[Federal Register Volume 68, Number 97 (Tuesday, May 20, 2003)]
[Rules and Regulations]
[Pages 27452-27459]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 03-12553]


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DEPARTMENT OF DEFENSE

Office of the Secretary

32 CFR Part 3

RIN 0790-AH01


Transactions Other Than Contracts, Grants, or Cooperative 
Agreements for Prototype Projects

AGENCY: Office of the Secretary, DoD.

ACTION: Final rule.

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SUMMARY: This final rule establishes the Department's audit policy for 
prototype projects that use ``other transaction'' authority. 
Representatives of the military departments, Defense agencies and other 
DoD activities, have agreed on a final rule that amends the proposed 
rule as a result of comments received.

EFFECTIVE DATES: This final rule will become effective on June 19, 
2003. This final rule will become effective for new solicitations 
issued on June 19, 2003, and for any issued thereafter. This final rule 
may be used for new prototype awards that result from solicitations 
issued prior to June 19, 2003.

FOR FURTHER INFORMATION CONTACT: David Capitano, (703) 847-7486.

SUPPLEMENTARY INFORMATION: 

Background and Purpose

    Section 845 of the National Defense Authorization Act for Fiscal 
Year 1994, Public Law 103-160, 107 Stat. 1547, as amended, authorizes 
the Secretary of a Military Department, the Director of Defense 
Advanced Research Projects Agency and any other official designated by 
the Secretary of Defense, to enter into transactions other than 
contracts, grants or cooperative agreements in certain situations for 
prototype projects that are directly relevant to weapons or weapon 
systems proposed to be acquired or developed by the Department of 
Defense. Such transactions are commonly referred to as ``other 
transaction'' agreements for prototype projects. To the extent that a 
particular statute or regulation is limited in its applicability to the 
use of a procurement contract, it would generally not apply to ``other 
transactions'' for prototype projects.
    Part 3 to 32 CFR was established to codify policy pertaining to 
prototype ``other transactions'' that have a significant impact on the 
public and are subject to rulemaking. Additional guidance on prototype 
``other transactions'' directed at Government officials can be found at 
the Defense Procurement Web site at: http://www.osd.dp.mil.
    A proposed rule was published in the Federal Register (66 FR 58422-
58425) for public comment on November 21, 2001. A notice of public 
meeting was published in the Federal Register on March 4, 2002 (67 FR 
9632), and held on March 27, 2002. The proposed rule addressed 
conditions on use of ``other transactions'' for prototype projects, the 
nontraditional Defense contractor definition and audit policy. Comments 
on the proposed rule were received from five respondents and 
approximately 50 representatives of Government and industry attended 
the public meeting. The majority of the written comments

[[Page 27453]]

and discussion at the public meeting focused on the audit policy and 
are addressed in this final rule. The following summarizes the comments 
regarding audit policy and the disposition.
    The following is a summary of the public input and the DoD response 
thereto (the source of the input is annotated after each comment):

A. General

    1. Public Comment: The policy will discourage nontraditional 
Defense contractors from doing business with DoD (written public 
comments--five commenters).
    DoD Response: A key concept of our form of government is 
accountability for its resources. DoD recognizes the balance that must 
be achieved between encouraging nontraditional contractors to do 
business with the DoD and the key concept of accountability for public 
funds. DoD believes there are certain instances when the government, 
either through use of an Independent Public Accountant (IPA) or a 
government employee, must have access to the awardee's books and 
records. However, in response to this and other comments, a number of 
revisions have been made to the proposed rule to reduce the potential 
for discouraging nontraditional Defense contractors. These revisions 
include raising the mandatory applicability requirements to $5 million 
per cost-type agreement, providing for a deviation from the mandatory 
applicability requirements for agreements in excess of $5 million, 
specifying instances in which the government could have no direct 
access to the contractor's books and records, and specifying that the 
government will make copies of IPA work papers when there is evidence 
that the audit has not been properly performed.
    2. Public Comment: The value of the expanded policy and oversight 
is questionable (written public comment--one commenter).
    DoD Response: DoD believes there is value in having an access to 
records policy that properly balances the need to encourage contractor 
participation with the need to obtain access to records necessary to 
ensure compliance with the terms of the agreement. However, DoD 
recognizes that the proposed rule needed to be revised to provide more 
flexibility towards achieving this balance.
    3. Public Comment: Balance the need for audit access with the 
possible loss of access to technology (public meeting).
    DoD Response: DoD agrees there must be an appropriate balance 
between the need to access new technologies and the level of access 
required to assure compliance with the terms of the agreement. DoD 
believes the final rule achieves this appropriate balance.
    4. Public Comment: Review the language throughout the rule to 
ensure consistency of terms (public meeting).
    DoD Response: DoD has reviewed the terms in the final rule to 
ensure consistency.
    5. Public Comment: Revise the tone and verbiage of the proposed 
rule to reduce the perception of intrusion (public meeting).
    DoD Response: DoD believes the final rule reduces the perception of 
intrusion noted at the public meeting. For example, the final rule 
states that the purpose of the government's review of an IPA's work 
papers is to verify compliance with Generally Accepted Government 
Auditing Standards (GAGAS). The rule also states that the government 
has no direct access to awardee records for nontraditional Defense 
contractors that refuse to accept government access. Another example is 
the language that provides for the government to make copies of audit 
work papers only if the audit has not been performed in accordance with 
GAGAS. Finally, the length and extent of audit access language 
specifies that access should be provided only to the extent needed to 
verify the actual costs or statutory cost share.

