The Difference Between A Free Lancer And A Small Business Federal Government Contractor

 INTRODUCTION

Talented free lancers often wish to grow independently as individuals in the government contracting market and face difficulties in doing so. Many have service and product development skills of value to federal agencies, but few succeed without forming a company and beginning to view their objectives as an enterprise instead of a single person entity. 

This article will examine the principal differences between free lancing and small business contracting from the perspective of the market realities that drive success in the venue.

DEFINITIONS:

We have previously discussed the organization entities that are involved in federal government contracting:

WHAT IS A SMALL BUSINESS FEDERAL GOVERNMENT “CONTRACTOR”?

Free Lancer:

A particular type of individual – the “Free Lancer”, finds his or her way to the federal market via established companies and performs single person services while not on a company payroll as an employee, having no taxes, benefits or deductions taken from their pay and not covered by any form of insurance.

The company issues a purchase order to the individual at an hourly rate and submits a Form 1099 to the US government reporting what is paid for services. The free-lance contractor must self-insure during the contract period and pay taxes on the money earned at the end of the tax year. Little, if any intellectual property protection exists for the individual and the larger firm may require non-disclosure, exclusivity and noncompete agreements that may limit the future efforts of the free-lancer.

Contractor

The term “Contractor” in government parlance refers to businesses, not individuals. To become a contractor to a government agency, you must therefore form you own business. Government agencies rarely engage individual contractors or free-lancers.  If they want individuals to perform services they put them on the agency payroll. If they want to acquire specialized outside services they contract with companies. 

Subcontractor

A subcontractor is a company that takes on a flow-down of liability from a prime contractor to complete a major portion of a large scale job for the prime contractor's customer. The subcontractor is obligated to the prime contractually in an identical fashion as the prime is obligated to the government agency. The prime contractor issues a subcontract with a statement of work and flow down terms and conditions from the prime contract to the subcontractor. In many instances the government requires review and approval of major subcontractor selections and holds the prime contractor accountable contractually at the prime contract level for the subcontractor(s) efforts.  Free-lancers and contractors, as described above, rarely become subcontractors.

The Necessity to Grow From a Free Lancer to a Contractor and/or a Subcontractor

Although talented professions may believe there is growth in the market for high performing individuals, the government contracting industry has very little room for them except in specialty roles and then usually only temporarily.  Prime contractors also view Free Lancers as interim performers of a short term variety and usually offer them the option of joining the company or moving on.  The government tends to view them as “Roosting” and not long term in reliability.

No past performance record is kept on individual Free Lancers by the government or prime contractors under FAR.  Such records pertain only to incorporated entities.  Companies bringing free lancers on board cannot claim their historical work as credible under government past performance guidelines until the individual has contributed to the company success as an employee, losing his free -lancer status in the process except for resume and organization chart purposes on future projects. 

With federal agencies there is a strong movement to issue umbrella, multiple year, long- term contracts, many to multiple sources for qualification and then order services as required with bundled capabilities in teams of companies.  Free Lancers do not qualify for such efforts without a company identity.

On cannot acquire a GSA schedule as a Free Lancer.  Once must form a company and apply as a business entity to achieve that form of marketing vehicle. 

Further, the government hesitates to become involved in contracting with individuals unless they are heavily insured and such insurance costs heavily for individuals and in many cases cannot be achieved at all.  

Therefore, to progress economically and independently the Freelancer must incorporate, form an enterprise and begin to thinking in terms of a company entity in lieu of a single person image for the future.  This can be achieved by adding personnel via incumbent work forces, using contingent hire agreements or engaging in product development with industry partners and government financing.  The following articles at this site provide details:

Acquiring An Incumbent Work Force As An Element Of Winning A Government Contract

Utilizing Contingent Hire Agreements to Strengthen Workforce Depth

Techniques for Small Business Product/Services Development in Government Contracting

SUMMARY

For stability, growth, cash flow, industry reputation and partnering, past performance consideration and economics, consider the transition from a single individual free-lancer to a company.  Brand your company and not yourself and think bigger than you are in terms of involving others in your operations to best position your supplies and services in the federal contracting market. 

