Allowable vs. Unallowable Entertainment Costs for Gov. Contracts

Section 31 of Government contracts outlines contract cost principles and procedures. This blog will focus primarily on sub-sections 31.205-13 and 31.205-14. The topics discussed in those two sub-sections highlight allowable and unallowable costs included in government contracts concerning employee morale, health, welfare, food service, dormitory costs and credits, and entertainment costs.

Section 31.205-13 explains that costs incurred on activities designed to improve working conditions, employer-employee relationships, employee morale, and employee performance are allowable. Some examples include House publications, health clinics, wellness/fitness center, employee counseling services, food and dormitory services for contractor’s whose employees are at or near contractors facilities. The overall goal of this sub-section from the governments perspective is to promote contractors to improve the working environment for their employees by allowing those costs associated with employee morale to be included in the contract. However the government draws a fine line between previously described employee morale costs and costs of the entertainment. The costs of entertainment as discussed later, are specifically unallowable. Certain situations relating to sub-section 31.205-13 on employee morale are worth discussing, including cost of recreation and contributions by the contractor to an employee organization.

The costs of recreation are unallowable, except the costs of an employee’s participation in company sponsored sports teams or an employee organization designed to improve company loyalty, team work, or physical fitness. For example, the cost of a company designed softball team would be allowable because of the promotion of physical fitness and team work. If entertainment was to be provided, such as beverages before or after the game, costs associated with such entertainment would be deemed unallowable in the contract. Contributions by the contractor to an employee organization are allowable only to the extent that the contractor demonstrates that an equivalent amount of costs incurred by the employee organization would be allowable if directly incurred by the contractor.

Section 31.205-14 of the FAR outline on government contract costs and procedures describes the costs of entertainment as costs of amusement, diversions, social activities, and any directly associated costs such as tickets to shows or sports events, meals, lodging, rentals, transportation, and gratuities as unallowable. Also outlined in section as unallowable are costs of memberships in social clubs, regardless of whether the cost is report as taxable income to the employees. The key point to understand between these two sections is the innate grey area formed between entertainment for employees of contractors and costs towards improving employee morale, fitness, and overall well being. An important factor in determining between two different categories is focusing on the benefit provided from each individual transaction. Think about the outcome from each purchase and receipt provided, and what benefit it ultimately provides the contractor. An analytical thought process will help determine whether the cost is allowable or unallowable. An important note is that any event involving alcohol is automatically considered an entertainment based event and is unallowable.

When reviewing your company’s transactions look for specific items on each receipt in determining how to categorize the costs for government contracts. Be proactive and ask questions to the individual or group who made the purchase and use them as a guide to determine how best to categorize the transaction.

Written by:
Marcus van Leeuwen
TGG Accounting

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