B. Definitions

    1. Public Comment: Definition of ``Key Participant'' should be 
clarified for applicability to subawardees and their segments (written 
public comments--two commenters).
    DoD Response: Revisions to the proposed rule have eliminated the 
need for the term ``key participant'' in the final rule.
    2. Public Comment: Delete or define terms ``subordinate element'' 
and ``awardee'' (written public comments--two commenters).
    DoD Response: Revisions to the proposed rule have eliminated the 
need for the term ``subordinate'' in the final rule. The term 
``awardee'' was defined in the final rule issued on August 27, 2002 (67 
FR 54955), regarding conditions for use.
    3. Public Comment: Define ``Qualified Independent Public 
Accountant'' (written public comment--one commenter).
    DoD Response: The final rule provides a definition of a ``Qualified 
Independent Public Accountant.''

C. Statutory Basis

    Public Comment: Withdraw audit policy and clauses in their entirety 
because they are not required or implied by statute, rule, or 
regulation. The audit policy is not supported by legislative direction 
and not tailored to implement changes in 2000 or 2001 DoD Authorization 
Acts. The audit policy should incorporate only those provisions in 
section 803 of the FY 2000 DoD Authorization Act (written public 
comments--two commenters).
    DoD Response: DoD does not believe the policy should be withdrawn. 
DoD believes that issuance of this final rule is consistent with the 
statutory requirements for the use of other transactions. The statutory 
authority for other transactions specifically requires, at 10 U.S.C. 
2371, that the Secretary of Defense `` * * * shall prescribe 
regulations to carry out this section.'' DoD believes that this access 
to records policy is consistent with that statutory requirement.

D. Flexibility

    1. Public Comment: Replace audit policy with a general statement 
such as ``If the Agreements Officer determines that an audit right is 
required, the coverage, length and extent shall be mutually agreed to 
by the parties. The audit shall be performed by an independent auditor 
that is mutually acceptable to the parties, and all audit expenses 
shall be reimbursed by the government'' (written public comment--one 
commenter).
    DoD Response: For agreements that are less than $5 million, DoD 
agrees that general language providing the Contracting Officer with 
flexibility in negotiating the coverage, length, and extent of access 
is appropriate. DoD believes that, for cost-type agreements in excess 
of $5 million, more specific policy is necessary. However, the final 
rule provides flexibility to deviate from the specific policy when 
supported by the particular facts and circumstances.
    2. Public Comment: Rely on awardee's internal auditors, 
certification of accounting procedures and documentation, and if 
necessary a tailored audit clause providing limited access for 
independent auditor (written public comment--one commenter).
    DoD Response: DoD does not believe it is sufficient to rely on an 
awardee's internal auditors when cost-type agreements provide for 
government payments that exceed $5 million. DoD agrees that access is 
limited to those records that are needed to verify the established 
cost-share, actual costs or reporting used as the basis for payments.
    3. Public Comment: Limit audits to post-verification of cost 
sharing only. Costs incurred should not be subject to

[[Page 27454]]

audit other than GAO (written public comments--three commenters).
    DoD Response: DoD believes the government should not preclude 
reviews when payments are based on amounts generated from awardee's 
financial or cost records. The government needs to have some reasonable 
assurance regarding the appropriateness of those amounts. DoD believes 
the final rule provides such reasonable assurance while also providing 
appropriate flexibility in its application.
    4. Public Comment: Audits for other than cost sharing should apply 
only if there is reason to believe an impropriety has occurred (written 
public comment--one commenter).
    DoD Response: DoD believes the government should not limit reviews 
of actual costs incurred to cases where there is a reason to believe an 
impropriety has occurred. When cost-type agreements provide for 
government payments that exceed $5 million, the government needs to 
have some reasonable assurance regarding the appropriateness of those 
amounts. DoD believes the final rule provides such reasonable assurance 
while also providing appropriate flexibility in its application.