Government Contract Statement Of Work and Technical Specifications Are Vital Documents

Part 1, Section C, is where the technical specifications and statement of work are located in your government contract. It is vitally important to manage these documents with your agency customers.

Without a well written Statement of Work (SOW) and associated supplies and services specifications there is unacceptable risk in your contract. 

Both the contractor and the government must come to an understanding regarding the scope of effort to be performed. That understanding is conveyed in the SOW and confirmed in the specifications referenced therein. A good SOW should have the following principal attributes:

* Clear identification of the products, services, skills, materials and performance factors required to complete the contract

* A description of the conditions under which the contractor will be required to perform and any related environmental or location factors

* Specific references to product specifications that govern an acceptable product or services performance outcome and delivery acceptance

* A schedule for the contract that identifies discrete delivery dates for products and specific start and end dates for supporting labor.

* A precise description of government furnished material or facilities required and when it will be made available to the contractor.

If your customer does not provide the above in the contract SOW offered in Part 1, Section C or your contract, offer a revision to the document during negotiations that represents a version to which your company will commit. Signing off on a poorly written SOW results in a difficult contract to manage and a high probability for disputes during the performance period.

Promoting Entrepreneurship To Create A Learning Organization

Involve the employees in the training process and encourage mentoring.

The organization mission is conveyed by continuous organization training. Internal experts can be very entrepreneurial in training approaches. Recognize and reward them for doing so and place them in lead positions in training programs. Organization training in business is a form of communication. It is not an academic pursuit, although elements of it may include learning new information. Still, it is not schooling in the sense of personal improvement as much as it is communication of company policy and expectations.

Employee Training

The most successful organizations pair experienced personnel on a staff basis with junior ones as models. Each has individual assignments and reports to the boss but the senior party is the example in the process/experience-driven aspects of the job and is available to answer questions. The younger individual infuses the older one with energy and new ideas much like osmosis. The result is a hybrid of old and new that works and has been put together by a team. The approach works extremely well, imposes on no one, results in the young and old learning by observation, satisfaction and recognition for collective efforts and reduction in the boss’s work load. A win-win all around.

Small Business Federal Government Contract Billing

FEDERAL GOVERNMENT CONTRACT BILLING

A recent poll revealed that in excess of 40% of the visitors who voted on the topics listed at this site wished to see a feature on government contract billing. Billing under federal government contracts can cause difficulty for small businesses because they often do not recognize that setting up complete contract identification information on the government billing form is vital to smooth invoice processing.

Another major feature not recognized by businesses new to government contracting is the relationship between inspection and acceptance records and invoice approval.

The type of contract also drives invoice preparation and requirements for supporting information.

The below article is an extract from the Navy SBIR site and is one of the most informative discussions I have seen by a government agency on the topic of billing. Following that article below is a special notice from the Defense Finance Accounting Service regarding electronic billing and links to tools insuring that mode is achieved correctly.

HOW TO GET PAID ON TIME

http://www.navysbir.com/paid.htm

1. Instructions for Invoicing and Vouchering are usually included in Section G of the contract. The instructions will include the location where vouchers shall be sent. If the contract requires the contractor to send vouchers to the sponsoring DoD organization for approval, the DoD organization would forward vouchers, after approval, to the appropriate DFAS for payment. The appropriate DFAS will usually appear at block 12 on page one of the contract. It is important for contractors to follow specific instructions contained in Section G of the contract. If there are any questions, they should call the contracting officer. This procedure should reduce the time required to process payments.

2.. Additional information on submission of vouchers is available from the Defense Contract Audit Agency. Contractors may request a copy of a guide entitled "Information for Contractors" (DCAAP 7641-90), August 1996, from Headquarters, Defense Contract Audit Agency, Operating Administrative Office, 8725 John J. Kingman Road, Suite 2135, Fort Belvoir, VA 22060-6219; Telephone No. (703) 767-1066; Telfax No. (703) 767-1061. This is an excellent source of information for contractors and its use is strongly recommended. A contractor may determine its local DCAA office by calling (703) 767-3274.

