Cost Principles for Educational Institutions

Federal RegisterFeb 6, 1995

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OFFICE OF MANAGEMENT AND BUDGET

Cost Principles for Educational Institutions

AGENCY: Office of Management and Budget.

ACTION: Proposed revisions to OMB Circular A-21 and proposed rescission

of OMB Circular A-88.

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SUMMARY: This Notice offers interested parties an opportunity to

comment on proposed revisions to Office of Management and Budget (OMB)

Circular A-21, ``Cost Principles for Educational Institutions'' and

OMB's proposal to rescind OMB Circular A-88, ``Indirect Cost Rates,

Audit, and Audit Followup at Educational Institutions.''

This proposed revision, together with a separate proposed revision

published in this issue of the Federal Register, fulfills the

Administration's commitment in the fiscal year 1995 budget to ``conduct

a comprehensive review with the goal of improving the incentives that

govern overhead reimbursement for a wide range of federal research

grantees and contractors.'' It also reflects the Administration's

policies regarding Circular A-21 as described in the fiscal year 1996

budget, transmitted to Congress on February 6, 1995. Of the 14 policies

in this Notice, eight are proposed as revisions to Circular A-21 itself

in this Notice, and the other six revisions, as described below,

require [[Page 7106]] further development prior to proposed

implementation.

In brief, the proposed revisions:

(1) clarify that, when an institution transitions from a use

allowance methodology to a depreciation methodology, only the

depreciation incurred from the time of the transition--calculated as if

the asset had been depreciated over its entire life--may be allocated

to federally-sponsored research;

(2) limit the use of special studies by prohibiting them for

determining and allocating utility, library and student services costs;

(3) require all Federal funding agencies to use rates in effect at

the time of initial award throughout the life of the sponsored

agreement;

(4) eliminate the allowability of dependent tuition benefits;

(5) establish criteria for appropriate reimbursement of interest

costs;

(6) rescind Circular A-88 and establish cost negotiation cognizance

for educational institutions and cognizant agency responsibilities

through Circular A-21;

(7) establish an interagency group of Federal officials responsible

for coordinating policy development for sponsored agreements; and

(8) modify the terminology used in Circular A-21 to describe more

accurately the various cost components of sponsored agreements.

In addition, this Notice announces OMB's decision to develop other

revisions to Circular A-21. These include:

(1) establishing a process for assessing reasonable costs for

research facility construction and renovation that may be allocated to

facility cost pools and charged against sponsored agreements;

(2) developing a standard methodology for uniform treatment of

specialized services, including computational centers and biohazards;

(3) developing standard benchmarks for utility costs over the next

year, to be followed potentially by similar efforts for library and

student services costs thereafter;

(4) developing and testing a model for charging space costs

directly to research grants;

(5) examining and potentially revising the useful life schedule for

equipment; and

(6) examining methods for explaining variations in facilities and

administrative costs rates.

DATES: Comments should be received on or before April 7, 1995. Late-

filed comments will be considered to the extent practicable.

ADDRESSES: Interested parties are invited to comment on all of these

proposed changes. Comments should be submitted to the Office of

Management and Budget, Office of Federal Financial Management, Room

6025, New Executive Office Building, Washington, DC 20503. Brief

comments (3 pages or less) may be sent via facsimile (fax: 202-395-

3952).

FOR FURTHER INFORMATION CONTACT: Norwood Jackson, Office of Federal

Financial Management, Office of Management and Budget, telephone (202)

395-3993.

SUPPLEMENTARY INFORMATION: In the fiscal year 1995 President's budget,

the Administration committed to a comprehensive review of the costs of

federally-sponsored research, with the goal of making the reimbursement

system more defensible, equitable and understandable by reducing

unexplainable variations in facilities and administrative rates;

improving incentives for efficiency; and fostering consistency in the

Federal Government's approach to administering support for sponsored

research. The revisions proposed in this Notice are the result of this

review.

