 
current actuarial report (with the actuarial assumptions used) if 
the contributions are determined on an actuarial basis; and, a 
description of the procedures used to charge or allocate fund 
contributions to benefitted activities. Reserve levels in excess of 
claims submitted and adjudicated but not paid, submitted but not 
adjudicated, and incurred but not submitted must be identified and 
explained.
    d. Fringe benefits. For fringe benefit costs, the plan shall 
include: A listing of fringe benefits provided to covered employees, 
and the overall annual cost of each type of benefit; current fringe 
benefit policies*; and procedures used to charge or allocate the 
costs of the benefits to benefitted activities. In addition, for 
pension and post-retirement health insurance plans, the following 
information shall be provided: the governmental unit's funding 
policies, e.g., legislative bills, trust agreements, or State-
mandated contribution rules, if different from actuarially 
determined rates; the pension plan's costs accrued for the year; the 
amount funded, and date(s) of funding; a copy of the current 
actuarial report (including the actuarial assumptions); the plan 
trustee's report; and, a schedule from the activity showing the 
value of the interest cost associated with late funding.
    4. Required certification. Each central service cost allocation 
plan will be accompanied by a certification in the following form:

Certificate of Cost Allocation Plan

    This is to certify that I have reviewed the cost allocation plan 
submitted herewith and to the best of my knowledge and belief:
    (1) All costs included in this proposal [identify date] to 
establish cost allocations or billings for [identify period covered 
by plan] are allowable in accordance with the requirements of 2 CFR 
Part 225, Cost Principles for State, Local, and Indian Tribal 
Governments (OMB Circular A-87), and the Federal award(s) to which 
they apply. Unallowable costs have been adjusted for in allocating 
costs as indicated in the cost allocation plan.
    (2) All costs included in this proposal are properly allocable 
to Federal awards on the basis of a beneficial or causal 
relationship between the expenses incurred and the awards to which 
they are allocated in accordance with applicable requirements. 
Further, the same costs that have been treated as indirect costs 
have not been claimed as direct costs. Similar types of costs have 
been accounted for consistently.
    I declare that the foregoing is true and correct.

