Whether a pass-through entity for federal grants may cap indirect cost rates for its subrecipients

OAG 15-019 December 18, 2015 Subject: Whether a pass-through entity for federal grants may cap indirect cost rates for its subrecipients Requested by: Nicky Smith, Chairman Kentucky Council of Area Development Districts Written by: Matt James Syllabus: A pass-through entity for federal grants may not override a federally approved indirect cost rate negotiated between the subrecipient and the federal government. If there is no federally approved rate, the pass-through entity and the subrecipient negotiate the indirect cost rate. Statutes construed: 2 C.F.R. § 200 OAGs cited: OAG 73-529 Opinion of the Attorney General Nicky Smith, Chairman of the Kentucky Council of Area Development Districts, has requested an opinion of this office regarding whether a pass-through entity for federal grants may cap indirect costs for its subrecipients. We advise that a pass-through entity for federal grants may not override a federally approved indirect cost rate negotiated between the subrecipient and the federal government. If there is no federally approved rate, the pass-through entity and the subrecipient negotiate the indirect cost rate. Chairman Smith attaches two letters from the U.S. Department of Commerce, Economic Development Administration (“EDA”), both dated Mar. 11, 2015. One confirms acceptance of the “Certificate of Indirect Costs for Pennyrile Area Development District for the period July 1, 2013 through June 30, 2014 with a rate of 40.00%,” and the other confirms acceptance of the “Certificate of Indirect Costs for Pennyrile Area Development District for the period July 1, 2014 through June 30, 2015 with a rate of 39.00%.” Both letters note that under the Uniform Administrative Requirements, Cost Principles, and Audit Requirements for Federal Awards (“Uniform Requirements”), “your organization is not required to submit an indirect cost allocation proposal or plan narrative to EDA as its Cognizant Agency. Your organization is required to develop an indirect cost proposal and retain the proposal and related documentation for audit purposes.” The Cabinet for Health and Family Services (“CHFS”), Department for Aging and Independent Living, has historically contracted with area development districts to distribute federal grant money for services to the aged and disabled community. Recently, CHFS proposed including the following language in any subsequent contract with area development districts: The Second Party shall charge indirect costs in accordance with either the lesser of their approved federal rate or a maximum of 10% for their approved indirect cost plan. When the approved federal rate exceeds the allowable 10% indirect cost rate, the increased rate may be approved by the CHFS Cabinet Secretary or his/her designee. CHFS proposed capping all indirect costs at the lesser of either the approved federal rate or a maximum of ten perfcent. At issue is whether CHFS may cap the indirect cost rate for federal grants to its subrecipients consistent with federal regulations. The U.S. Office of Management and Budget recently promulgated the Uniform Requirements, codified at 2 C.F.R. § 200.0-200.521, which became effective on Dec. 26, 2014. The Uniform Requirements collected the procedures required for the distribution of federal grants and the obligations of grant recipients that were previously spread out among several circulars and regulations. App. VII of the Uniform Requirements specifies the methods required for indirect cost proposals for state and local governmental units. “Indirect costs are those that have been incurred for common or joint purposes. These costs benefit more than one objective and cannot be readily identified with a particular final cost objective . . . .” 2 C.F.R. § 200 app. VII(A)(1). “All departments or agencies of the governmental unit desiring to claim indirect costs under Federal awards must prepare an indirect cost rate proposal and related documentation to support those costs.” Id. at app. VII(D)(1)(a). “The direct cost base selected should result in each Federal award bearing a fair share of the indirect costs in reasonable relation to the benefits received from the costs.” Id. at app. VII(B)(1). However, although all governmental units wishing to claim indirect costs under federal awards must create indirect cost proposals, not all governmental units must submit them: A governmental department or agency unit that receives more than $35 million in direct Federal funding must submit its indirect cost rate proposal to its cognizant agency for indirect costs. Other governmental department or agency must develop an indirect cost proposal in accordance with the requirements of this Part and maintain the proposal and related supporting documentation for audit. These governmental departments or agencies are not required to submit their proposals unless they are specifically requested to do so by the cognizant agency for indirect costs. Where a non–Federal entity only receives funds as a subrecipient, the pass-through entity will be responsible for negotiating and/or monitoring the subrecipient's indirect costs. Id. at app. VII(D)(1)(b). Governmental units receiving over $35 million in direct federal funding must submit their indirect cost rate proposals to their cognizant agencies. Governmental units receiving less are not required to submit their proposal to the cognizant agency unless asked by the cognizant agency. If a non-federal government unit only receives funds as a subrecipient, the pass-through entity is responsible for negotiating and/or monitoring the subrecipient’s indirect costs. Since the area development districts are not receiving over $35 million in federal funds, although they are required to prepare an indirect cost proposal and provide it upon request by their cognizant agency, they are not required to actually submit their indirect cost proposals to their cognizant agency unless asked. In the context of federal grants to area development districts through CHFS, CHFS is the pass-through entity, and area development districts are the subrecipients. 2 C.F.R. § 200.331 provides the requirements for pass-through entities, and 2 C.F.R. § 200.331(a) lists the information that all subawards must contain. Regarding indirect costs, 2 C.F.R. § 200.331(a)(4) provides that the subaward must include “an approved federally recognized indirect cost rate negotiated between the subrecipient and the Federal Government or, if no such rate exists, . . . a rate negotiated between the pass-through entity and the subrecipient.” 