In the spirit of other reinvention efforts, the review process

guided by the Office of Management and Budget (OMB) and the Office of

Science and Technology Policy (OSTP) was inclusive and open. OMB and

OSTP solicited views, recommendations, and proposals from many parties,

including Federal science funding agencies; the grantee community,

including both university administrators and bench scientists; and

Congressional staff and agencies.

Based on their input, the Administration decided that the review

should focus on facilities costs, since the two other groups of

research costs (direct costs and administration costs) have reasonably

efficient mechanisms built into their funding policies. Direct costs,

which support researchers, laboratory equipment, and supplies

associated with a specific project, are subject to peer review and

scientists have an opportunity to exert direct control over these

costs. Administrative costs, which support the salaries of university

research managers, support staff and other shared costs related to

research, were capped at 26 percent of modified total direct costs by a

1991 revision to Circular A-21, ``Cost Principles for Educational

Institutions.'' In contrast, facilities costs are not limited or peer

reviewed. They account for almost all of the growth in research

overhead rates over the last decade and explain much of the variation

in rates among schools. Most of the specific changes proposed in this

Notice address the facilities component of research costs.

The two sections below describe the eight revisions OMB proposes to

make to Circular A-21 at this time, as well as a separate set of

revisions that require further work before they can be proposed for

implementation. OMB intends to propose these additional revisions for

comment within one year of publication of this Notice. Finally, OMB

intends to publish a recompilation of the entire Circular A-21 in the

Federal Register by March 31, 1995, reflecting all final revisions

through that date, and also to make the recompilation available

electronically on the Internet.

PROPOSED REVISIONS TO OMB CIRCULAR PA-21: The following explains the

eight specific changes proposed to Circular A-21.

(1) Clarify the policy governing the transition from use allowance

to depreciation and examine useful life schedules for equipment.

Circular A-21 would be amended to clarify that an institution may

recoup only the remaining depreciation expense representing the

remaining useful life of an asset when the institution shifts from the

use allowance methodology to depreciation. Because current language in

Circular A-21 addressing the transition issue is not sufficiently

precise, cognizant agencies have interpreted it differently. This

revision is expected to have little impact because the vast majority of

institutions now allocate costs consistent with the clarified policy.

This revision also clarifies that institutions must use either use

allowance or depreciation, but not both, in allocating the costs of any

class of assets to sponsored research. As in the past, Circular A-21

does not require institutions to shift from use allowance to

depreciation. Institutions may continue to do so at their discretion.

(2) Limit use of special cost analysis studies. Circular A-21 would

be amended so that the results of special studies for utility, library

and student services costs could not be used to determine and allocate

the costs of such services to sponsored research. The methodology for

such studies is not specified in Circular A-21 and is a source of

disagreement between cognizant agencies and institutions. The provision

in Circular A-21 allowing special studies may have been appropriate at

one time but now promotes disparity in rates and recovery. In

conjunction with limiting [[Page 7107]] special studies, OMB proposes

to develop and implement standard benchmarks for equitable allocation

of utility, library and student services costs (see proposal #3 under

``Other Issues for Public Comment'' below).

(3) Require Federal funding agencies to use rates in effect at the

time of initial award throughout the life of the sponsored agreement.

Circular A-21 would be amended to require Federal science funding

agencies to calculate outyear grant commitments using negotiated

predetermined rates or other available negotiated rates at the time of

the award. Funding agencies may not adjust future award levels for

changes in negotiated rates taking effect after the initial award. This

proposed change allows peer reviewers and funding agencies to know with

certainty the total cost of an entire sponsored agreement throughout

the decisionmaking process, and eliminates another point of

inconsistency in Federal grant policies.

(4) Eliminate the allowability of dependent tuition benefit. To

make Circular A-21 consistent with the Federal Acquisition Regulation,

this Notice proposes to prohibit the allocation of dependent tuition

benefits to sponsored agreements.