 Governmental Unit:----------------------------------------------------

 Signature:------------------------------------------------------------

 Name of Official:-----------------------------------------------------

 Title:----------------------------------------------------------------

 Date of Execution:----------------------------------------------------

    F. Negotiation and Approval of Central Service Plans.
    1. All proposed central service cost allocation plans that are 
required to be submitted will be reviewed, negotiated, and approved 
by the Federal cognizant agency on a timely basis. The cognizant 
agency will review the proposal within six months of receipt of the 
proposal and either negotiate/approve the proposal or advise the 
governmental unit of the additional documentation needed to support/
evaluate the proposed plan or the changes required to make the 
proposal acceptable. Once an agreement with the governmental unit 
has been reached, the agreement will be accepted and used by all 
Federal agencies, unless prohibited or limited by statute. Where a 
Federal funding agency has reason to believe that special operating 
factors affecting its awards necessitate special consideration, the 
funding agency will, prior to the time the plans are negotiated, 
notify the cognizant agency.
    2. The results of each negotiation shall be formalized in a 
written agreement between the cognizant agency and the governmental 
unit. This agreement will be subject to re-opening if the agreement 
is subsequently found to violate a statute or the information upon 
which the plan was negotiated is later found to be materially 
incomplete or inaccurate. The results of the negotiation shall be 
made available to all Federal agencies for their use.
    3. Negotiated cost allocation plans based on a proposal later 
found to have included costs that: Are unallowable as specified by 
law or regulation, as identified in Appendix B of this part, or by 
the terms and conditions of Federal awards, or are unallowable 
because they are clearly not allocable to Federal awards, shall be 
adjusted, or a refund shall be made at the option of the Federal 
cognizant agency. These adjustments or refunds are designed to 
correct the plans and do not constitute a reopening of the 
negotiation.
    G. Other Policies.
    1. Billed central service activities. Each billed central 
service activity must separately account for all revenues (including 
imputed revenues) generated by the service, expenses incurred to 
furnish the service, and profit/loss.
    2. Working capital reserves. Internal service funds are 
dependent upon a reasonable level of working capital reserve to 
operate from one billing cycle to the next. Charges by an internal 
service activity to provide for the establishment and maintenance of 
a reasonable level of working capital reserve, in addition to the 
full recovery of costs, are allowable. A working capital reserve as 
part of retained earnings of up to 60 days cash expenses for normal 
operating purposes is considered reasonable. A working capital 
reserve exceeding 60 days may be approved by the cognizant Federal 
agency in exceptional cases.
    3. Carry-forward adjustments of allocated central service costs. 
Allocated central service costs are usually negotiated and approved 
for a future fiscal year on a ``fixed with carry-forward'' basis. 
Under this procedure, the fixed amounts for the future year covered 
by agreement are not subject to adjustment for that year. However, 
when the actual costs of the year involved become known, the 
differences between the fixed amounts previously approved and the 
actual costs will be carried forward and used as an adjustment to 
the fixed amounts established for a later year. This ``carry-
forward'' procedure applies to all central services whose costs were 
fixed in the approved plan. However, a carry-forward adjustment is 
not permitted, for a central service activity that was not included 
in the approved plan, or for unallowable costs that must be 
reimbursed immediately.
    4. Adjustments of billed central services. Billing rates used to 
charge Federal awards shall be based on the estimated costs of 
providing the services, including an estimate of the allocable 
central service costs. A comparison of the revenue generated by each 
billed service (including total revenues whether or not billed or 
collected) to the actual allowable costs of the service will be made 
at least annually, and an adjustment will be made for the difference 
between the revenue and the allowable costs. These adjustments will 
be made through one of the following adjustment methods: A cash 
refund to the Federal Government for the Federal share of the 
adjustment, credits to the amounts charged to the individual 
programs, adjustments to future billing rates, or adjustments to 
allocated central service costs. Adjustments to allocated central 
services will not be permitted where the total amount of the 
adjustment for a particular service (Federal share and non-Federal) 
share exceeds $500,000.
    5. Records retention. All central service cost allocation plans 
and related documentation used as a basis for claiming costs under 
Federal awards must be retained for audit in accordance with the 
records retention requirements contained in the Common Rule.
    6. Appeals. If a dispute arises in the negotiation of a plan 
between the cognizant agency and the governmental unit, the dispute 
shall be resolved in accordance with the appeals procedures of the 
cognizant agency.
    7. OMB assistance. To the extent that problems are encountered 
among the Federal agencies and/or governmental units in connection 
with the negotiation and approval process, OMB will lend assistance, 
as required, to resolve such problems in a timely manner.

[[Page 51924]]