E. Applicability

    1. Public Comment: Need to establish a threshold for applicability 
to prime recipients (written public comment--one commenter).
    DoD Response: DoD agrees that a threshold for mandatory application 
of the policy is needed. The final rule establishes that threshold at 
$5 million per cost-type agreement. DoD believes this is an appropriate 
threshold because it will cover a majority of the dollars while 
exempting a majority of the agreements from mandatory application of 
the policy. Using data from the past eight years, it is anticipated 
that this threshold will provide the government with access to records 
for 89% of all government dollar under cost-type agreements, while also 
exempting 78% of those agreements from mandatory application of the 
policy.
    2. Public Comment: Consider whether the language regarding 
``payments generated from financial records'' could be misconstrued and 
applied too broadly. Examples of when the language would and would not 
apply should be considered (public meeting).
    DoD Response: The language ``payments generated from financial 
records'' has been included in the final rule within the definition of 
a cost-type other transaction. To reduce potential misunderstanding or 
inappropriate application, the final rule includes examples of what 
constitutes a cost-type agreement.
    3. Public Comment: Consider providing the Agreements Officer more 
flexibility in the application of the audit access clause (public 
meeting).
    DoD Response: The final rule provides the Agreements Officer with 
the flexibility to negotiate the length and extent of access for any 
agreements that are less than $5 million. It also provides for the 
ability to deviate from some or all of the specific access requirements 
for cost-type agreements in excess of $5 million when such deviation is 
adequately supported by the particular facts and circumstances. The 
Agreements Officer should consult with the cognizant auditor to ensure 
that the benefits of such a deviation outweigh any increased risks to 
the Government.
    4. Public Comment: Consider addressing the circumstances where a 
single agreement has both cost-based and fixed-price portions (public 
meeting).
    DoD Response: DoD believes the examples of a cost-type agreement 
included in the proposed rule provides sufficient guidance for use by 
Agreements Officers in determining proper application of the policy to 
those unique circumstances in which an agreement has both cost-type and 
fixed-price portions.
    5. Public Comment: Consider using different thresholds for 
nontraditional vs. traditional contractors (public meeting).
    DoD Response: DoD considered using different thresholds for 
nontraditional and traditional contractors, but believes such an 
application would result in unnecessary complexity. DoD believes 
requiring application of the policy to all cost-type agreements in 
excess of $5 million is a more desirable approach because (1) it is 
anticipated to include a majority of the Government dollars on cost-
type agreements while also exempting most of the agreements from 
mandatory application, and (2) it provides for the same threshold as 
the Comptroller General access, thereby providing a simple unified 
threshold for applying the two requirements.
    6. Public Comment: Make the application of the audit policy at the 
discretion of the Agreements Officer regardless of the dollar amount of 
the agreement (public meeting).
    DoD Response: DoD believes it is desirable to provide some specific 
policy for access to records when agreements exceed $5 million. 
However, DoD recognizes the need for an Agreements Officer to be able 
to exercise good business judgment. Under the final rule, for 
agreements that are less than $5 million, application of the audit 
policy is solely at the discretion of the Agreements Officer. In 
addition, for cost-type agreements in excess of $5 million, the final 
rule provides for a deviation from application of the policy if 
supported by the particular facts and circumstances.
    7. Public Comment: Make the application of the audit policy 
mandatory regardless of the dollar amount of the agreement (public 
meeting).
    DoD Response: DoD established a threshold that minimizes its risk. 
We did so to encourage participation by non traditional contractors. 
DoD believes that, for agreements that are less than $5 million, the 
Agreements Officer should have the flexibility to negotiate audit 
access to records based on their assessment of risk of the particular 
agreement.
    8. Public Comment: Apply the audit threshold requirements at $5 
million per agreement. This is the same as the GAO access requirements 
and the trigger for Earned Value Management (public meeting).
    DoD Response: DoD agrees that this threshold is appropriate for 
mandatory application of the policy. In addition to being the same as 
the GAO access requirements (which simplifies application), DoD also 
believes that threshold, with its accompanying provisions for 
deviation, properly balances the need for access to records with the 
need to encourage contractor participation.
    9. Public Comment: Consider using a trigger threshold requirement 
such as that used in applying the Cost Accounting Standards (public 
meeting).
    DoD Response: DoD considered using a trigger concept, but believes 
such a concept would be unnecessarily complex. The $5 million threshold 
per cost-type agreement is a simplified approach that achieves the 
proper balance between the need for access to records and the need to 
encourage contractor participation.
    10. Public Comment: The rule should not apply to nontraditional 
contractors (written public comment--one commenter).
    DoD Response: DoD believes the final rule properly balances the 
need to access records with the concerns of nontraditional Defense 
contractors. The final rule provides for application of the policy for 
cost-type agreements in excess of $5 million. It is anticipated, based 
on past history, that this will exempt about 78% of the agreements. For 
the remaining 22%, the final rule

[[Page 27455]]

provides for a deviation when supported by the particular facts and 
circumstances. In those remaining instances where the access 
requirements are applied to nontraditional Defense contractors, the 
rule provides for use of an Independent Public Accountant if the 
nontraditional Defense contractor refuses Government access to its 
records.
    11. Public Comment: The rule should state that it does not apply to 
existing agreements (written public comment--one commenter).
    DoD Response: The final rule specifies the Other Transactions to 
which the policy applies, which does not include existing agreements.

