FAR 31.205-16—Gains and losses on disposition or impairment of depreciable property or other capital assets.
Plain-English Summary
FAR 31.205-16 explains how contractors must treat gains and losses when depreciable property or other capital assets are sold, retired, exchanged, impaired, involuntarily converted, or otherwise disposed of for cost-reimbursement and other cost-based contracting purposes. It covers the basic rule for recognizing gains and losses in the year they occur, how those amounts are charged or credited to the cost groupings that absorbed the original depreciation or amortization, and the special treatment for business combinations, sale-leaseback situations, capital leases, involuntary conversions, exchanges for similar property, mass or extraordinary dispositions, and impairments of long-lived tangible and identifiable intangible assets. It also distinguishes between depreciable property and nondepreciable capital assets, making clear that gains and losses on the latter are generally excluded from contract cost. In practice, this section prevents contractors from double counting depreciation-related costs, ensures the Government shares appropriately in certain realized gains, and limits recovery of losses to amounts that are economically and contractually allowable. It is especially important for property accounting, indirect rate development, asset retirement decisions, insurance recoveries, and any transaction that changes the carrying value or ownership of capital assets used in contract performance.
Key Rules
Recognize gains and losses in period
Gains and losses from sale, retirement, or other disposition of depreciable property are recognized in the year they occur and are charged or credited to the cost grouping(s) that included the related depreciation or amortization. This is the baseline rule unless a specific exception in the subsection applies.
No gain on business combinations
A transfer of assets in a business combination does not create a recognizable gain or loss for contract costing purposes. The rule prevents remeasurement of assets transferred as part of a merger, acquisition, or similar combination from affecting allowable contract costs.
Use special sale-leaseback rules
When depreciable property is subject to the sale-and-leaseback limitations in FAR 31.205-11(h)(1) or 31.205-36(b)(2), the gain or loss is measured using the net amount realized versus the undepreciated balance when the contractor becomes a lessee. Loss recognition is further limited based on fair market value.
Treat tangible asset dispositions as depreciation adjustments
Gains and losses on disposition of tangible capital assets, including assets acquired under capital leases, are treated as adjustments to depreciation previously recognized. The gain or loss equals net amount realized, including insurance proceeds from involuntary conversions, minus the undepreciated balance.
Cap recognized gain for contract costing
The gain recognized for contract costing is limited to the difference between the asset’s acquisition cost, or capitalized lease value, and its undepreciated balance. This prevents contractors from recognizing more gain for Government cost purposes than the asset’s remaining unrecovered cost basis allows.
Apply involuntary conversion rules
If property is destroyed or taken by events beyond the contractor’s control and insurance or other cash proceeds are received, the contractor must recognize gain or loss in the disposition period if the asset is not replaced. If the asset is replaced, the contractor may either adjust the basis of the replacement asset or recognize the gain or loss and share the gain with the Government under the stated limits.
Do not separately recognize certain gains or losses
No separate gain or loss is recognized when the amount is already flowed through the depreciation reserve and reflected in allowable depreciation, or when property is exchanged as part of the purchase price of similar property and the gain or loss is built into the new asset’s depreciation basis.
Review mass or extraordinary dispositions individually
Gains and losses from mass or extraordinary sales, retirements, or other dispositions outside a business combination are not subject to a single automatic rule and must be evaluated case by case. This allows the Government and contractor to address unusual transactions based on their facts.
Exclude nondepreciable capital asset gains and losses
Gains and losses of any nature from the sale or exchange of capital assets other than depreciable property are excluded from contract cost. These amounts are not allowable as contract costs under this section.
Disallow impairment write-down losses
For long-lived tangible and identifiable intangible assets held for use, no loss is allowed for a write-down from carrying value to fair value caused by impairment events or changes in circumstances. If such an asset is later disposed of, the gain or loss is computed as though the impairment write-down had not occurred.
Responsibilities
Contractor
Track asset basis, depreciation, insurance proceeds, sale proceeds, leaseback terms, and impairment events; compute gains and losses under the applicable paragraph; apply the correct limitation or exclusion; and ensure the amounts flow to the proper cost groupings or are excluded from contract cost when required.
Contracting Officer
Review claimed gains, losses, and related cost impacts for allowability; verify that the contractor used the correct basis, timing, and limitation rules; and ensure unusual transactions such as mass dispositions, involuntary conversions, or business combinations are handled consistently with FAR cost principles.
Government auditor or reviewer
Test the contractor’s property records, depreciation reserve treatment, insurance recoveries, and disposition calculations; confirm that gains are not overstated and losses are not improperly claimed; and check that impairment write-downs are not separately charged to contracts.
Property/accounting staff
Maintain accurate fixed asset records, undepreciated balances, capitalization data, and disposition documentation; identify whether a transaction is a sale, exchange, involuntary conversion, leaseback, or impairment; and support the cost accounting treatment applied.