3. The type of contract will usually impact how, when, and under what circumstances the contractor will receive payments. The contract should be reviewed for payment schedules and procedures prior to signature. The contractor should understand how and under what circumstance each payment will be made. The following information is provided to help contractors better understand the payment process:

If the contract is Fixed-Price, the clause at FAR 52.232-2 will be included in the contract. This clause provides that contractors should be paid promptly as portions of work are completed. In order to provide for payment for a portion of the work, that portion of the work and price must be separately stated in the contract. If this is not done, the contractor will not be able to receive payment for portions of the work. The only other method of receiving interim payments on a fixed-price contract would be through progress payments, which can be authorized by the clause at FAR 52.232-16. Progress payment procedures are more complicated than partial payments and the contractor must have an approved accounting system if the progress payments clause is included in the contract.

If the contract is Cost-Plus-Fixed-Fee,a Cost-Reimbursement type of contract, the clause at FAR 52. 216-7 will be included in the contract. This clause allows for submission of vouchers approximately twice each month for actual costs incurred. The clause also allows a small business to voucher for recorded costs for items or services purchased directly for the contract, even though they have not yet paid for those items or services.

If the contract is incrementally funded (not fully funded at time of award) the contract will require the contractor to notify the contracting officer when additional funds will be required to continue performance.

If a fixed-price contract is incrementally funded, the clause at DFARS 252.232-7007 Limitation of Government’s Obligation will be included in the contract. This clause requires the contractor to notify the contracting officer in writing at least ninety days prior to the date when, in the contractor’s best judgment, the work will reach the point at which the total amount payable by the Government, including any cost for termination for convenience, will approximate 85 percent of the total amount then allotted to the contract. The notification will state the estimated date when that point will be reached and an estimate of additional funding needed to continue performance. This clause also provides that if such additional funds are not to be allotted, the contracting officer will terminate any items for which additional funds have not been allotted. However, the contract may be modified, by mutual agreement of the parties, to change the funding schedule and, if necessary, the period of performance.

If a cost-reimbursement contract is incrementally funded, the clause at FAR 52.232-22 Limitation of Funds will be included in the contract. This clause requires the contractor to notify the contracting officer in writing when costs expected to be incurred within the next sixty (60) days (may be varied from 30 to 90 days) will exceed 75 percent (may be 75 to 85 percent) of the total amount allotted. This notice should state the estimated amount of the additional funds required to continue performance. This clause also provides that if additional funds are not to be allotted by the end of the period specified in the schedule or another agreed-upon date, upon the contractor’s written request, the contracting officer will terminate the contract.

4. The clause at FAR 32-232.25 Prompt Payment is included in most SBIR contracts. The following information applies to prompt payment procedures:

The clause at FAR 32-232.25, among other things, provides that the due date for making an invoice payment by the designated payment office shall be the 30th day after the designated billing office has received a proper invoice from the contractor and/or the 30th day after Government acceptance.

FAR 32.903(a) and (b) requires that the Government NOT make an invoice or contract financing payment earlier than 7 days prior to the due date specified in the contract.

The Defense Federal Acquisition Supplement (DFARS) states, at subparagraph 232.905(2), that "designated payment offices are encouraged to pay small disadvantaged business (SDB) concerns as quickly as possible after invoices are received and before normal payment due dates established in the contract. The restrictions of FAR 32.903 prohibiting early payment do not apply to invoice payments made to SDBs. Contractors shall not, however, be entitled to interest penalties if invoice payments are not made before the normal payment due dates established in the contract."

5. There are a number of things that contractors may do to help decrease the period of time between the submission of an invoice and receipt of payment:

Submit invoices directly to the designated billing office. Call the point of contact at that office to insure that acceptance has been accomplished and that the invoice has been sent to the designated payment office.

Contact the designated payment office to obtain status of invoices. (FAR 32.904(a)(4) states that contractors shall be informed of points of contact within their cognizant payment offices to enable them to obtain status of invoices.) Verify the due date for the invoice with the payment office – what do they consider the due date to be? If the payment office indicates a due date that is more than 30 days after the designated billing office accepted the supplies or services, point out that FAR 32.905(a)(ii) states "In the event that actual acceptance occurs within the constructive acceptance period, the determination of an interest penalty shall be based on the actual date of acceptance." (The "constructive" acceptance period is 7 days.) Therefore, the due date should be 30 days after Government acceptance - commonly at the billing office.