Appendix D to Part 225--Public Assistance Cost Allocation Plans

Table of Contents

A. General
B. Definitions
    1. State public assistance agency
    2. State public assistance agency costs
C. Policy
D. Submission, Documentation, and Approval of Public Assistance Cost 
Allocation Plans
E. Review of Implementation of Approved Plans
F. Unallowable Costs
    A. General. Federally-financed programs administered by State 
public assistance agencies are funded predominately by the 
Department of Health and Human Services (HHS). In support of its 
stewardship requirements, HHS has published requirements for the 
development, documentation, submission, negotiation, and approval of 
public assistance cost allocation plans in Subpart E of 45 CFR part 
95. All administrative costs (direct and indirect) are normally 
charged to Federal awards by implementing the public assistance cost 
allocation plan. This appendix extends these requirements to all 
Federal agencies whose programs are administered by a State public 
assistance agency. Major federally-financed programs typically 
administered by State public assistance agencies include: Temporary 
Assistance to Needy Families (TANF), Medicaid, Food Stamps, Child 
Support Enforcement, Adoption Assistance and Foster Care, and Social 
Services Block Grant.
    B. Definitions.
    1. ``State public assistance agency'' means a State agency 
administering or supervising the administration of one or more 
public assistance programs operated by the State as identified in 
Subpart E of 45 CFR part 95. For the purpose of this appendix, these 
programs include all programs administered by the State public 
assistance agency.
    2. ``State public assistance agency costs'' means all costs 
incurred by, or allocable to, the State public assistance agency, 
except expenditures for financial assistance, medical vendor 
payments, food stamps, and payments for services and goods provided 
directly to program recipients.
    C. Policy. State public assistance agencies will develop, 
document and implement, and the Federal Government will review, 
negotiate, and approve, public assistance cost allocation plans in 
accordance with Subpart E of 45 CFR part 95. The plan will include 
all programs administered by the State public assistance agency. 
Where a letter of approval or disapproval is transmitted to a State 
public assistance agency in accordance with Subpart E, the letter 
will apply to all Federal agencies and programs. The remaining 
sections of this appendix (except for the requirement for 
certification) summarize the provisions of Subpart E of 45 CFR part 
95.
    D. Submission, Documentation, and Approval of Public Assistance 
Cost Allocation Plans.
    1. State public assistance agencies are required to promptly 
submit amendments to the cost allocation plan to HHS for review and 
approval.
    2. Under the coordination process outlined in subsection E, 
affected Federal agencies will review all new plans and plan 
amendments and provide comments, as appropriate, to HHS. The 
effective date of the plan or plan amendment will be the first day 
of the quarter following the submission of the plan or amendment, 
unless another date is specifically approved by HHS. HHS, as the 
cognizant agency acting on behalf of all affected Federal agencies, 
will, as necessary, conduct negotiations with the State public 
assistance agency and will inform the State agency of the action 
taken on the plan or plan amendment.
    E. Review of Implementation of Approved Plans.
    1. Since public assistance cost allocation plans are of a 
narrative nature, the review during the plan approval process 
consists of evaluating the appropriateness of the proposed groupings 
of costs (cost centers) and the related allocation bases. As such, 
the Federal Government needs some assurance that the cost allocation 
plan has been implemented as approved. This is accomplished by 
reviews by the funding agencies, single audits, or audits conducted 
by the cognizant audit agency.
    2. Where inappropriate charges affecting more than one funding 
agency are identified, the cognizant HHS cost negotiation office 
will be advised and will take the lead in resolving the issue(s) as 
provided for in Subpart E of 45 CFR part 95.
    3. If a dispute arises in the negotiation of a plan or from a 
disallowance involving two or more funding agencies, the dispute 
shall be resolved in accordance with the appeals procedures set out 
in 45 CFR part 75. Disputes involving only one funding agency will 
be resolved in accordance with the funding agency's appeal process.
    4. To the extent that problems are encountered among the Federal 
agencies and/or governmental units in connection with the 
negotiation and approval process, the Office of Management and 
Budget will lend assistance, as required, to resolve such problems 
in a timely manner.
    F. Unallowable Costs. Claims developed under approved cost 
allocation plans will be based on allowable costs as identified in 2 
CFR part 225. Where unallowable costs have been claimed and 
reimbursed, they will be refunded to the program that reimbursed the 
unallowable cost using one of the following methods: a cash refund, 
offset to a subsequent claim, or credits to the amounts charged to 
individual awards.

Appendix E to Part 225--State and Local Indirect Cost Rate Proposals

Table of Contents

A. General
B. Definitions
    1. Indirect cost rate proposal
    2. Indirect cost rate
    3. Indirect cost pool
    4. Base
    5. Predetermined rate
    6. Fixed rate
    7. Provisional rate
    8. Final rate
    9. Base period
C. Allocation of Indirect Costs and Determination of Indirect Cost 
Rates
    1. General
    2. Simplified method
    3. Multiple allocation base method
    4. Special indirect cost rates
D. Submission and Documentation of Proposals
    1. Submission of indirect cost rate proposals
    2. Documentation of proposals
    3. Required certification
E. Negotiation and Approval of Rates
F. Other Policies
    1. Fringe benefit rates
    2. Billed services provided by the grantee agency
    3. Indirect cost allocations not using rates
    4. Appeals
    5. Collections of unallowable costs and erroneous payments
    6. OMB assistance
A. General.
    1. Indirect costs are those that have been incurred for common 
or joint purposes. These costs benefit more than one cost objective 
and cannot be readily identified with a particular final cost 
objective without effort disproportionate to the results achieved. 
After direct costs have been determined and assigned directly to 
Federal awards and other activities as appropriate, indirect costs 
are those remaining to be allocated to benefitted cost objectives. A 
cost may not be allocated to a Federal award as an indirect cost if 
any other cost incurred for the same purpose, in like circumstances, 
has been assigned to a Federal award as a direct cost.
    2. Indirect costs include the indirect costs originating in each 
department or agency of the governmental unit carrying out Federal 
awards and the costs of central governmental services distributed 
through the central service cost allocation plan (as described in 
Appendix C to this part) and not otherwise treated as direct costs.
    3. Indirect costs are normally charged to Federal awards by the 
use of an indirect cost rate. A separate indirect cost rate(s) is 
usually necessary for each department or agency of the governmental 
unit claiming indirect costs under Federal awards. Guidelines and 
illustrations of indirect cost proposals are provided in a brochure 
published by the Department of Health and Human Services entitled 
``A Guide for State and Local Government Agencies: Cost Principles 
and Procedures for Establishing Cost Allocation Plans and Indirect 
Cost Rates for Grants and Contracts with the Federal Government.'' A 
copy of this brochure may be obtained from the Superintendent of 
Documents, U.S. Government Printing Office, Washington, DC 20401.
    4. Because of the diverse characteristics and accounting 
practices of governmental units, the types of costs which may be 
classified as indirect costs cannot be specified in all situations. 
However, typical examples of indirect costs may include certain 
State/local-wide central service costs, general administration of 
the grantee department or agency, accounting and personnel services 
performed within the grantee department or agency, depreciation

