Base of Allocation

A base of allocation is the quantitative measure a government contractor uses to distribute the costs in an indirect cost pool across contracts and projects, ensuring that each contract bears a proportional share of indirect costs commensurate with its use of shared resources.

What is a Base of Allocation?

FAR Part 31.203 and Cost Accounting Standards require that indirect cost pools be allocated on a base that reflects the causal or beneficial relationship between the indirect costs and the contracts that will absorb them. The base must be measurable, consistently applied, and documented in the contractor's accounting policies.

Common allocation bases include direct labor dollars (used for fringe and overhead pools in labor-intensive firms), direct labor hours (used when the workforce has widely varying labor rates), total direct costs (used when materials and subcontracts are significant), and total cost input (used for G&A pools to spread corporate overhead across all business activities).

The choice of base affects every contract's burdened cost. A contractor that uses direct labor dollars as its overhead base will allocate more overhead to contracts using senior staff and less to contracts using junior staff, regardless of facility or equipment usage. When this misrepresents actual resource consumption, DCAA may challenge the base and require a change to one more closely aligned with how overhead is actually incurred.

Contractors subject to CAS must disclose their allocation bases in a Disclosure Statement and maintain consistency between disclosed practices and actual billing.

Why the base of allocation matters for government contractors

Selecting an inappropriate allocation base can systematically overcharge some contracts and undercharge others, creating equity problems and audit risk. It also affects competitiveness: a high-overhead company using total cost input as its G&A base will see G&A costs amplified on subcontract-heavy work, raising prices on bids relative to competitors with cleaner base structures.

Example

A professional services firm uses direct labor dollars as its overhead base. A new contract involves significant subcontract labor with very little internal direct labor. Because the allocation base is small, the overhead dollars allocated to this contract are low, which may understate the actual management burden the contract places on shared resources. An auditor may recommend switching to a total direct cost base to better reflect reality.

Frequently Asked Questions

Can a contractor change its allocation base?

Yes, but changes require advance disclosure to the cognizant ACO and DCAA, a justification that the new base is more equitable, and prospective application. Retroactive base changes to shift costs between contracts are not permitted without government approval.

What is the difference between a cost input base and a labor dollar base?

A direct labor dollar base allocates overhead proportional to internal labor effort, which works well for labor-intensive firms. A total cost input base includes subcontracts, materials, and other direct costs in the denominator, spreading G&A across all value produced. The latter prevents G&A from being concentrated on purely internal-labor contracts when the company does substantial subcontract work.

Does every cost pool need a different allocation base?

Not necessarily, but each pool should have the base that best reflects how those costs are incurred. Fringe and overhead pools commonly use direct labor as the base, while G&A typically uses a broader base. Using the same base for all pools is acceptable if it reflects actual cost drivers.

How does the allocation base affect my bid price?

The base affects your fully burdened labor rate and therefore your price on every bid. If your overhead base is direct labor dollars and your overhead rate is 40%, every dollar of direct labor you bid carries $0.40 of overhead. A thorough understanding of your cost structure is essential before pricing cost-type or T&M contracts.