F. Use of an Independent Public Accountant (IPA)

    1. Public Comment: Use of an IPA will discourage nontraditional 
contractors because of the need for accounting systems to fully 
document costs and government access to IPA work papers that include 
company proprietary information (written public comments--two 
commenters).
    DoD Response: DoD believes an awardee should maintain an accounting 
system that adequately supports the amounts used as the basis for 
payment regardless of whether the Government has access to the 
awardee's records. An awardee that enters into a cost-type agreement 
should have some sort of accounting system that adequately supports 
those amounts. In regard to company proprietary information, the final 
rule addresses this concern by limiting the government's right to make 
copies of the IPA's work papers to instances where there is evidence 
the audit has not been performed in accordance with GAGAS.
    2. Public Comment: Delete government access to IPA work papers to 
protect propriety information of awardees/participants (written public 
comments--two commenters).
    DoD Response: DoD believes it is important for the government to 
have access to IPA work papers to assure the audit has been performed 
in accordance with GAGAS. However, in recognition of the concern 
expressed by the commenter, the final rule limits the government's 
right to make copies of the IPA's work papers to instances where there 
is evidence the audit has not been performed in accordance with those 
standards.
    3. Public Comment: The statements ``Use amounts generated from the 
awardee's financial or cost records as the basis for payment'' and 
``direct access to sufficient records to ensure full accountability for 
all government funding'' are too broad and too vague. Audit access 
should be for very limited with focused purposes (written public 
comment--one commenter).
    DoD Response: The final rule includes specific examples of a cost-
type agreements which is defined as agreements where payments are based 
on amounts generated from the awardee's financial or cost records or 
that require at least one third of the total costs to be provided by 
non-Federal parties pursuant to statute. The statement ``direct access 
to sufficient records to ensure full accountability for all government 
funding'' has been replaced by a more focused requirement that the 
government have access to directly pertinent records ``needed to verify 
the actual costs or reporting used as the basis of payment or to verify 
statutorily required cost share under the agreement.''
    4. Public Comment: Define GAGAS (written public comment--one 
commenter).
    DoD Response: The final rule includes a description of Generally 
Accepted Government Auditing Standards and where those standards can be 
found.
    5. Public Comment: The rule should require the agreement to specify 
the percentage of payments that may be withheld when an audit by an IPA 
is not adequately performed (written public comment--one commenter).
    DoD Response: The final rule states that the Agreements Officer has 
the right to ``withhold or disallow a specified percentage of costs 
until the audit is completed satisfactorily. The specified percentage 
should be sufficient to enhance performance or corrective action while 
also not being unfairly punitive.''
    6. Public Comment: Change ``should'' to ``shall'' in statement that 
``Agreement Officer should grant approval to use an IPA when 
participant is not performing contract subject to Cost Principles/CAS 
and refuses to accept award if government has access'' (written public 
comment--one commenter).
    DoD Response: The final rule states that the access to records 
clause for business units not performing contracts subject to the Cost 
Principles/CAS ``must provide for the use of a qualified IPA if such a 
business unit will not accept the agreement if the government has 
access to the business unit's records.''
    7. Public Comment: Sample audit clause should revise ``The audit 
will be conducted by an IPA'' to ``The audit will be conducted by a 
mutually acceptable IPA at government expense'' (written public 
comment--one commenter).
    DoD Response: To reduce the complexity of the rule and assure 
maximum flexibility for the Agreements Officer, the final rule deletes 
all of the sample audit clauses. Sample audit clauses intended to serve 
as a guide can be found at http://www.osd.mil/dp (under the ``Other 
Transactions'' Special Interest Item in ``Questions and Answers''). 
These samples may be modified as necessary to address the particular 
facts and circumstances of each agreement.
    8. Public Comment: Add language stating that the purpose of the 
audit of an IPA's work papers is to verify compliance with GAGAS 
(public meeting).
    DoD Response: The final rule states that the government will have 
access to the IPA's audit reports and working papers to ensure that the 
IPA has performed the audit in accordance with GAGAS.
    9. Public Comment: Eliminate the need to access an IPA's work 
papers and rely on AICPA standards and public accounting peer reviews 
(public meeting).
    DoD Response: DoD does not believe the AICPA standards and peer 
reviews provide adequate assurance that the audit of the other 
transaction has been performed in accordance with GAGAS because (a) 
GAGAS has some requirements that are not included in the AICPA 
standards, and (b) public accounting peer reviews focus on financial 
statement reviews and compliance with GAAS (as opposed to government 
financial payment reviews and compliance with GAGAS).
    10. Public Comment: Require that IPA's comply with Generally 
Accepted Auditing Standards (GAAS) instead of GAGAS (public meeting).
    DoD Response: The requirement to comply with GAGAS is a statutory 
requirement that cannot be waived by DoD. The Inspector General Act of 
1978 (as amended) requires that audit work of Federal organizations, 
programs, activities, and functions comply with GAGAS.
    11. Public Comment: Add language stating that, when an IPA's report 
is not adequate, an Agreements Officer should consider terminating an 
agreement only if it is impractical to withhold monies or suspend 
performance until the audit is satisfactorily performed (public 
meeting).
    DoD Response: The final rule states that the Agreements Officer may 
terminate the agreement only if it is not practical to either (a) 
withhold monies, or (b) suspend performance until the audit is 
completed satisfactorily.

[[Page 27456]]

G. DoDIG Access

    Public Comment: Delete 3.7(f)(2) that states if Agreements Officer 
gets access, DoDIG also gets access. This is not supported by statute. 
The only audit access in section 804 of Public Law 106-398 is for GAO, 
not DoDIG (written public comment--two commenters).
    DoD Response: While section 804 of Public Law 106-398 does not 
provide for DoDIG access, such access is provided for in the Inspector 
General Act (Public Law 95-452). Public Law 95-452 provides that the 
Inspector General shall have access to the same records as the agency 
(DoD) and its employees (e.g., the Agreements Officer). Thus, in 
accordance with this statute, if an agreement gives the Agreements 
Officer or another DoD component official access to a business unit's 
records, the DoDIG is granted the same access to those records.

H. Audit Performance

    1. Public Comment: Delete the word ``normally'' from ``Audits 
normally will be performed only when Agreements Officer determines it 
is necessary to verify the awardee's compliance with the terms of the 
agreement'' (written public comment--one commenter).
    DoD Response: The final rule deletes the word ``normally.'' The 
final rule states that ``Audits will be performed when the Agreements 
Officer determines it is necessary to verify statutory cost share or to 
verify amounts generated from financial or cost records that will be 
used as the basis for payment or adjustment of payment.''
    2. Public Comment: Consider adding a ``problem statement'' 
describing what the policy is intending to correct (public meeting).
    DoD Response: DoD does not believe it adds value to include a 
``problem statement'' in the final rule. However, in response to the 
public comment, DoD notes that in developing the proposed and final 
rule, DoD has considered the ``problem'' to be the extent of access to 
records required by the government on cost-type agreements. The goal is 
to achieve an appropriate balance between the need to access new 
technologies and the level of access required to assure compliance with 
the terms of the agreement.
    3. Public Comment: Consider permitting reviews of records at the 
awardee facility only, i.e., the government would be precluded from 
removing records from the contractor's facility (public meeting).
    DoD Response: DoD does not believe it is necessary to limit access 
to records at the awardee facility. However, DoD recognizes the concern 
expressed at the public meeting. For traditional contractors, the final 
rule does not provide any more access than the government currently has 
under procurement contracts with those contractors. For nontraditional 
Defense contractors, the rule provides for the use of an IPA if the 
nontraditional Defense contractor refuses to grant access to the 
government. In those instances, the government has no direct access to 
the nontraditional Defense contractors' books and records, and can only 
make copies of the IPA's work papers if there is evidence the audit was 
not performed in accordance with GAGAS.

