FAR 32.407—Interest.
Plain-English Summary
FAR 32.407 explains when the Government must charge interest on advance payments, how to calculate that interest, and when interest may be waived. It covers the daily unliquidated balance of advance payments, the applicable interest rate, monthly adjustment and computation procedures, special treatment for contracts involving Government-owned property acquired at cost in connection with supply contracts or subcontracts, and several categories of contracts where advance payments may be authorized without interest. It also addresses the contracting officer’s authority to require a prime contractor to charge interest on advances or downpayments made to subcontractors, including the flow of credit back to the Government, and it limits reimbursement of these interest charges under cost-reimbursement contracts. In practice, this section protects the Government from financing costs associated with advance funding while allowing flexibility for certain research, nonprofit, plant management, and governmental contracts where interest-free advances may be in the Government’s interest. Contractors and contracting officers must pay close attention to the contract type, the source and purpose of the advance, the applicable rate, and whether any interest charges can be passed through as allowable costs.
Key Rules
Interest on advance balances
As a general rule, the contracting officer must charge interest on the daily unliquidated balance of all advance payments. The rate is the higher of the depository’s published prime rate or the Treasury rate established under 50 U.S.C. App. 1215(b)(2), unless an exception applies.
Monthly rate adjustments
The interest rate must be adjusted when the depository’s prime rate changes and when Treasury makes its semiannual rate determination. Interest is computed at the end of each month using the applicable daily interest rate on the daily unliquidated balance.
Government-owned property contracts
Interest is required on contracts for acquisition, at cost, of property for Government ownership when those contracts are awarded in combination with, or in contemplation of, supply contracts or subcontracts. This prevents interest-free financing in transactions that are effectively tied to supply procurement.
Authorized interest-free advances
The agency head or designee may authorize advance payments without interest when doing so is in the Government’s interest for certain contract types, including nonprofit research or education work, management and operation of Government-owned plants, cost-reimbursement contracts with governments, and other classes or unusual cases approved under agency procedures.
Subcontractor interest pass-through
If a contract provides for interest-free advance payments, the contracting officer may require the contractor to charge interest on advances or downpayments to subcontractors and credit the Government with the proceeds. The contracting officer does not have to require this for subcontractors that are nonprofit education or research institutions described in paragraph (d)(1).
No reimbursement of required interest
Interest charges required by this section are not allowable as reimbursable costs under cost-reimbursement contracts. This applies whether the interest was incurred by the prime contractor or by a subcontractor.
Responsibilities
Contracting Officer
Charge interest on advance payments unless an authorized exception applies; track the daily unliquidated balance; obtain monthly rate-change data from the depository; compute interest monthly; determine whether a contract falls within the Government-owned property rule; and, where appropriate, require the contractor to charge interest to subcontractors and credit the Government.
Agency Head or Designee
Authorize interest-free advance payments only when the contract type fits one of the listed categories or another approved class/unusual case, and only when the exclusion of interest is in the Government’s interest.
Contractor
Manage advance payments in accordance with the contract terms; if required, charge interest on advances or downpayments to subcontractors; remit or credit the Government with the proceeds from those interest charges; and avoid claiming required interest as an allowable reimbursable cost under cost-reimbursement arrangements.
Subcontractor
If receiving advances or downpayments subject to interest, pay the required interest unless the subcontractor falls within the nonprofit education or research institution exception recognized by the contracting officer.
Depository Financial Institution
Provide the published prime rate and notify the contracting officer of changes during the month so the Government can apply the correct interest rate.
Treasury Department
Establish the benchmark rate under 50 U.S.C. App. 1215(b)(2), which may control the applicable interest rate when it is higher than the depository’s prime rate.
Practical Implications
Contracting officers must know the exact purpose of the advance payment and the contract structure, because the interest rule changes depending on whether the contract is a normal advance payment, a Government-owned property acquisition, or an authorized interest-free category.
The interest calculation is not a one-time event; it depends on the daily unliquidated balance and monthly rate changes, so poor recordkeeping can lead to undercharging or overcharging interest.
Interest-free advance authority is limited and must be affirmatively authorized by the agency head or designee; it is not automatic just because a contract is nonprofit, cost-reimbursement, or government-related.
Contractors should not assume interest on advances to subcontractors is reimbursable. If the prime is required to charge interest downstream, that interest cannot be passed through as an allowable cost under cost-reimbursement contracts.
A common pitfall is overlooking the special rule for contracts tied to Government-owned property or failing to update the rate when the depository prime rate or Treasury rate changes, which can create audit and payment disputes.
Official Regulatory Text
(a) Except as provided in paragraph (d) of this section, the contracting officer shall charge interest on the daily unliquidated balance of all advance payments at the higher of- (1) The published prime rate of the financial institution (depository) in which the special account (see 32.409-3 ) is established; or (2) The rate established by the Secretary of the Treasury under 50 U.S.C. App.1215(b)(2). (b) The interest rate for advance payments shall be adjusted for changes in the prime rate of the depository and the semiannual determination by the Secretary of the Treasury under 50 U.S.C. App.1215(b)(2). The contracting officer shall obtain data from the depository on changes in the interest rate during the month. Interest shall be computed at the end of each month on the daily unliquidated balance of advance payments at the applicable daily interest rate. (c) Interest shall be required on contracts that are for acquisition, at cost, of property for Government ownership, if the contracts are awarded in combination with, or in contemplation of, supply contracts or subcontracts. (d) The agency head or designee may authorize advance payments without interest under the following types of contracts, if in the Government’s interest: (1) Contracts for experimental, research, or development work (including studies, surveys, and demonstrations in socio-economic areas) with nonprofit education or research institutions. (2) Contracts solely for the management and operation of Government-owned plants. (3) Cost-reimbursement contracts with governments, including State or local governments, or their instrumentalities. (4) Other classes of contracts, or unusual cases, for which the exclusion of interest on advances is specifically authorized by agency procedures. (e) If a contract provides for interest-free advance payments, the contracting officer may require the contractor to charge interest on advances or downpayments to subcontractors and credit the Government for the proceeds from the interest charges. Interest rates shall be determined as described in paragraphs (a) and (b) of this section. The contracting officer need not require the contractor to charge interest on an advance to a subcontractor that is an institution of the kind described in paragraph (d)(1) of this section. (f) The contracting officer shall not allow interest charges, required by this 32.407 , as reimbursable costs under cost-reimbursement contracts, whether the interest charge was incurred by the prime contractor or a subcontractor.