The Long-Awaited FAR Update to the Limitations on Subcontracting Rule Has Arrived

The Federal Acquisition Regulation's (FAR) limitations on subcontracting rule has finally been revised to align with the U.S. Small Business Administration's (SBA) regulations. With these revisions, the discrepancies between the FAR and SBA versions that have created headaches for federal contractors for the last five years have finally been eliminated.

Under the rule federal contractors that receive a contract on a small business set-aside basis are prohibited from subcontracting more than 50% (15% or 25% for construction depending on construction type) of the contract to large businesses. Calculation of that 50% differs depending on whether the contract is one for services or one for supplies. The metric used for services has been historically difficult to compute, as it was based on the "cost of contract performance incurred for personnel."

However, the 2013 National Defense Authorization Act (NDAA) – yes, 2013 – revised the formula to make it easier by using the percentage of the overall award amount spent by the prime on subcontractors—as opposed to the ornery "percentage of the cost of contract performance incurred for personnel" metric. The NDAA also introduced the concept of a "similarly situated entity" that permits a small business prime contractor to count work performed by similarly situated first-tier subcontractors for purposes of compliance with the limitations on subcontracting.

In May 2016, SBA published a final rule amending the SBA's limitations on subcontracting regulations to bring them into conformance with the NDAA. The FAR was not amended at the same time. It was not until December 4, 2018, that the FAR Council issued a proposed rule which would bring the FAR into conformance with SBA's regulation and the 2013 NDAA. Then there was nothing. For months, then years. Given the delay, some agencies, but not all, issued deviations to allow contractors to use the SBA rule. As a result, contractors were often confused by which rule to follow as they had to navigate the maze of agency deviations, the 2013 law, and conflicting regulations.

Now finally, the FAR Council has issued a Final Rule that will bring the limitations on subcontracting rule in the FAR into alignment with the limitations on subcontracting provisions in SBA's regulations. Interestingly, the FAR Council has delayed the implementation of the Final Rule until September 10, 2021, so solicitations issued between now and then may still incorporate the old FAR version of the rule.

The Final Rule makes several significant changes to the FAR provisions that pertain to the limitations on subcontracting rule, including:

• Defining a similarly situated entity as "a first-tier subcontractor, including an independent contractor, that—(1) Has the same small business program status as that which qualified the prime contractor for the award (e.g., for a small business set-aside contract, any small business concern, without regard to socioeconomic status); and (2) Is considered small for the size standard under the NAICS code the prime contractor assigned to the subcontract."
• Allowing a prime contractor to use work performed by one or more similarly situated subcontractors to comply with the limitations on subcontracting formula.
• Using "the amount paid by the Government for contract performance" as the means for determining compliance with the limitations on subcontracting for service contracts
• Clarifying that the non-manufacturer rule and the limitations on subcontracting rule apply to set-asides and sole source awards across all small business contracting programs, regardless of dollar value.
• Updating guidance related to the application of the non-manufacturer rule, including the procedures for obtaining a waiver.
• Clarifying the solicitation provisions and contract clauses that must be included when the Historically Underutilized Business Zone (HUBZone) price evaluation preference is used.

The Final Rule revising the Limitations on Subcontracting rule is available here. If you have any questions about this legal update or need assistance understanding your obligations under the Final Rule please reach out to the Government Contracts group.