Offer discount for prompt payment. FAR 32.905(g) states: that "when a discount for prompt payment is to be taken, payment will be made as close as possible to, but not later than, the end of the discount period. Payment terms are specified in the clause at 52.232-8, Discounts for Prompt Payment." For example, a discount of "1/2% - 14 days" offered on a $10,000 invoice should result in a payment of $9,950 within 14 days after the date of the invoice. The discount for prompt payment procedure should help in at least two ways. (1) the due date would be computed from the date of the invoice rather than the date of acceptance (Note: acceptance must occur prior to payment and the invoice should be mailed on the date it is submitted), and (2) the "discount for Prompt Payment" offer would overcome the requirement at FAR 32.903(b) that the Government shall not make invoice payments earlier than 7 days prior to the due date specified in the contract. The offer for a discount for prompt payment should appear prominently on the invoice (perhaps underlined). It may be helpful to discuss this with the designated paying office in order to get their recommended format. It is not the intent of DoD to encourage or discourage use of the discount for prompt payment procedure. The purpose of this paragraph is to provide sufficient information for the contractor to make that choice.

WAWF Training Practice Web Site - Go here to practice using the WAWF

application.

WAWF Training Web Site

Wide Area Work Flow - Receipts and Acceptance (WAWF-RA) is a Paperless Contracting DoD-wide application designed to eliminate paper from the receipts and acceptance process of the DoD contracting lifecycle. The goal is to enable authorized Defense contractors and DoD personnel the ability to create invoices and receiving reports and access contract related documents.

In the traditional DoD business method, three documents are required to make a payment - the contract, the receiving report and the invoice. Each of these may arrive at the payment office separately - if they are paper. They are processed individually as they arrive. Information is then manually keyed in to the payment system. Using WAWF-RA, electronic documents are shared, eliminating paper and redundant data entry. Data accuracy is increased and the risk of losing a document is greatly reduced.

The contract is available through a seamless interface with an application called Electronic Document Access (EDA). Contractors have electronic options for submitting invoices and receiving documents. They can submit documents on the Web, through FTP, or through EDI.

Authorized DoD personnel receive notification electronically of pending actions and have a virtual folder of documents accessible. Digital signatures are used to authenticate the users and to digitally sign documents. In some cases, user id and password can be used in lieu of a digital signature.

WAWF-RA supports DoD's efforts to reduce unmatched disbursements in the DoD receipt, acceptance, entitlement and payment process through data sharing and electronic processing. The benefits to DoD are global accessibility of documents, reduced need for re-keying, improved data accuracy, real-time processing, and secure transactions with audit capability. For vendors, benefits include the capability to electronically submit invoices, reduction of lost or misplaced documents, and online access to contract payment records.

For security purposes, with WAWF-RA, user identity is assured through the use of digital signatures and certificates or user id and password over an SSL connection. The online data transmissions are protected with encryption.

For additional information, please see the WAWF-RA website at

https://wawf.eb.mil/

Establishing Compliant Small Business Systems For Federal Government Services Contracts

INTRODUCTION

To effectively market a federal government services contract a small business must sell on the basis of having a business system as well as technical performance infrastructure ready to run the job when a contract proposal is submitted. This dual requirement is where many small businesses fall short in their federal government contract start up planning.

Parallel thinking is required to plan for government project technical effort against a template of necessary business process infrastructure, driven by introducing Federal Acquisition Regulations (FAR) into the company. Key elements of the necessary business system infrastructure are discussed in this article which assumes that your are in the federal government services contracting business, that you plan to price your services at an hourly rate and sell them by labor categories with professional job descriptions to perform the government's statement of work and bill by the hour. This article also assumes that you are not contracting under FAR Part 12, "Commercial Contracting".

Labor Categories

Each skill set in the company must be specified and defined as chargeable directly to a contract, or indirectly to a cost center overhead, a material handling pool or a general and administrative pool. Each labor category must have a job description and a prospective salary range for proposal purposes.