2 C.F.R. § 200.331(a)(4) thus requires that the indirect cost rate must be a federally approved rate negotiated between the subrecipient and the federal government if it exists; if there is no federally approved rate, then the indirect cost rate is negotiated between the pass-through entity and the subrecipient. CHFS has no authority to override federally approved indirect cost rates negotiated between the subrecipient and the federal government. “The statutorily authorized regulations of an agency will pre-empt any state or local law that conflicts with such regulations or frustrates the purposes thereof.” City of New York v. FCC, 486 U.S. 57, 64 (1988). Thus the proposed language in CHFS’s contracts which would cap federally approved indirect cost rates at ten percent is void as preempted by 2 C.F.R. § 200.331. However, the indirect cost rate must be negotiated between the subrecipient and the federal government in order to have preemptive effect. If there is no approved federally recognized indirect cost rate negotiated between the subrecipient and the federal government, the indirect cost rate is either negotiated between the subrecipient and the pass-through entity, or is the de minimis rate. Although the direct cost base selected “should result in each Federal award bearing a fair share of the indirect costs in reasonable relation to the benefits received from the costs,” 2 C.F.R. § 200 app. VII(B)(1), and pass-through entities are required to ensure that “the Federal award is used in accordance with Federal statutes, regulations and the terms and conditions of the Federal award,” id. at § 200.331(a)(2), the requirement that indirect costs be distributed in proportion to the benefits received from the costs is a general guideline rather than a fixed ratio. The rates listed in the letters from the EDA provided by Chairman Smith, without further evidence, do not appear to be negotiated with and approved by the federal government; they reference only that the EDA “has accepted the Certificate of Indirect Costs.” Certification of indirect costs is an annual requirement, regardless of whether an agency submits an indirect cost proposal to its cognizant agency or merely retains it for auditing, and is not itself sufficient to establish a federally approved rate. In contrast, 2 C.F.R. § 200 app. VII(E)(3) requires that “the results of each negotiation must be formalized in a written agreement between the cognizant agency for indirect costs and the governmental unit.” If the indirect cost rates have not been negotiated with and approved by the federal government, then they do not have preemptive effect. If, however, the indirect cost rates have been negotiated with and approved by the federal government, then CHFS may not override those rates. Chairman Smith further asks whether a state pass-through entity may reserve for itself the authority to authorize exceptions to the indirect cost rate. 2 C.F.R. § 200.414(c)(1) provides that “the negotiated rates must be accepted by all Federal awarding agencies. A Federal awarding agency may use a rate different from the negotiated rate . . . only when required by Federal statute or regulation, or when approved by a Federal awarding agency head or delegate . . . .” 2 C.F.R. § 200.414(c)(1) applies only to federally negotiated rates. If there is no federally negotiated rate, a pass-through entity may negotiate a procedure used for exceptions to the indirect cost rate with the subrecipient. If there is a federally negotiated rate, the procedures specified in 2 C.F.R. § 200.414(c)(1) must be followed in determining exceptions to the indirect cost rate. In summary, a pass-through entity for federal grants may not override a federally approved indirect cost rate negotiated between the federal government and a subrecipient. If there is no federally approved rate, the pass-through entity and the subrecipient negotiate the indirect cost rate. JACK CONWAY ATTORNEY GENERAL Matt James Assistant Attorney General These indirect cost rates appear to be the general indirect cost rate for the Pennyrile Area Development District, and not the specific indirect cost rates provided in any contracts between the Pennyrile Area Development District and any pass-through entities. CHFS informs us that “subsequent to the request for an Attorney General’s legal opinion, Secretary Audrey Tayse Haynes met with representatives of the ADDs to tell them the draft contract language was not going to be proposed . . . . However, unless the KCADD has withdrawn its request, the Attorney General’s office may still need to respond to it. And while the contract language may be different, the Cabinet has the authority to include certain requirements regarding the ADDs’ indirect costs in its contracts with the ADDs, so this response is still necessary.” We agree that a response to this issue is necessary to provide guidance to government entities receiving federal grant funds. Area development districts are local government units. OAG 73-529. Cognizant agencies for each class of recipient of federal funds are specified in 2 C.F.R. § 200 app. V(F)(1). The cognizant agency for state and local economic development districts is the Department of Commerce. Id. 2 C.F.R. § 200.331(a)(4) in its entirety states “an approved federally recognized indirect cost rate negotiated between the subrecipient and the Federal Government or, if no such rate exists, either a rate negotiated between the pass-through entity and the subrecipient (in compliance with this part), or a de minimis indirect cost rate as defined in §200.414 Indirect (F&A) costs, paragraph (f) of this part.” However, 2 C.F.R. § 200.414(f) provides that “any non-Federal entity that has never received a negotiated indirect cost rate, except for those non-Federal entities described in Appendix VII to Part 200—States and Local Government and Indian Tribe Indirect Cost Proposals, paragraph D.1.b, may elect to charge a de minimis rate of 10% of modified total direct costs (MTDC) which may be used indefinitely.” Agencies generally may use the de minimis rate if there is no negotiated rate, but state and local government units doing cost proposals may not, as they are expressly exempted in 2 C.F.R. § 200.414(f). This opinion addresses only state and local government units. CHFS appears to concede as much, stating that “the Cabinet has agreed that if there is a formal agreement between the ADDs and their cognizant agency accepting indirect cost rater [sic], the Cabinet will honor those rates.” 2 C.F.R. § 200.415(b)(1) provides that “a proposal to establish . . . an indirect (F&A) cost rate, whether submitted to a Federal cognizant agency for indirect costs or maintained on file by the non-Federal entity, must be certified by the non-Federal entity using the . . . Certificate of Indirect Costs.” OAG 15-019 Page 6