The SBA made numerous changes to its regulations in the past year, but the FAR Council has largely failed to keep pace. Then, earlier this month, the FAR Council published three final rules to implement long-awaited changes to the FAR’s small business contracting requirements. While the changes concern small business contracting requirements, they will impact business contractors of all sizes. For example, one of the rules makes noteworthy changes to the FAR’s Limitations on Subcontracting, resulting in a more friendly regulatory landscape for small business prime contractors. Another of the rules provides clarity for large business contractors who seek to demonstrate “good faith efforts” to comply with a small business subcontracting plan. The new changes bring the FAR’s small business contracting requirements in line with the SBA’s regulations and will be incorporated into new contracts beginning on September 10, 2021.

Limitations on Subcontracting – Helpful Changes for Small Business Prime Contractors

Under the existing requirements in FAR 19.505 and FAR 52.219-14, Limitations on Subcontracting, small business contractors are required to self-perform a specific percentage of the work, as measured by the cost of the work. The percentage of work that the small business prime contractor must self-perform depends upon the nature of the work: 1) general construction – 15%; 2) construction by specialty trade contractors – 25%; 3) services or supplies – 50%. The FAR Council made two important changes to those regulations that it hopes will reduce the burden on small business contractors and enable those businesses to compete for larger contracts.

First, small business prime contractors are now permitted to satisfy the percentage work requirements through self-performance or by subcontracting directly to a “similarly situated entity.” For example, a HUBZone prime contractor engaged in general construction must demonstrate that 15% of the work is either performed by the prime or subcontracted directly to another HUBZone entity (only first-tier subcontracting is counted). To qualify as a “similarly situated entity,” the subcontractor must have the same small business status that qualified the prime for the award and, additionally, must be small under the subcontract’s assigned NAICS code.

The revised rules also call for all percentage calculations to be based on the total amount paid by the government to the prime rather than the cost of the work. As a result, the revised text of FAR 19.505 now requires that “for a contract or order assigned a NAICS code for general construction, the [small business prime contractor] will not pay more than 85 percent of the amount paid by the Government for contract performance, excluding the cost of materials, to subcontractors that are not similarly situated entities.”

While most of the changes serve to align the FAR requirements with those set forth in the SBA’s regulations, there is still a significant difference with regard to enforcement and penalties. While the SBA’s regulations call for fines of $500,000 or the amount improperly spent on subcontracting (whichever is higher), the FAR Council opted to omit these penalties from the new FAR provisions. Absent those penalties or any specific enforcement mechanism, the impact of these changes is an open question.

Small Business Contracting Plan – Clarity Regarding Good Faith Effort to Comply

Pursuant to FAR 52.219-9, large business prime contractors are required to submit a small business subcontracting plan that includes goals for subcontracting with various categories of small businesses. Should a contractor fail to make a “good faith effort” to comply with its small business contracting plan during performance, FAR 19.705-7 and FAR 52.219-16 call for penalties in the amount the contractor failed to achieve each subcontracting goal. However, there has long been uncertainty about how a contractor may demonstrate that it made a “good faith effort” to comply. The new rules provide an extensive list of “indicators of good faith” and “indicators of a failure to make a good faith effort” that should help resolve that uncertainty.

“Indicators of a good faith effort” include:

  • Conducting market research to identify potential small business subcontractors
  • Soliciting small business participation as early as practicable in the acquisition process
  • Negotiating in good faith with interested small businesses
  • Directing small businesses that need additional assistance to the SBA
  • Assisting small businesses in obtaining bonding, insurance, equipment,
  • Participating in the mentor-protégé program
  • Exceeding the goal in one socioeconomic category in an amount greater than the failure in another

In contrast, “indicators of a failure to make a good faith effort” include:

  • Failure to designate an employee to administer the plan and monitor compliance
  • Failure to maintain records or otherwise demonstrate procedures adopted to comply with the plan
  • Failure to implement company policies that support the plan Failure to pay small business subcontractors in accordance with the subcontract
  • Failure to notify the contracting officer in writing when the prime fails to acquire performance from the small business concerns named in the prime’s proposal or whose pricing was used in preparing the proposal.

Contracting officers are to consider the totality of the circumstances when assessing compliance.

While any change to the FAR creates some confusion and uncertainty, these changes appear likely to create a more contractor-friendly procurement process in the long run. Our Government Contracting Group is available to assist you with questions on these new regulations and any other government contracting matters.