Cost Center

A Cost Center is a single business entity within the company, organized for a group of business lines and clients with close similarities for technical and business management purposes. Cost centers are also driven by geographic location and the requirement to separate commercial from federal government business. Projects performed in government facilities may also require a separate cost center, since many of the associated expenses for such operations are born by the government. Cost centers usually have individual subsidiary ledgers, balance sheets and profit and loss statements and are summarized monthly to a company total. Each cost center must have job cost accounting for the contracts residing there and a cost center unique overhead rate.

Examples:

Commercial Cost Center

Federal Government Cost Center

Government Site Unique Cost Center

Annual Overhead Rate

An overhead pool is made up of individual Cost Center indirect expenses projected for a given year divided by the projected Cost Center direct labor dollars for that year to determine a rate. Typical Cost Center Overhead general ledger expenses are those which cannot be effectively charged direct to contracts. These include Cost Center management, building lease, telephone, fringe benefits, electricity, capital equipment, depreciation, and the like.  An example of a 2026 Cost Center Overhead Rate of 110%  is as follows: 

2026 Gen Indirect Exp for Cost Center        =  $459,800

_____________________________________________= 110%
2026  Projected Dir. Labor $ for cost center = $418,000

The estimated annual Cost Center Overhead Rate is applied to direct labor cost estimates to price labor cost through overhead for 2026 for the Cost Center. When a contract is awarded, actual overhead expenses are allocated monthly to direct labor by contract on the basis of direct labor dollars incurred. Projected overhead rates are adjusted based on actual total cost center experience as the year progresses.

Annual Material Handling Rate (if required) - Corporate wide expenses specifically associated with buying, storing and shipping material for a given year divided by the projected direct material dollars projected company-wide for that year. Not all companies have business that is material intensive enough to warrant a separate pool for material handling. Where extensive buying or subcontracting is conducted out of the corporate headquarters and inventory and shipping labor are high, a material handling pool is permitted by the government when it is not administratively possible to charge these expenses directly to contracts.

The estimated annual Corporate Material Handling Rate is applied to direct material cost estimates to price material for all Cost Centers. When a contract is awarded, actual material handling expenses are allocated monthly to direct material by contract on the basis of direct material dollars incurred. The projected material-handling rate is adjusted based on actual total company experience as the year progresses.

Annual General and Administrative Rate (G and A) is corporate indirect expenses projected for a given year divided by the total projected direct cost plus overheads for all cost centers for that year. Typical G and A general ledger expenses include costs which cannot be charged direct to contracts or to cost center overhead expenses such as corporate executive management, headquarters building leases, legal expenses, company wide insurance, corporate advertising, and the like.

MANAGEMENT FACTORS

Success will be determined by managing the numerator in each of the above equations and winning or maintaining the projected direct cost programs in the annual denominator. If expenses increase due to unforeseen events or if the company loses more projects than planned in the annual denominator base, the associated rate will go up for estimating purposes and under cost plus or time and material contracts the rate billed to the government will also increase. 

Existing fixed price contracts under these circumstances will become less profitable. Pricing for future fixed price contracts must reflect the increased rates being experienced to avoid further losses.

Correspondingly, if expenses decrease due to unforeseen events/good management or if the company wins or grows more projects than planned in the annual denominator base, the associated rate will decrease for estimating purposes and under cost plus or time and material contracts the rate billed to the government will also decrease. Existing fixed price contracts will become more profitable. Pricing for future fixed price contracts must reflect the decreased rates being experienced.

For time and material and cost plus contracts, monthly billing rates utilized are "Provisional Rates" that the contractor is free to change based on experience as long as he informs contracting officers and the local Defense Contract Audit Agency (DCAA) of the changes and reasons for the changes can be demonstrated. Before time and material and cost plus contracts can be closed out, provisional rates must be adjusted to reflect actual rates experienced. 

The contractor will owe the government if provisional billings have been higher than actual cost history. Correspondingly, if the actual rates for cost plus or time and materials contracts have been higher than the provisional rates billed by the contractor, the government will owe the contractor at closeout. 

Firm, Fixed Price Contracts are generally billed at negotiated fixed prices by line item at contract award and paid upon final delivery and acceptance or through monthly progress payments based on incurred cost with a percent of payment retention by the government until deliveries are complete. 