I. Flowdown to Subawardees/Subagreements

    1. Public Comment: Revise flow down requirements because they 
appear to be nonnegotiable (written public comment--one commenter).
    DoD Response: The final rule provides for flexibility in 
negotiating flow down requirements for subagreements that are less than 
$5 million. For cost-type subagreements that are in excess of $5 
million, a deviation from the flow down requirements is permitted when 
supported by the particular facts and circumstances. Note, that Single 
Audit Act requirements apply to subawardees/subagreements where 
appropriate.
    2. Public Comment: The threshold of $300,000 for flow down to key 
participants is unusually low. Recommend using the $500,000 in 
legislation for traditional contractors or the $5 million used for GAO 
access (written public comments--two commenters).
    DoD Response: DoD agrees that the $300,000 threshold in the 
proposed rule was too low. The final rule establishes a subagreement 
threshold of $5 million.
    3. Public Comment: Delete the mandatory clauses for subagreements 
and instead make the awardee responsible for providing sufficient 
support for subawardee costs (public meeting).
    DoD Response: The final rule deletes the requirement to apply the 
policy for subagreements that are less than $5 million. For cost-type 
subagreements that are in excess of $5 million, deviation from 
application of the policy is permitted when supported by the particular 
facts and circumstances.
    4. Public Comment: The flow down requirements will discourage 
technology rich subcontractors from participating in other transactions 
(written public comment--one commenter).
    DoD Response: DoD has strived to balance the potential 
discouragement of technology rich subcontractors from the need to 
assure compliance with the terms of the agreement. DoD believes this 
balance has been achieved in the final rule because (a) application of 
the policy is not required for subagreements that are $5 million or 
less, and (b) deviation from the policy is permitted for subagreements 
that are in excess of $5 million if warranted by the particular facts 
and circumstances.

J. Sample Audit Clauses

    1. Public Comment: Sample audit clauses should revise ``awardee'' 
to ``business unit of the awardee'', and ``awardee's records'' to 
``directly pertinent records of those business units of the awardee 
performing the work under the OT agreement'' (written public comment--
one commenter).
    DoD Response: DoD has deleted the sample clauses from the final 
rule because they add unnecessary complexity and could serve to reduce 
the flexibility of the Agreements Officer by becoming quasi-standard 
and/or quasi-required clauses. Sample clauses maintained at http://www.osd.mil/dp (under the ``Other Transactions'' Special Interest Item 
in ``Questions and Answers'') that are intended to serve as a guide do 
clarify access is to the specified business unit.
    2. Public Comment: Consider adding language to the audit access 
clause that states when it applies (public meeting).
    DoD Response: The final rule does provide specific language as to 
when a DoD access to records clause is applicable.

K. Traditional vs. Non-Traditional Contractor

    1. Public Comment: Distinguish between nontraditional and 
traditional contractors based on the agreement value using TINA 
threshold of $550,000, or based on the CAS threshold for full ($50 
million) or modified ($7.5 million) coverage (public meeting).
    DoD Response: The final rule distinguishes between traditional and 
nontraditional Defense contractors for purposes of determining the 
level of approval for (a) the use of an IPA and (b) deviating from 
application of the policy. DoD believes that, when used for these 
purposes, the statutory definitions are adequate. In addition, the use 
of definitions that are consistent with those in statute reduces 
complexity, thereby simplifying implementation of the rule.
    2. Public Comment: Consider whether using the cost principles as a 
criteria for use of an Independent Public

[[Page 27457]]

Accountant is overly broad (public meeting).
    DoD Response: DoD does not believe using the cost principles is 
overly broad for purposes of the final rule, which uses cost principles 
for determining the level of approval to (a) use an IPA and (b) deviate 
from application of the policy. When a contractor is performing on a 
contract subject to the cost principles, a government representative 
(e.g., Defense Contract Audit Agency (DCAA)) has access to that 
contractors books and records. Therefore, DoD believes that cost 
principles are an appropriate for determining when an IPA may be used.

Regulatory Evaluation

Executive Order 12866, ``Regulatory Planning and Review''

    It has been determined that this rule is not a significant rule as 
defined under section 3(f)(1) through 3(f)(4) of Executive Order 12866.

Unfunded Mandates Reform Act (Section 202 of Public Law 104-4)

    It has been certified that this rule does not contain a Federal 
mandate that may result in the expenditure by State, local and tribal 
governments, in aggregate, or by the private sector, of $100 million or 
more in any one year.

Public Law 96-354, ``Regulatory Flexibility Act'' (5 U.S.C. 601)

    It has been certified that this part is not subject to the 
Regulatory Flexibility Act (5 U.S.C. 601 et seq.) because it would not, 
if promulgated, have a significant economic impact on a substantial 
number of small entities. The rule does not require additional record 
keeping or other significant expense by project participants.