Agency
Apply the cost principle consistently in contract pricing, incurred cost review, and audit resolution; and ensure that the Government receives its proper share of allowable gain treatment where the regulation requires participation.
Practical Implications
This section is a property-accounting rule as much as a cost principle, so weak fixed-asset records can create allowability problems quickly. Contractors should be able to show original cost, accumulated depreciation, undepreciated balance, proceeds, and the reason for disposition.
Do not assume every book gain or loss is automatically allowable or unallowable in the same way for Government contract costing. The FAR often limits the amount recognized, changes the timing, or requires the gain to be treated as a depreciation adjustment instead of a separate line item.
Impairment accounting can be especially tricky: a financial statement write-down does not necessarily create an allowable contract cost loss, and later disposition must ignore the prior impairment write-down for gain/loss computation under this section.
Sale-leaseback and involuntary conversion transactions need close review because the measurement base and allowable loss limits differ from ordinary asset sales. These transactions often trigger disputes if the contractor uses financial accounting results without applying FAR-specific limits.
Mass retirements, extraordinary disposals, and business combinations are not routine cases. Contractors should document the facts early and coordinate with the contracting officer or auditor before booking the cost impact to avoid later disallowance or rate adjustments.
Official Regulatory Text
(a) Gains and losses from the sale, retirement, or other disposition (but see 31.205-19 ) of depreciable property shall be included in the year in which they occur as credits or charges to the cost grouping(s) in which the depreciation or amortization applicable to those assets was included (but see paragraph (f) of this subsection). However, no gain or loss shall be recognized as a result of the transfer of assets in a business combination (see 31.205-52 ). (b) Notwithstanding the provisions in paragraph (c) of this subsection, when costs of depreciable property are subject to the sale and leaseback limitations in 31.205-11 (h)(1) or 31.205-36 (b)(2)- (1) The gain or loss is the difference between the net amount realized and the undepreciated balance of the asset on the date the contractor becomes a lessee; and (2) When the application of (b)(1) of this subsection results in a loss- (i) The allowable portion of the loss is zero if the fair market value exceeds the undepreciated balance of the asset on the date the contractor becomes a lessee; and (ii) The allowable portion of the loss is limited to the difference between the fair market value and the undepreciated balance of the asset on the date the contractor becomes a lessee if the fair market value is less than the undepreciated balance of the asset on the date the contractor becomes a lessee. (c) Gains and losses on disposition of tangible capital assets, including those acquired under capital leases (see 31.205-11 (h)), shall be considered as adjustments of depreciation costs previously recognized. The gain or loss for each asset disposed of is the difference between the net amount realized, including insurance proceeds from involuntary conversions, and its undepreciated balance. (d) The gain recognized for contract costing purposes shall be limited to the difference between the acquisition cost (or for assets acquired under a capital lease, the value at which the leased asset is capitalized) of the asset and its undepreciated balance (except see paragraphs (e)(2)(i) or (ii) of this subsection). (e) Special considerations apply to an involuntary con-version which occurs when a contractor’s property is destroyed by events over which the owner has no control, such as fire, windstorm, flood, accident, theft, etc., and an insurance award is recovered. The following govern involuntary conversions: (1) When there is a cash award and the converted asset is not replaced, gain or loss shall be recognized in the period of disposition. The gain recognized for contract costing purposes shall be limited to the difference between the acquisition cost of the asset and its undepreciated balance. (2) When the converted asset is replaced, the contractor shall either- (i) Adjust the depreciable basis of the new asset by the amount of the total realized gain or loss; or (ii) Recognize the gain or loss in the period of disposition, in which case the Government shall participate to the same extent as outlined in paragraph (e)(1) of this subsection. (f) Gains and losses on the disposition of depreciable property shall not be recognized as a separate charge or credit when- (1) Gains and losses are processed through the depreciation reserve account and reflected in the depreciation allowable under 31.205-11 ; or (2) The property is exchanged as part of the purchase price of a similar item, and the gain or loss is taken into consideration in the depreciation cost basis of the new item. (g) Gains and losses arising from mass or extraordinary sales, retirements, or other disposition other than through business combinations shall be considered on a case-by-case basis. (h) Gains and losses of any nature arising from the sale or exchange of capital assets other than depreciable property shall be excluded in computing contract costs. (i) With respect to long-lived tangible and identifiable intangible assets held for use, no loss shall be allowed for a write-down from carrying value to fair value as a result of impairments caused by events or changes in circumstances ( e.g., environmental damage, idle facilities arising from a declining business base, etc.). If depreciable property or other capital assets have been written down from carrying value to fair value due to impairments, gains or losses upon disposition shall be the amounts that would have been allowed had the assets not been written down.