[[Page 51925]]

or use allowances on buildings and equipment, the costs of operating 
and maintaining facilities, etc.
    5. This appendix does not apply to State public assistance 
agencies. These agencies should refer instead to Appendix D to this 
part.
    B. Definitions.
    1. ``Indirect cost rate proposal'' means the documentation 
prepared by a governmental unit or subdivision thereof to 
substantiate its request for the establishment of an indirect cost 
rate.
    2. ``Indirect cost rate'' is a device for determining in a 
reasonable manner the proportion of indirect costs each program 
should bear. It is the ratio (expressed as a percentage) of the 
indirect costs to a direct cost base.
    3. ``Indirect cost pool'' is the accumulated costs that jointly 
benefit two or more programs or other cost objectives.
    4. ``Base'' means the accumulated direct costs (normally either 
total direct salaries and wages or total direct costs exclusive of 
any extraordinary or distorting expenditures) used to distribute 
indirect costs to individual Federal awards. The direct cost base 
selected should result in each award bearing a fair share of the 
indirect costs in reasonable relation to the benefits received from 
the costs.
    5. ``Predetermined rate'' means an indirect cost rate, 
applicable to a specified current or future period, usually the 
governmental unit's fiscal year. This rate is based on an estimate 
of the costs to be incurred during the period. Except under very 
unusual circumstances, a predetermined rate is not subject to 
adjustment. (Because of legal constraints, predetermined rates are 
not permitted for Federal contracts; they may, however, be used for 
grants or cooperative agreements.) Predetermined rates may not be 
used by governmental units that have not submitted and negotiated 
the rate with the cognizant agency. In view of the potential 
advantages offered by this procedure, negotiation of predetermined 
rates for indirect costs for a period of two to four years should be 
the norm in those situations where the cost experience and other 
pertinent facts available are deemed sufficient to enable the 
parties involved to reach an informed judgment as to the probable 
level of indirect costs during the ensuing accounting periods.
    6. ``Fixed rate'' means an indirect cost rate which has the same 
characteristics as a predetermined rate, except that the difference 
between the estimated costs and the actual, allowable costs of the 
period covered by the rate is carried forward as an adjustment to 
the rate computation of a subsequent period.
    7. ``Provisional rate'' means a temporary indirect cost rate 
applicable to a specified period which is used for funding, interim 
reimbursement, and reporting indirect costs on Federal awards 
pending the establishment of a ``final'' rate for that period.
    8. ``Final rate'' means an indirect cost rate applicable to a 
specified past period which is based on the actual allowable costs 
of the period. A final audited rate is not subject to adjustment.
    9. ``Base period'' for the allocation of indirect costs is the 
period in which such costs are incurred and accumulated for 
allocation to activities performed in that period. The base period 
normally should coincide with the governmental unit's fiscal year, 
but in any event, shall be so selected as to avoid inequities in the 
allocation of costs.
    C. Allocation of Indirect Costs and Determination of Indirect 
Cost Rates.
    1. General.
    a. Where a governmental unit's department or agency has only one 
major function, or where all its major functions benefit from the 
indirect costs to approximately the same degree, the allocation of 
indirect costs and the computation of an indirect cost rate may be 
accomplished through simplified allocation procedures as described 
in subsection 2 of this appendix.
    b. Where a governmental unit's department or agency has several 
major functions which benefit from its indirect costs in varying 
degrees, the allocation of indirect costs may require the 
accumulation of such costs into separate cost groupings which then 
are allocated individually to benefitted functions by means of a 
base which best measures the relative degree of benefit. The 
indirect costs allocated to each function are then distributed to 
individual awards and other activities included in that function by 
means of an indirect cost rate(s).
    c. Specific methods for allocating indirect costs and computing 
indirect cost rates along with the conditions under which each 
method should be used are described in subsections 2, 3 and 4 of 
this appendix.
    2. Simplified method.
    a. Where a grantee agency's major functions benefit from its 