Public Law 96-511, ``Paperwork Reduction Act of 1995'' (44 U.S.C. 3501 
et seq.)

    It has been certified that this rule does not impose any reporting 
or record keeping requirements under the Paperwork Reduction Act of 
1995.

Executive Order 13132, ``Federalism''

    It has been certified that this rule does not have federalism 
implications, as set forth in Executive Order 13132.

List of Subjects in 32 CFR Part 3

    Government procurement, Transactions for prototype projects.

0
Accordingly, 32 CFR part 3 is amended to read as follows:

PART 3--TRANSACTIONS OTHER THAN CONTRACTS, GRANTS, OR COOPERATIVE 
AGREEMENTS FOR PROTOTYPE PROJECTS

0
1. The authority citation for 32 CFR part 3 continues to read as 
follows:

    Authority: Section 845 of Public Law 103-160, 107 STAT. 1547, as 
amended.


0
2. Section 3.4 is revised to read as follows:


Sec.  3.4  Definitions.

    Agency point of contact (POC). The individual identified by the 
military department or defense agency as its POC for prototype OTs.
    Agreements Officer. An individual with the authority to enter into, 
administer, or terminate OTs for prototype projects and make related 
determinations and findings.
    Approving Official. The official responsible for approving the OTs 
acquisition strategy and resulting OT agreement. This official must be 
at least one level above the Agreements Officer and at no lower level 
than existing agency thresholds associated with procurement contracts.
    Awardee. Any business unit that is the direct recipient of an OT 
agreement.
    Business unit. Any segment of an organization, or an entire 
business organization which is not divided into segments.
    Contracting activity. An element of an agency designated by the 
agency head and delegated broad authority regarding acquisition 
functions. It includes elements designated by the Director of a Defense 
Agency which has been delegated contracting authority through its 
agency charter.
    Cost-type OT. Agreements where payments are based on amounts 
generated from the awardee's financial or cost records or that require 
at least one third of the total costs to be provided by non-Federal 
parties pursuant to statute or require submittal of financial or cost 
records/reports to determine whether additional effort can be 
accomplished for the fixed amount.
    Fixed-price type OT. Agreements where payments are not based on 
amounts generated from the awardee's financial or cost records.
    Head of the contracting activity (HCA). The official who has 
overall responsibility for managing the contracting activity.
    Nontraditional Defense contractor. A business unit that has not, 
for a period of at least one year prior to the date of the OT 
agreement, entered into or performed on (1) any contract that is 
subject to full coverage under the cost accounting standards prescribed 
pursuant to section 26 of the Office of Federal Procurement Policy Act 
(41 U.S.C. 422) and the regulations implementing such section; or (2) 
any other contract in excess of $500,000 to carry out prototype 
projects or to perform basic, applied, or advanced research projects 
for a Federal agency, that is subject to the Federal Acquisition 
Regulation.
    Procurement contract. A contract awarded pursuant to the Federal 
Acquisition Regulation.
    Qualified Independent Public Accountant. An accountant that is 
licensed or works for a firm that is licensed in the state or other 
political jurisdiction where they operate their professional practice 
and comply with the applicable provisions of the public accountancy law 
and rules of the jurisdiction where the audit is being conducted.
    Segment. One of two or more divisions, product departments, plants, 
or other subdivisions of an organization reporting directly to a home 
office, usually identified with responsibility for profit and/or 
producing a product or service.
    Senior Procurement Executive. The following individuals:
    (1) Department of the Army--Assistant Secretary of the Army 
(Acquisition, Logistics and Technology);
    (2) Department of the Navy--Assistant Secretary of the Navy 
(Research, Development and Acquisition);
    (3) Department of the Air Force--Assistant Secretary of the Air 
Force (Acquisition).
    (4) The Directors of Defense Agencies who have been delegated 
authority to act as Senior Procurement Executive for their respective 
agencies.
    Single Audit Act. Establishes uniform audit requirements for audits 
of state and local government, universities, and non-profit 
organizations that expend Federal awards.
    Subawardee. Any business unit of a party, entity or subordinate 
element performing effort under the OT agreement, other than the 
awardee.
    Traditional Defense contractor. Any business unit that does not 
meet the definition of a nontraditional Defense contractor.
0
3. New Sec.  3.8 is added to read as follows:


Sec.  3.8  DoD access to records policy.

    (a) Applicability. This section provides policy concerning DoD 
access to awardee and subawardee records on OT agreements for prototype 
projects. This access is separate and distinct from Comptroller General 
access.

[[Page 27458]]

