FAR 42.704—Billing rates.
Plain-English Summary
FAR 42.704 explains how billing rates are established, revised, and used in the indirect cost reimbursement process. It covers who is responsible for setting billing rates, what information may be used to establish them, how closely they should track anticipated final indirect cost rates, when simplified methods may be used instead of a detailed proposal, how billing rates may be revised prospectively or retroactively, what happens if the parties cannot agree, and how billing rates may be adjusted when a contractor submits a certified final indirect cost rate proposal. It also makes clear that billing rates are only provisional and do not determine the final indirect cost rates, the final cost pools, or the final allocation bases used in settlement. In practice, this section is important because billing rates directly affect interim payments, cash flow, and the risk of overpayment or underpayment during contract performance. It gives the Government flexibility to set reasonable provisional rates while preserving the ability to settle actual indirect costs later through the final rate process.
Key Rules
Same official sets billing rates
The contracting officer, cognizant Federal agency official, or auditor responsible for final indirect cost rates under 42.705 also is responsible for determining billing rates. This ties provisional billing-rate decisions to the same office that will later settle the final indirect cost rates.
Use reliable current information
Billing rates must be based on recent reviews, prior audits or experience, or other reliable data, including experience from similar contracting activities. The goal is to make the billing rates as close as possible to the contractor’s anticipated final indirect cost rates for the fiscal period, after adjusting for unallowable costs.
Simplified method allowed for small dollar value
If the contract dollar value does not justify a detailed billing-rate proposal, the Government may establish billing rates by adjusting prior-year indirect cost experience. Those adjustments should remove unallowable and nonrecurring costs and reflect new or changed conditions.
Rates may be revised by agreement
Once established, billing rates may be revised prospectively or retroactively by mutual agreement of the Government and contractor at either party’s request. The purpose is to prevent substantial overpayment or underpayment during the period of performance.
Government may act unilaterally
If the parties cannot agree on revised billing rates, the contracting officer, cognizant Federal agency official, or auditor may unilaterally determine the billing rates. This ensures billing can continue even when negotiations stall.
Billing rates are not final rates
The indirect cost elements and allocation bases used to compute billing rates do not control the final settlement of indirect costs. Final indirect cost rates are determined separately, so provisional billing-rate structures do not bind the parties later.
Certified proposal can trigger interim revision
When the contractor submits a certified final indirect cost rate proposal under 42.705-1(b) or 42.705-2(b), the parties may agree to revise billing rates to reflect the proposed indirect rates, as approved by the Government, while excluding historically disallowed amounts from prior audits. The historical decrement is determined by the cognizant contracting officer or cognizant auditor.
Responsibilities
Contracting Officer
Determine billing rates when responsible for final indirect cost rates; use recent, reliable data to set rates close to expected final rates; approve or negotiate revisions; unilaterally set rates if agreement cannot be reached; determine the historical decrement when applicable under 42.705-1(b).
Cognizant Federal Agency Official
Perform the same billing-rate responsibilities as the contracting officer when designated as the responsible official, including establishing, revising, and, if necessary, unilaterally determining billing rates.
Auditor
When responsible under 42.705 for final indirect cost rates, establish billing rates using reliable information; participate in or approve revisions; and, if agreement fails, unilaterally determine billing rates where authorized. Under 42.705-2(b), determine the historical decrement for certified proposal-based revisions.
Contractor
Provide information needed to support billing-rate establishment or revision; request revisions when needed to avoid substantial overpayment or underpayment; submit certified final indirect cost rate proposals under the applicable 42.705 provisions; and agree to or negotiate revised billing rates when appropriate.
Government and Contractor jointly
May mutually agree to revise billing rates prospectively or retroactively, including revisions based on a certified final indirect cost rate proposal, to better align interim billing with expected final settlement.
Practical Implications
Billing rates are provisional cash-flow tools, not final entitlements, so contractors should not treat them as the last word on indirect cost recovery.
Because the Government can revise rates retroactively, contractors should monitor actual indirect cost experience during the year and request adjustments early if rates are drifting too high or too low.
A detailed billing-rate proposal is not always required, but simplified estimates still need to be reasonable and based on current, supportable data; using stale prior-year numbers without adjustments is a common mistake.
The section helps prevent large year-end true-ups, but only if both sides actively manage rates; ignoring changes in labor mix, overhead, subcontracting, or unallowable costs can create major overbilling or underbilling.
The rule that billing-rate elements do not determine final settlement is critical in disputes: a provisional billing structure does not lock in the final indirect cost pool or allocation base used later in rate negotiations or audit settlement.
Official Regulatory Text
(a) The contracting officer (or cognizant Federal agency official) or auditor responsible under 42.705 for establishing the final indirect cost rates also shall be responsible for determining the billing rates. (b) The contracting officer (or cognizant Federal agency official) or auditor shall establish billing rates on the basis of information resulting from recent review, previous rate audits or experience, or similar reliable data or experience of other contracting activities. In establishing billing rates, the contracting officer (or cognizant Federal agency official) or auditor should ensure that the billing rates are as close as possible to the final indirect cost rates anticipated for the contractor’s fiscal period, as adjusted for any unallowable costs. When the contracting officer (or cognizant Federal agency official) or auditor determines that the dollar value of contracts requiring use of billing rates does not warrant submission of a detailed billing rate proposal, the billing rates may be established by making appropriate adjustments from the prior year’s indirect cost experience to eliminate unallowable and nonrecurring costs and to reflect new or changed conditions. (c) Once established, billing rates may be prospectively or retroactively revised by mutual agreement of the contracting officer (or cognizant Federal agency official) or auditor and the contractor at either party’s request, to prevent substantial overpayment or underpayment. When agreement cannot be reached, the billing rates may be unilaterally determined by the contracting officer (or cognizant Federal agency official). (d) The elements of indirect cost and the base or bases used in computing billing rates shall not be construed as determinative of the indirect costs to be distributed or of the bases of distribution to be used in the final settlement. (e) When the contractor provides to the cognizant contracting officer the certified final indirect cost rate proposal in accordance with 42.705-1 (b) or 42.705-2 (b), the contractor and the Government may mutually agree to revise billing rates to reflect the proposed indirect cost rates, as approved by the Government to reflect historically disallowed amounts from prior years’ audits, until the proposal has been audited and settled. The historical decrement will be determined by either the cognizant contracting officer ( 42.705-1 (b)) or the cognizant auditor ( 42.705-2 (b)).