indirect costs to approximately the same degree, the allocation of 
indirect costs may be accomplished by classifying the grantee 
agency's total costs for the base period as either direct or 
indirect, and dividing the total allowable indirect costs (net of 
applicable credits) by an equitable distribution base. The result of 
this process is an indirect cost rate which is used to distribute 
indirect costs to individual Federal awards. The rate should be 
expressed as the percentage which the total amount of allowable 
indirect costs bears to the base selected. This method should also 
be used where a governmental unit's department or agency has only 
one major function encompassing a number of individual projects or 
activities, and may be used where the level of Federal awards to 
that department or agency is relatively small.
    b. Both the direct costs and the indirect costs shall exclude 
capital expenditures and unallowable costs. However, unallowable 
costs must be included in the direct costs if they represent 
activities to which indirect costs are properly allocable.
    c. The distribution base may be total direct costs (excluding 
capital expenditures and other distorting items, such as pass-
through funds, major subcontracts, etc.), direct salaries and wages, 
or another base which results in an equitable distribution.
    3. Multiple allocation base method.
    a. Where a grantee agency's indirect costs benefit its major 
functions in varying degrees, such costs shall be accumulated into 
separate cost groupings. Each grouping shall then be allocated 
individually to benefitted functions by means of a base which best 
measures the relative benefits.
    b. The cost groupings should be established so as to permit the 
allocation of each grouping on the basis of benefits provided to the 
major functions. Each grouping should constitute a pool of expenses 
that are of like character in terms of the functions they benefit 
and in terms of the allocation base which best measures the relative 
benefits provided to each function. The number of separate groupings 
should be held within practical limits, taking into consideration 
the materiality of the amounts involved and the degree of precision 
needed.
    c. Actual conditions must be taken into account in selecting the 
base to be used in allocating the expenses in each grouping to 
benefitted functions. When an allocation can be made by assignment 
of a cost grouping directly to the function benefitted, the 
allocation shall be made in that manner. When the expenses in a 
grouping are more general in nature, the allocation should be made 
through the use of a selected base which produces results that are 
equitable to both the Federal Government and the governmental unit. 
In general, any cost element or related factor associated with the 
governmental unit's activities is potentially adaptable for use as 
an allocation base provided that: it can readily be expressed in 
terms of dollars or other quantitative measures (total direct costs, 
direct salaries and wages, staff hours applied, square feet used, 
hours of usage, number of documents processed, population served, 
and the like), and it is common to the benefitted functions during 
the base period.
    d. Except where a special indirect cost rate(s) is required in 
accordance with subsection 4, the separate groupings of indirect 
costs allocated to each major function shall be aggregated and 
treated as a common pool for that function. The costs in the common 
pool shall then be distributed to individual Federal awards included 
in that function by use of a single indirect cost rate.
    e. The distribution base used in computing the indirect cost 
rate for each function may be total direct costs (excluding capital 
expenditures and other distorting items such as pass-through funds, 
major subcontracts, etc.), direct salaries and wages, or another 
base which results in an equitable distribution. An indirect cost 
rate should be developed for each separate indirect cost pool 
developed. The rate in each case should be stated as the percentage 
relationship between the particular indirect cost pool and the 
distribution base identified with that pool.
    4. Special indirect cost rates.
    a. In some instances, a single indirect cost rate for all 
activities of a grantee department or agency or for each major 
function of the agency may not be appropriate. It may not take into 
account those different factors which may substantially affect the 
indirect costs applicable to a particular program or group of 
programs. The factors may include the physical location of the work, 
the level of administrative support required, the nature of the 
facilities or other resources