    (1) Fixed-price type OT agreements. (i) General--DoD access to 
records is not generally required for fixed-price type OT agreements. 
In order for an agreement to be considered a fixed-price type OT 
agreement, it must adequately specify the effort to be accomplished for 
a fixed amount and provide for defined payable milestones, with no 
provision for financial or cost reporting that would be a basis for 
making adjustment in either the work scope or price of the effort.
    (ii) Termination considerations. The need to provide for DoD access 
to records in the case of termination of a fixed-price type OT can be 
avoided by limiting potential termination settlements to an amount 
specified in the original agreement or to payment for the last 
completed milestone. However, if a fixed-price agreement provides that 
potential termination settlement amounts may be based on amounts 
generated from cost or financial records and the agreement exceeds the 
specified threshold, the OT should provide that DoD will have access to 
records in the event of termination.
    (2) Cost-type OT agreements. (i) Single Audit Act--In accordance 
with the requirements of Public Law 98-502, as amended by Public Law 
104-156, 110 STAT. 1396-1404, when a business unit that will perform 
the OT agreement, or a subawardee, meets the criteria for an audit 
pursuant to the Single Audit Act, the DoD must have sufficient access 
to the entity's records to assure compliance with the provisions of the 
Act.
    (ii) Traditional Defense contractors. The DoD shall have access to 
records on cost-type OT agreements with traditional Defense contractors 
that provide for total Government payments in excess of $5,000,000. The 
content of the access to records clause shall be in accordance with 
paragraph (c) of this section. The value establishing the threshold is 
the total value of the agreement including all options.
    (iii) Nontraditional Defense contractors. The DoD should have 
access to records on cost-type OT agreements with nontraditional 
Defense contractors that provide for total Government payments in 
excess of $5,000,000. The content of the access to records clause 
should be in accordance with paragraph (c) of this section. The value 
establishing the threshold is the total value of the agreement 
including all options.
    (iv) DoD access below threshold. The Agreements Officer has the 
discretion to determine whether to include DoD access to records when 
the OT does not meet any of the requirements in (a)(2)(i) through 
(a)(2)(iii) of this section. The content of that access to records 
clause should be tailored to meet the particular circumstances of the 
agreement.
    (v) Examples of cost-type OT agreements. (A) An agreement that 
requires at least one-third cost share pursuant to statute.
    (B) An agreement that includes payable milestones, but provides for 
adjustment of the milestone amounts based on actual costs or reports 
generated from the awardee's financial or cost records.
    (C) An agreement that is for a fixed-Government amount, but the 
agreement provides for submittal of financial or cost records/reports 
to determine whether additional effort can be accomplished for the 
fixed amount.
    (3) Subawardees. When a DoD access to records provision is included 
in the OT agreement, the awardee shall use the criteria established in 
paragraphs (a)(2)(i) through (a)(2)(iii) of this section to determine 
whether DoD access to records clauses should be included in subawards.
    (b) Exceptions. (1) Nontraditional Defense contractors--(i) The 
Agreements Officers may deviate, in part or in whole, from the 
application of this access to records policy for a nontraditional 
Defense contractor when application of the policy would adversely 
impact the government's ability to incorporate commercial technology or 
execute the prototype project.
    (ii) The Agreements Officer will document:
    (A) What aspect of the audit policy was not applied;
    (B) Why it was problematic;
    (C) What means will be used to protect the Government's interest; 
and
    (D) Why the benefits of deviating from the policy outweigh the 
potential risks.
    (iii) This determination will be reviewed by the approving official 
as part of the pre-award approval of the agreement and submitted to the 
agency POC within 10 days of award.
    (iv) The agency POC will forward all such documentation received in 
any given fiscal year, to the Director, Defense Procurement by 15 
October of each year.
    (2) Traditional Defense contractor. (i) Any departure from this 
policy for other than nontraditional Defense contractors must be 
approved by the Head of the Contracting Activity prior to award and set 
forth the exceptional circumstances justifying deviation.
    (ii) Additionally, the justification will document:
    (A) What aspect of the policy was not applied;
    (B) Why it was problematic;
    (C) What means will be used to protect the Government's interest; 
and
    (D) Why the benefits of deviating from the policy outweigh the 
potential risks.
    (iii) The HCA will forward documentation associated with such 
waivers in any given fiscal year, to the Director, Defense Procurement 
by 15 October of each year.
    (3) DoD access below the threshold. When the Agreements Officer 
determines that access to records is appropriate for an agreement below 
the $5,000,000 threshold, the content, length and extent of access may 
be mutually agreed to by the parties, without documenting reasons for 
departing from the policy of this section.
    (4) Flow down provisions. The awardee shall submit justification 
for any exception to the DoD access to records policy to the Agreements 
Officer for subawardees. The Agreements Officer will review and obtain 
appropriate approval, as set forth in paragraphs (b)(1) and (b)(2) of 
this section.
    (c) Content of DoD access to records clause. When a DoD access to 
records clause is included as part of the OT agreement, address the 
following areas during the negotiation of the clause:
    (1) Frequency of audits. Audits will be performed when the 
Agreements Officer determines it is necessary to verify statutory cost 
share or to verify amounts generated from financial or cost records 
that will be used as the basis for payment or adjustment of payment.
    (2) Means of accomplishing audits. (i) Business units subject to 
the Single Audit Act--When the awardee or subawardee is a state 
government, local government, or nonprofit organization whose Federal 
cost reimbursement contracts and financial assistance agreements are 
subject to the Single Audit Act (Public Law 98-502, as amended by 
Public Law 104-156, 110 STAT. 1396-1404), the clause must apply the 
provisions of that Act for purposes of performing audits of the awardee 
or subawardee under the agreement.
    (ii) Business units not subject to the Single Audit Act currently 
performing on procurement contracts. The clause must provide that DCAA 
will perform any necessary audits if, at the time of agreement award, 
the awardee or subawardee is not subject to the Single Audit Act and is 
performing a procurement contract that is subject to the Cost 
Principles Applicable to Commercial Organizations (48 CFR part

[[Page 27459]]

