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RULE §732.240What are the general principles of allowable and unallowable costs?

(a) In cost reimbursement contracts, the Department reimburses its contractors only for costs (both direct and indirect) which are allowable, reasonable, necessary, and properly allocated to the specific contract. The cost guidelines, principles, and definitions for allowable and unallowable costs (both direct and indirect) for purposes of preparing budgets, for expenditure purposes, and for cost-reporting purposes are the same. Those guidelines are published in federal and state regulations. Contractors receiving Title IV-E funding on a cost reimbursement basis are required to be in compliance with 45 Code of Federal Regulations (CFR) Part 74 and 48 CFR Part 31 regarding the use and expenditure of Title IV-E funds. Contractors receiving Title IV-B funding on a cost reimbursement basis are required to be in compliance with 45 CFR Part 92 regarding the use and expenditure of Title IV-B funds. All purchased client services contractors (both for-profits and nonprofits) who have cost reimbursement contracts are required to be in compliance with Office of Management and Budget (OMB) Circular A-110 (Uniform Administrative Requirements for Grants and Agreements with Institutions of Higher Education, Hospitals and Other Non-Profit Organizations). If the contractor is a governmental entity, the contractor shall remain in compliance with OMB Circular A-87 (Cost Principles for State and Local Governments). If the contractor is either a for-profit entity or a nonprofit entity, the contractor is required to be in compliance with OMB Circular A-122 (Cost Principles for Nonprofit Organizations). In the event of any conflict or contradiction between or among the regulations referenced in this subsection, the regulations shall control in the following order of precedence:

  (1) federal regulations - for Title IV-E funding, 45 CFR Part 74 and 48 CFR Part 81; for Title IV-B funding, 45 CFR Part 92;

  (2) federal OMB circulars - OMB Circular A-110 and either OMB Circular A-87 or OMB Circular A-122, as applicable;

  (3) state regulations; and

  (4) any other applicable departmental regulations.

(b) Costs budgeted, expended, used, and/or reported by a contractor and/or paid by the Department must be consistent with generally accepted accounting principles (GAAP), which are those principles approved by the American Institute of Certified Public Accountants (AICPA). Internal Revenue Services (IRS) laws and regulations do not necessarily apply in the preparation of budgets, the expenditure, and/or use of funds received from the Department, and/or the reporting of costs to the Department. In cases where there are differences between the Department's rules, GAAP, IRS, or other authorities, the Department's rules take precedence.

(c) The contractor's accounting system must include an accurate and consistent method for gathering statistical information that properly relates the costs incurred to the units of service rendered.

(d) The contractor is responsible for designing and implementing fiscal policies and ensuring that financial data are collected, recorded, and analyzed as part of the delivery of service under a contract with the Department.

(e) Costs incurred under less-than-arms-length (related-party) transactions are allowable only up to the cost to the related party (see OMB Circulars A-87 and A-122). However, the cost must not exceed the price of comparable services, equipment, facilities, or supplies that could be purchased or leased elsewhere. The purpose of this principle is twofold: to avoid the payment of a profit factor to the contractor through the related organization (whether related by common ownership or control), and to avoid payment of artificially-inflated costs which may be generated from less-than-arms-length bargaining. The related organization's costs include all reasonable costs, direct and indirect, incurred in the furnishing of services, equipment, facilities, and supplies to the contractor. The intent is to treat the costs incurred by the related organization as if they were incurred by the contractor itself. An exception is provided to the general rule applicable to related organizations and applies if the contractor demonstrates by convincing evidence to the satisfaction of the Department that certain criteria have been met. Those criteria are:

  (1) The related organization is a bona fide separate corporation and not merely an operating division of the contractor's organization;

  (2) A majority of the related organization's business activity of the type carried on with the contractor is transacted with other organizations not related to the contractor or the related organization by common ownership or control and there is an open, competitive market for the type of services, equipment, facilities, or supplies furnished by the related organization. In determining whether the business activities are of a similar type, it is important also to consider the scope of the business activity. The requirement that there be an open, competitive market is intended to assure that the item supplied has a readily discernible price that is established through arms-length bargaining by well-informed buyers and sellers;