(5) Establish criteria for appropriate reimbursement of interest

costs. The proposed revision would provide that interest on buildings

and equipment would be allowable under certain circumstances which

include a favorable lease/purchase analysis, a limit on the interest

rate, and an offset of investment earnings against interest cost. The

revision will serve to provide more consistency on interest

allowability across OMB's three cost circulars: Circular A-122 for non-

profit institutions, Circular A-87 for State and local governments, and

Circular A-21 for educational institutions.

(6) Rescind Circular A-88 and establish cost negotiation cognizance

for educational institutions and cognizant agency responsibilities

through Circular A-21. This proposed revision rescinds Circular A-88.

Cost negotiation cognizance would be assigned to the Department of

Health and Human Services or the Office of Naval Research of the

Department of Defense based on funding levels for sponsored agreements

from these Departments. The Department providing the most funding would

assume cognizance. Because of this change in approach, a listing of

cognizant agency assignments is no longer necessary.

(7) Establish an interagency group of Federal officials to

coordinate policy development for sponsored agreements. This proposed

change would establish an interagency working group co-chaired by OMB

and the Office of Science and Technology Policy (OSTP), comprised of

officials responsible for policy development for sponsored agreements.

This group would be charged with recommending changes to Circular A-21

and other OMB cost principles circulars based on recommendations of

Federal agencies and non-Federal organizations. This group would

recommend pilot projects designed to test ways to streamline the

operations of sponsored agreements, reduce costs, or improve program

delivery.

(8) Modify terminology used to describe research cost components.

Circular A-21 would be amended to change terminology from ``indirect

costs'' to ``facilities costs and administrative costs.'' The terms

used currently to describe costs are perceived as insufficiently

descriptive.

Other Issues For Public Comment: In addition to the specific revisions

described above, OMB is also considering the following issues for

possible future implementation through Circular A-21. Public comment is

solicited on these issues. Should OMB decide to revise Circular A-21 to

address these issues, specific changes will be proposed for comment at

that time.

(1) Assessing reasonable costs for research facility construction

and renovation that may be allocated to facility cost pools and charged

against sponsored agreements or allocated directly. Circular A-21

requires that costs allocated to sponsored research be reasonable, and

sets as a standard for reasonableness the ``prudent person'' test,

i.e., whether a ``prudent person'' would have incurred the costs under

similar circumstances. The rise in facilities costs over the past ten

years and the significant variation in facilities rates among

institutions have caused some to question how well and how consistently

the ``prudent person'' test has been applied to facilities costs.

A committee of Federal officials from relevant agencies would be

formed to develop benchmarks for the reasonable costs of construction

of various types of space, adjusted for variable costs (e.g., energy,

type of research) in each region of the U.S. The committee would seek

input from the university community, private sector, and others.

Benchmarks for renovation would be set at the same level as those for

new construction. Benchmarks would be set at or slightly below a given

standard to encourage efficiencies and would be indexed to inflation

using a rate appropriate for construction. Benchmarks for each region

of the country and by type of research facility would be published in

the Federal Register for comment by January 2, 1996.

Cognizant agencies and institutions would use these benchmarks to

determine the facility costs that may be charged to sponsored

agreements. If proposed facility costs fall below the relevant

benchmark, the depreciation or use allowance and interest costs of the

building could be allocated to sponsored agreements in accordance with

Circular A-21. If the proposed costs exceed the benchmarks, only the

amounts provided by the benchmarks could be allocated without prior

approval by the panel described below.

Review of costs above the benchmarks would be carried out by a

panel of Federal officials. The review would consider special

circumstances related to individual projects. If a university fails to

obtain approval for reimbursement of the full allocated share of the

facility costs, it could either accept the benchmark rate, or submit a

revised justification.

The goals of the new process are to make as objective as possible

the assessment and allocation of costs to sponsored research, to assure

equitable results, and to encourage efficient construction and

renovation of research facilities. Benchmarks will reflect only what

the government will pay for space, and in no way will limit what

universities may spend on infrastructure. The review process will be

proposed in a future revision to Circular A-21.