[[Page 51926]]

employed, the organizational arrangements used, or any combination 
thereof. When a particular award is carried out in an environment 
which appears to generate a significantly different level of 
indirect costs, provisions should be made for a separate indirect 
cost pool applicable to that award. The separate indirect cost pool 
should be developed during the course of the regular allocation 
process, and the separate indirect cost rate resulting therefrom 
should be used, provided that: the rate differs significantly from 
the rate which would have been developed under subsections 2. and 3. 
of this appendix, and the award to which the rate would apply is 
material in amount.
    b. Although 2 CFR part 225 adopts the concept of the full 
allocation of indirect costs, there are some Federal statutes which 
restrict the reimbursement of certain indirect costs. Where such 
restrictions exist, it may be necessary to develop a special rate 
for the affected award. Where a ``restricted rate'' is required, the 
procedure for developing a non-restricted rate will be used except 
for the additional step of the elimination from the indirect cost 
pool those costs for which the law prohibits reimbursement.
    D. Submission and Documentation of Proposals.
    1. Submission of indirect cost rate proposals.
    a. All departments or agencies of the governmental unit desiring 
to claim indirect costs under Federal awards must prepare an 
indirect cost rate proposal and related documentation to support 
those costs. The proposal and related documentation must be retained 
for audit in accordance with the records retention requirements 
contained in the Common Rule.
    b. A governmental unit for which a cognizant agency assignment 
has been specifically designated must submit its indirect cost rate 
proposal to its cognizant agency. The Office of Management and 
Budget (OMB) will periodically publish lists of governmental units 
identifying the appropriate Federal cognizant agencies. The 
cognizant agency for all governmental units or agencies not 
identified by OMB will be determined based on the Federal agency 
providing the largest amount of Federal funds. In these cases, a 
governmental unit must develop an indirect cost proposal in 
accordance with the requirements of 2 CFR 225 and maintain the 
proposal and related supporting documentation for audit. These 
governmental units are not required to submit their proposals unless 
they are specifically requested to do so by the cognizant agency. 
Where a local government only receives funds as a sub-recipient, the 
primary recipient will be responsible for negotiating and/or 
monitoring the sub-recipient's plan.
    c. Each Indian tribal government desiring reimbursement of 
indirect costs must submit its indirect cost proposal to the 
Department of the Interior (its cognizant Federal agency).
    d. Indirect cost proposals must be developed (and, when 
required, submitted) within six months after the close of the 
governmental unit's fiscal year, unless an exception is approved by 
the cognizant Federal agency. If the proposed central service cost 
allocation plan for the same period has not been approved by that 
time, the indirect cost proposal may be prepared including an amount 
for central services that is based on the latest federally-approved 
central service cost allocation plan. The difference between these 
central service amounts and the amounts ultimately approved will be 
compensated for by an adjustment in a subsequent period.
    2. Documentation of proposals. The following shall be included 
with each indirect cost proposal:
    a. The rates proposed, including subsidiary work sheets and 
other relevant data, cross referenced and reconciled to the 
financial data noted in subsection b of this appendix. Allocated 
central service costs will be supported by the summary table 
included in the approved central service cost allocation plan. This 
summary table is not required to be submitted with the indirect cost 
proposal if the central service cost allocation plan for the same 
fiscal year has been approved by the cognizant agency and is 
available to the funding agency.
    b. A copy of the financial data (financial statements, 
comprehensive annual financial report, executive budgets, accounting 
reports, etc.) upon which the rate is based. Adjustments resulting 
from the use of unaudited data will be recognized, where 
appropriate, by the Federal cognizant agency in a subsequent 
proposal.
    c. The approximate amount of direct base costs incurred under 
Federal awards. These costs should be broken out between salaries 
and wages and other direct costs.
    d. A chart showing the organizational structure of the agency 
during the period for which the proposal applies, along with a 
functional statement(s) noting the duties and/or responsibilities of 
all units that comprise the agency. (Once this is submitted, only 
revisions need be submitted with subsequent proposals.)
    3. Required certification. Each indirect cost rate proposal 
shall be accompanied by a certification in the following form:

Certificate of Indirect Costs

    This is to certify that I have reviewed the indirect cost rate 
proposal submitted herewith and to the best of my knowledge and 
belief:
    (1) All costs included in this proposal [identify date] to 
establish billing or final indirect costs rates for [identify period 
covered by rate] are allowable in accordance with the requirements 
of the Federal award(s) to which they apply and 2 CFR part 225, Cost 
Principles for State, Local, and Indian Tribal Governments (OMB 
Circular A-87). Unallowable costs have been adjusted for in 
allocating costs as indicated in the cost allocation plan.
    (2) All costs included in this proposal are properly allocable 
to Federal awards on the basis of a beneficial or causal 
relationship between the expenses incurred and the agreements to 
which they are allocated in accordance with applicable requirements. 
Further, the same costs that have been treated as indirect costs 
have not been claimed as direct costs. Similar types of costs have 
been accounted for consistently and the Federal Government will be 
notified of any accounting changes that would affect the 
predetermined rate.
    I declare that the foregoing is true and correct.