  (3) The charge to the contractor is in line with the charge for such services, equipment, facilities, or supplies in the open, competitive market and no more than the charge made under comparable circumstances to others by the related organization for such services, equipment, facilities, or supplies; and

  (4) In determining whether a contractor is related to a supplying organization, the tests of common ownership and control are to be applied separately. Related to a contractor means that the contractor to a significant extent is associated or affiliated with, has control of, or is controlled by the organization furnishing the services, equipment, facilities, or supplies. Common ownership exists if an individual or individuals posses any ownership or equity in the contractor and the supplying organization. Control exists if an individual or an organization has the power, directly or indirectly, to significantly influence or direct the actions or policies of an organization or institution. If the elements of common ownership or control are not present in both organizations (i.e., the contractor and the supplying organization), then the organizations are deemed not to be related to each other. The existence of an immediate family relationship will create a conclusive presumption of relatedness through control or attribution of ownership or equity interests where the significance tests are met. The following persons are considered immediate family: husband and wife; natural parent, child, and sibling; adopted child and adoptive parent; stepparent, stepchild, stepsister, and stepbrother; father-in-law, mother-in-law, sister-in-law, brother-in-law, son-in-law, and daughter-in-law; grandparent and grandchild; uncles and aunts by blood or marriage; nephews and nieces by blood or marriage; and first cousins by blood or marriage:

    (A) A determination as to whether an individual (or individuals) or organization possesses ownership or equity in the contractor and the supplying organization, so as to consider the organizations related by common ownership, will be made on the basis of the facts and circumstances in each case. This rule applies whether the contractor or supplying organization is a sole proprietorship, partnership, corporation, trust or estate, or any other form of business organization, proprietary or nonprofit. In the case of a nonprofit organization, ownership or equity interest will be determined by reference to control of the organization or to an interest in the assets of the organization; for example, a reversionary interest provided for in the articles of incorporation of a nonprofit organization.

    (B) The term control includes any kind of control, whether or not it is legally enforceable and however it is exercisable or exercised. It is the reality of the control which is decisive, not its form or the mode of its exercise. The facts and circumstances in each case must be examined to ascertain whether legal or effective control exists. Since a determination made in a specific case represents a conclusion based on the entire body of facts and circumstances, such determination should not be used as a precedent in other cases unless the facts and circumstances are substantially the same. Organizations, whether proprietary or nonprofit, are considered to be related through control of their directors or officers in common.

  (5) Disclosure of all less-than-arms-length (related-party) transactions is required for all costs budgeted, expended, used, and/or reported by the contractor, including related-party transactions occurring at any level in the contractor's organization. The contractor must make available, upon request, adequate documentation to support the costs incurred by the related party. Such documentation could include an identification of the related organization's total costs, the basis of allocation of direct and indirect costs to the contractor, and other business entities served. If a contractor fails to provide adequate documentation to substantiate the cost to the related organization, then the cost is unallowable.

(f) Direct costing must be used whenever reasonably possible. Direct costing means that costs, direct or indirect, incurred for the benefit of, or directly attributable to, a specific business component must be directly charged to that particular business component. For direct costs as defined in OMB Circulars A-122 and A-87, direct costing is required. For indirect costs as defined in OMB Circulars A-122 and A-87, it is necessary to allocate these costs either directly or as a pool of costs across those business components sharing in the benefits of those costs. If cost allocation is necessary, contractors must use reasonable methods of allocation and must be consistent in their use of allocation methods across all program areas and business entities in which the contractor has an interest (see OMB Circulars A-87 and A-122).

(g) Allowable and unallowable costs for residential child-care contracts are governed by 1 TAC Chapter 355 (relating to Reimbursement Rates).

Source Note: The provisions of this §732.240 adopted to be effective November 15, 2001, 26 TexReg 9222; amended to be effective December 1, 2007, 32 TexReg 7933; amended to be effective June 1, 2014, 39 TexReg 3714

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