31.2) and/or the Cost Accounting Standards (48 CFR part 99).
    (iii) Other business units. DCAA or a qualified IPA may perform any 
necessary audit of a business unit of the awardee or subawardee if, at 
the time of agreement award, the business unit does not meet the 
criteria in (c)(2)(i) or (c)(2)(ii) of this section. The clause must 
provide for the use of a qualified IPA if such a business unit will not 
accept the agreement if the Government has access to the business 
unit's records. The Agreements Officer will include a statement in the 
file that the business unit is not performing on a procurement contract 
subject to the Cost Principles or Cost Accounting Standards at the time 
of agreement award, and will not accept the agreement if the government 
has access to the business unit's records. The Agreements Officer will 
also prepare a report (Part III to the annual report submission) for 
the Director, Defense Procurement that identifies, for each business 
unit that is permitted to use an IPA: the business unit's name, address 
and the expected value of its award. When the clause provides for use 
of an IPA to perform any necessary audits, the clause must state that:
    (A) The IPA will perform the audit in accordance with Generally 
Accepted Government Auditing Standards (GAGAS). Electronic copies of 
the standards may be accessed at www.gao.gov. Printed copies may be 
purchased from the U.S. Government Printing Office (for ordering 
information, call (202) 512-1800 or access the Internet Site at 
www.gpo.gov).
    (B) The Agreements Officers' authorized representative has the 
right to examine the IPA's audit report and working papers for 3 years 
after final payment or three years after issuance of the audit report, 
whichever is later, unless notified otherwise by the Agreements 
Officer.
    (C) The IPA will send copies of the audit report to the Agreements 
Officer and the Assistant Inspector General (Audit Policy and 
Oversight) [AIG(APO)], 400 Army Navy Drive, Suite 737, Arlington, VA 
22202.
    (D) The IPA will report instances of suspected fraud directly to 
the DoDIG.
    (E) The Government has the right to require corrective action by 
the awardee or subawardee if the Agreements Officer determines (subject 
to appeal under the disputes clause of the agreement) that the audit 
has not been performed or has not been performed in accordance with 
GAGAS. The Agreements Officer should take action promptly once the 
Agreements Officer determines that the audit is not being accomplished 
in a timely manner or the audit is not performed in accordance with 
GAGAS but generally no later than twelve (12) months of the date 
requested by the Agreements Officer. The awardee or subawardee may take 
corrective action by having the IPA correct any deficiencies identified 
by the Agreements Officer, having another IPA perform the audit, or 
electing to have the Government perform the audit. If corrective action 
is not taken, the Agreements Officer has the right to take one or more 
of the following actions:
    (1) Withhold or disallow a specified percentage of costs until the 
audit is completed satisfactorily. The agreement should include a 
specified percentage that is sufficient to enhance performance of 
corrective action while also not being unfairly punitive.
    (2) Suspend performance until the audit is completed 
satisfactorily; and/or
    (3) Terminate the agreement if the agreements officer determines 
that imposition of either (c)(2)(iii)(E)(1) or (c)(2)(iii)(e)(2) of 
this section is not practical.
    (F) If it is found that the awardee or subawardee was performing a 
procurement contract subject to Cost Principles Applicable to 
Commercial Organizations (48 CFR part 31.2) and/or Cost Accounting 
Standards (48 CFR part 99) at the time of agreement award, the 
Agreements Officer, or an authorized representative, has the right to 
audit records of the awardee or subawardee to verify the actual costs 
or reporting information used as the basis for payment or to verify 
statutorily required cost share under the agreement, and the IPA is to 
be paid by the awardee or subawardee. The cost of an audit performed in 
accordance with this policy is reimbursable based on the business 
unit's established accounting practices and subject to any limitations 
in the agreement.
    (3) Scope of audit. The Agreements Officer should coordinate with 
the auditor regarding the nature of any audit envisioned.
    (4) Length and extent of access. (i) Clauses that do not provide 
for use of an IPA--The clause must provide for the Agreements Officer's 
authorized representative to have access to directly pertinent records 
of those business units of the awardee or subawardee's performing 
effort under the OT agreement, when needed to verify the actual costs 
or reporting used as the basis for payment or to verify statutorily 
required cost share under the agreement.
    (ii) Clauses that provide for use of an IPA to perform the audits. 
The clause must:
    (A) Provide the Agreements Officer's authorized representative 
access to the IPA's audit reports and working papers to ensure that the 
IPA has performed the audit in accordance with GAGAS.
    (B) State that the Government will make copies of contractor 
records contained in the IPA's work papers if needed to demonstrate 
that the audit was not performed in accordance with GAGAS.
    (C) State that the Government has no direct access to any awardee 
or subawardee records unless it is found that the awardee or subawardee 
was performing a procurement contract subject to Cost Principles (48 
CFR part 31) and/or Cost Accounting Standards (48 CFR part 99) at the 
time of agreement award.
    (iii) Business Units subject to the Single Audit Act. The clause 
must provide access to the extent authorized by the Single Audit Act.
    (iv) Record Retention/Period of Access. The clause must require 
that the awardee and subawardee retain, and provide access to, the 
records referred to in (c)(4)(i) and (c)(4)(ii) of this section for 
three years after final payment, unless notified of a shorter or longer 
period by the Agreements Officer.
    (5) Awardee flow down responsibilities. Agreements must require 
awardees to include the necessary provisions in subawards that meet the 
conditions set forth in this DoD access to records policy.
    (d) DoDIG and GAO access. In accordance with statute, if an 
agreement gives the Agreements Officer or another DoD component 
official access to a business unit's records, the DoDIG or GAO are 
granted the same access to those records.

    Dated: May 12, 2003.
Patricia L. Toppings,
Alternate OSD Federal Register Liaison Officer, Department of Defense.
[FR Doc. 03-12553 Filed 5-19-03; 8:45 am]
BILLING CODE 5001-08-P