Fixed rate contracts are billed on a monthly basis through hours incurred. The hourly rates are fixed for the contract term and do not change.

COST ESTIMATING/COST ACCOUNTING EXAMPLE

Consider a historical 12-month project priced in a hypothetical small business utilizing forward pricing "Provisional Rates." The contract began in July of 2018 and continued to July of 2019. Direct labor rates were escalated between 2018 and 2019 by 3.5% based on the Consumer Price Index. The company decided to keep the indirect rates for Overhead and G&A the same for pricing purposes in 2018 and 2019. The company had no Material Handling Pool and charged purchasing, inventory and shipping costs direct to contracts.

This government contractor maintained Overhead and G&A rate databases in Excel by month by year to forward price projects such as the one in this example. The databases all utilized the same generic chart of expense accounts as a template for the Cost Center Overhead and G and A monthly expense forecasts (equation numerators). The project was priced in cost center 1 at an overhead rate of 110% and a corporate G and A rate of 10%.

Cost Center Direct Labor forecasts in the databases were projected by hours and salary dollars for each existing and anticipated project and then summarized to determine the equation denominator which when divided into the Cost Center Numerator B, above) yields the Cost Center Overhead forecast by month by year. Direct Labor was then burdened by the projected Cost Center Overhead and added to Material and Travel to yield a total Cost Center business summary through Overhead.

The G and A rate data base summarized total direct labor through overhead, material and travel cost for all cost centers (equation denominator) and divided it into the total corporate G and A expense (equation numerator) The equation result yielded the projected  G and A rate by month by year. All cost center labor through overhead, material and travel were then summarized and burdened through G and A to forecast a total cost projection by Cost Center at "Provisional Overhead and G and A Rates.

A copy of the annual baseline projected rate database was adjusted with actual expense data each month in the numerator after closing. The denominator for the month was also updated with actual existing and new business developments at the cost center level and G&A monthly actual cost at the corporate level. The resulting actual rate experience is then analyzed for trends as the year proceeds and utilized for making potential adjustments in provisional rates. 

When provisional rate changes are necessary, the government was notified in advance and provided with trend information justifying the rate change. Upon approval by the government, the baseline forecast was adjusted and utilized for billing on T&M and Cost Plus Contracts. The adjusted rates were also utilized to price all future projects. DCAA does not audit management decisions. They simply check the math.

Rate databases are usually fully detailed by month for the current year and 1-2 years into the future. Years 3-5 typically have summarized assumptions through use of escalation factors. Bids for out years 5-10 if required by the government definitely utilize escalation factors. Very few government contractors are willing to bid on a firm, fixed price basis beyond out year 5.

To comply with Cost Accounting Standards 401 and 402, this company set up each new government contract on job cost accounting in the identical manner in which it was proposed; in effect identifying direct labor, direct material and other direct costs to each contract monthly and allocating overhead and G&A utilizing the same numerator and denominator relationships upon which the contract was originally estimated.

The larger the direct cost that was incurred on a contract in this company the greater the share of the cost center overhead and corporate G and A was incurred by that contract. 

The entire content of this company's business system was subject to audit and verification by the Defense Contract Audit Agency (DCAA) against Cost Accounting Standards 401 and 402. 

DCAA validated company records by requiring "Incurred Cost Submissions" from this contractor. The submissions validated final rates for cost plus and time and material contract closeouts. Fixed price contracts were closed out when final delivery was received and accepted.  Retention on monthly progress payments under fixed price contracts was released at closeout.

SUMMARY:

The software tools discussed at the posting at this blog DCAA AUDITS AND SMALL BUSINESS JOB COST ACCOUNTING SYSTEMS are designed to assist you in running the above process from a job cost accounting perspective. However, these tools must be set-up to reflect the unique way you are organized and they must reflect your specific business plans as discussed in this article. They will not do that for you.

Illustrations of the the rates, pricing and the long range plan utilized in the above example are available in Chapters 45 and 51 through 53 of my free book, "Small Business Federal Government Contracting" and appendices A and B. You may download the book and related documents from the "Box Net" Cube in the right margin of this site.