Governmental Unit:-----------------------------------------------------

Signature:-------------------------------------------------------------

Name of Official:------------------------------------------------------

Title:-----------------------------------------------------------------

Date of Execution:-----------------------------------------------------

    E. Negotiation and Approval of Rates.
    1. Indirect cost rates will be reviewed, negotiated, and 
approved by the cognizant Federal agency on a timely basis. Once a 
rate has been agreed upon, it will be accepted and used by all 
Federal agencies unless prohibited or limited by statute. Where a 
Federal funding agency has reason to believe that special operating 
factors affecting its awards necessitate special indirect cost 
rates, the funding agency will, prior to the time the rates are 
negotiated, notify the cognizant Federal agency.
    2. The use of predetermined rates, if allowed, is encouraged 
where the cognizant agency has reasonable assurance based on past 
experience and reliable projection of the grantee agency's costs, 
that the rate is not likely to exceed a rate based on actual costs. 
Long-term agreements utilizing predetermined rates extending over 
two or more years are encouraged, where appropriate.
    3. The results of each negotiation shall be formalized in a 
written agreement between the cognizant agency and the governmental 
unit. This agreement will be subject to re-opening if the agreement 
is subsequently found to violate a statute, or the information upon 
which the plan was negotiated is later found to be materially 
incomplete or inaccurate. The agreed upon rates shall be made 
available to all Federal agencies for their use.
    4. Refunds shall be made if proposals are later found to have 
included costs that are unallowable as specified by law or 
regulation, as identified in Appendix B to this part, or by the 
terms and conditions of Federal awards, or are unallowable because 
they are clearly not allocable to Federal awards. These adjustments 
or refunds will be made regardless of the type of rate negotiated 
(predetermined, final, fixed, or provisional).
    F. Other Policies.
    1. Fringe benefit rates. If overall fringe benefit rates are not 
approved for the governmental unit as part of the central service 
cost allocation plan, these rates will be reviewed, negotiated and 
approved for individual grantee agencies during the indirect cost 
negotiation process. In these cases, a proposed fringe benefit rate 
computation should accompany the indirect cost proposal. If fringe 
benefit rates are not used at the grantee agency level (i.e., the 
agency specifically identifies fringe benefit costs to individual 
employees), the governmental unit should so advise the cognizant 
agency.
    2. Billed services provided by the grantee agency. In some 
cases, governmental units provide and bill for services similar to 
those covered by central service cost allocation plans (e.g., 
computer centers). Where this

[[Page 51927]]

occurs, the governmental unit should be guided by the requirements 
in Appendix C to this part relating to the development of billing 
rates and documentation requirements, and should advise the 
cognizant agency of any billed services. Reviews of these types of 
services (including reviews of costing/billing methodology, profits 
or losses, etc.) will be made on a case-by-case basis as warranted 
by the circumstances involved.
    3. Indirect cost allocations not using rates. In certain 
situations, a governmental unit, because of the nature of its 
awards, may be required to develop a cost allocation plan that 
distributes indirect (and, in some cases, direct) costs to the 
specific funding sources. In these cases, a narrative cost 
allocation methodology should be developed, documented, maintained 
for audit, or submitted, as appropriate, to the cognizant agency for 
review, negotiation, and approval.
    4. Appeals. If a dispute arises in a negotiation of an indirect 
cost rate (or other rate) between the cognizant agency and the 
governmental unit, the dispute shall be resolved in accordance with 
the appeals procedures of the cognizant agency.
    5. Collection of unallowable costs and erroneous payments. Costs 
specifically identified as unallowable and charged to Federal awards 
either directly or indirectly will be refunded (including interest 
chargeable in accordance with applicable Federal agency 
regulations).
    6. OMB assistance. To the extent that problems are encountered 
among the Federal agencies and/or governmental units in connection 
with the negotiation and approval process, OMB will lend assistance, 
as required, to resolve such problems in a timely manner.

[FR Doc. 05-16649 Filed 8-30-05; 8:45 am]
BILLING CODE 3110-01-P