(2) Develop a standard methodology for uniform treatment of

specialized services. Circular A-21 requires that costs associated with

the use of specialized service facilities (e.g., animal care,

computational centers, and biohazards) be charged as direct costs. This

requirement was intended to avoid assessing facility charges to

investigators who do not use specialized services. To comply with this

provision, some institutions have developed usage rates that reflect

the full costs of the facility; as a result, charges for services such

as animal per diem have increased as the total costs of operating the

facility have been added to the daily costs of caring for each animal.

Colleges and universities have not allocated the costs of specialized

services uniformly to cost pools.

OMB intends to identify the operating expenses of special

facilities that should be allocated to the direct costs and those to be

included in a facility-specific rate or the general facilities cost

pool. The costs associated with each category [[Page 7108]] should be

uniform across institutions. The new methodology should promote greater

uniformity of cost allocation among institutions while stabilizing the

impact on project costs. This methodology will be proposed in a future

revision to Circular A-21.

(3) Develop standard benchmarks for utility costs. In conjunction

with the proposed revision in this Notice to eliminate special studies

for utility costs, OMB plans to develop a benchmark ratio, based on

determinants of the ratio of utility usage to research space, to

standardize the allocation of such costs to sponsored research. These

benchmarks will be proposed in a future revision to Circular A-21.

After benchmarks for utility costs have been developed and implemented,

OMB will also consider employing similar processes and models to

develop benchmarks for libraries and student services.

(4) Develop and test a model for charging space costs directly to

research grants. Over the last several years, policymakers, scientists

and negotiators have discussed the idea of identifying project-specific

space costs and charging those costs directly to grants. Direct

charging would strengthen the incentive for colleges and universities

to allocate space efficiently. Charging space directly to sponsored

agreements would also help clarify the true costs of research and

subject these costs to peer review and program oversight on a project-

by-project basis.

The idea of charging space directly has not been adopted because

some perceive it as too complicated from a technical perspective. The

Federal Demonstration Project (FDP), which was established to test ways

to improve flexibility and reduce the administrative costs associated

with grantmaking, is well-suited to test the idea of direct charging

space to grants. Further, the National Performance Review recommended

using the FDP as a model program to reduce overhead on research grants.

OMB has requested the FDP to develop a model for and to test direct

charging of space.

(5) Examine and potentially revise the useful life schedule for

equipment. OMB intends to review the current useful life schedules for

equipment to ensure cost recovery policies keep pace with the changing

nature of scientific equipment. Useful life schedules will be updated

in future proposed revisions of Circular A-21, as appropriate.

(6) Examine methods for explaining variations in facilities and

administrative costs rates. OMB will review ways of collecting data to

explain rate variation, to include establishing a uniform chart of

accounts. OMB solicits comments on methods that will provide

appropriate data in a cost-effective manner.

John B. Arthur,

Associate Director for Administration.

The following are proposed revisions to sections A, E, G, and J of

Circular A-21:

(1) Amend Section A by: (a) deleting paragraph 2.f, (b) changing

the number of the current paragraph 3 to 4, and (c) adding a new

paragraph 3 as follows:

3. Cognizant agency assignments and responsibilities.

a. Cognizant agency assignments. Cost negotiation cognizance is

assigned to the Department of Health and Human Services (DHHS) or the

Department of Defense, Office of Naval Research (ONR), based on which

of these two Departments provides more Federal funding through

sponsored agreements to an educational institution (including its

component parts) for the most recent three years available using data

published by the National Science Foundation in its annual report

entitled ``Selected Data on Federal Support to Universities and

Colleges.'' Cognizant assignments as of December 31, 1994, will

continue in effect through educational institution years ending during

1997, except for those institutions with cognizant agencies other than

DHHS or ONR. Cognizance for these institutions will transfer to DHHS or

ONR not later than the end of the period covered by the current

negotiated indirect cost agreement. Once cognizance is established, it

will continue for a five-year period.

b. Acceptance of rates. The negotiated rates will be accepted by

all Federal agencies. This does not preclude agencies from paying a

lower rate pursuant to a class of sponsored agreements or a single