Contracting Principles the DoD Forgot, Part 2: Introduction to the Proposed Mandatory Withholding DFAR

On January 15, 2010 the Federal Register published the Department of Defense (DoD) proposed rule "to amend the Defense Federal Acquisition Regulation Supplement (DFARS) to improve the effectiveness of DoD oversight of contractor business systems." Interested parties were invited to submit comments referencing DFARS Case 2009–D038, and a few dozen responses were submitted. At this time we are awaiting further action from the DoD, but it seems unlikely that the DoD will simply drop this proposed rule entirely.

In the Federal Register the DoD provided the following background explanation for the proposed rule:

"Contractor business systems and internal controls are the first line of defense against waste, fraud, and abuse. Weak control systems increase the risk of unallowable and unreasonable costs on Government contracts. To improve the effectiveness of Defense Contract Management Agency (DCMA) and Defense Contract Audit Agency (DCAA) oversight of contractor business systems, DoD is considering a rule to clarify the definition and administration of contractor business systems as follows:

1. DoD is proposing to define contractor business systems as accounting systems, estimating systems, purchasing systems, earned value management systems (EVMS), material management and accounting systems (MMAS), and property management systems.

2. DoD is proposing to implement compliance enforcement mechanisms in the form of a business systems clause which includes payment withholding that allows administrative contracting officers to withhold a percentage of payments, under certain conditions, when a contractor's business system contains deficiencies.
Under such circumstances, payments could be withheld on—

• Interim payments under—
  • Cost reimbursement contracts;
  • Incentive type contracts;
  • Time-and-materials contracts;
  • Labor-hour contracts;
• Progress payments; and
• Performance-based payments."

The very first sentence of this background statement illustrates the fundamental flaw in the DoD's thinking about its procurements. It is not "Contractor business systems and internal controls" that serve as "the first line of defense against waste, fraud, and abuse". This statement ignores the customer's responsibilities and conceptually shifts all risk of waste, fraud, and abuse to the contractor. You might ask: "How else could it be?" You might say: "After all, the contractor controls its own actions including wasteful, fraudulent, and abusive actions, and the customer does not commit waste or fraud against itself, or abuse itself." There are some qualifications and exceptions to these thoughts that we could explore, but more importantly, it is the customer's fulfillment of its responsibility to define what it wants in a comprehensive, clear, and timely manner, and the customer's treatment of the contractor in a fair manner, that serves as "the first line of defense against waste, fraud, and abuse". At most, contractor business systems and internal controls are a secondary or tertiary line of defense against waste, fraud, and abuse. The DoD has forgotten some of the basic principles of procurement in our culture.

Coming soon: Part 3: "Business Systems" Excerpts from the Proposed Mandatory Withholding DFAR