IR&D Cost Rules for Defense Contractors: Allowability, DTIC, and DCAA

Defense contractors recover independent research and development costs by charging them as indirect expenses across their contract base, and FAR 31.205-18 makes those costs allowable so long as they are allocable, reasonable, and properly accounted for.¹ For companies doing work with the Department of Defense, DFARS 231.205-18 adds a size threshold, an allowability cap tied to potential defense relevance, and mandatory project reporting to the Defense Technical Information Center. Missing any of those steps can turn otherwise legitimate research spending into unrecoverable cost, and in the worst cases into False Claims Act exposure.

What Qualifies as IR&D

IR&D is technical work a contractor initiates and pays for on its own, without being required to do it under any specific contract or grant.² The defining feature is that the government neither directs the effort nor tells the contractor what to investigate. If a contract or grant requires the work, it is direct work chargeable to that contract, not IR&D.

That boundary matters more than any other definitional point. A project that begins as genuine IR&D can drift into supporting a specific contract, and if the contractor does not reclassify the effort when that happens, the whole project’s costs become vulnerable at audit.

The Three Layers of Rules

Three overlapping regulatory regimes govern IR&D on defense contracts, and a contractor subject to all three must satisfy every one.

FAR 31.205-18 is the baseline. It defines IR&D and bid and proposal (B&P) costs, sets the general allowability rule, and describes how the costs must be accumulated and allocated. It also contains the specific provisions on deferred costs and cooperative arrangements.¹

DFARS 231.205-18 is the DoD supplement. It defines who counts as a “major contractor” and adds the reporting and allowability restrictions that apply to that group. A contractor is a major contractor if its covered segments allocated more than $11 million in combined IR&D and B&P costs to covered contracts in the prior fiscal year; segments below $1.1 million are excluded from that calculation.³

Cost Accounting Standard 420, at 48 CFR 9904.420, governs how IR&D and B&P costs are accumulated and allocated. FAR 31.205-18(b) applies the cost identification and accumulation provisions of CAS 420 to all contracts, whether or not they are otherwise CAS-covered.⁴ Even a contractor otherwise exempt from CAS must follow CAS 420 definitions when handling IR&D accounts.

When IR&D Costs Are Allowable

IR&D costs must clear the same standards as any other contract cost: reasonable in amount, allocable to the contracts that benefit, and compliant with regulatory restrictions. Beyond that, the contractor needs documentation showing the technical plan for each project, the costs incurred, and the connection between the research and either the business base or potential government applications. Thin documentation is one of the fastest paths to disallowance.

For DoD major contractors, DFARS 231.205-18 imposes a second ceiling. The allowable amount cannot exceed the lesser of the contracts’ allocable share of total IR&D and B&P costs, or the amount spent on projects of potential interest to DoD.³ A project with no plausible defense application will not be recovered through DoD contracts no matter how well documented it is.

Reporting to DTIC

Major contractors under DFARS 231.205-18 must report their IR&D projects to the Defense Technical Information Center through the Defense Innovation Marketplace portal.⁵ Reports must be updated at least annually and again when the project is completed, and copies must be available for review by the cognizant administrative contracting officer and DCAA auditor. Annual IR&D costs are allowable only if all three steps are met: initial project submission, annual updates, and accessibility to the ACO and auditor.⁶

The reporting gives DoD visibility into where industry is investing and creates the evidentiary record that each project has potential defense relevance. Skipping or delaying the filings can wipe out cost recovery on projects that would otherwise have qualified.

How the Costs Flow Through Indirect Rates

Allowable IR&D costs do not get charged to any single contract. They move through the indirect rate structure. The default under FAR 31.205-18 is that IR&D and B&P costs are allocated to final cost objectives on the same base used for the general and administrative (G&A) expense grouping of the profit center where the costs are incurred.¹ When the effort benefits other profit centers or the company as a whole, allocation runs through those centers’ G&A or through corporate G&A.

If G&A allocation would produce an inequitable result, the contracting officer can approve a different base.¹ That flexibility matters when the base is skewed by a few very large contracts or by a business mix that would push a disproportionate share onto one program.

FAR 31.203 requires all items properly in an indirect cost base to bear a proportionate share of indirect costs, whether or not the items are themselves allowable government contract costs.⁷ The practical effect: IR&D costs are spread across the contractor’s entire business base, commercial revenue included, so government contracts do not absorb the full burden of research that also feeds commercial products. Recovery happens incrementally through the indirect rates applied to each contract’s direct costs.

IR&D Versus Bid and Proposal Costs

Both IR&D and B&P live under FAR 31.205-18 and both recover through indirect rates, but they answer different needs. B&P covers the cost of preparing, submitting, and supporting bids and proposals on potential contracts, solicited or not.² The effort targets a specific piece of business. IR&D builds technology or knowledge for future applications without targeting any particular solicitation.

A cost cannot qualify as both. Labor spent building a general-purpose prototype belongs in the IR&D pool. Labor spent tailoring that prototype into a proposal response belongs in B&P. Blurring the line is a recurring audit finding, and separating the two requires disciplined timekeeping.

Deferred IR&D Costs

IR&D costs from prior accounting periods are generally unallowable. You cannot warehouse old research expenses and charge them against current government work. There is one narrow exception. A contractor that developed a specific product at its own risk can prorate the development costs into the product’s sale price, but only when all of the following apply:

The total IR&D cost tied to the product can be specifically identified.
The method of spreading those costs across product sales is reasonable.
The contractor either had no government business when the costs were incurred, or did not allocate IR&D costs to government contracts except through the product’s sale price.
Current IR&D program costs are not being allocated to government work except through that same product-sale proration.

When deferred costs are accepted, the contract must contain a specific provision stating the deferred IR&D amount allocable to it, and the negotiation memorandum must document the circumstances.¹ Firm-fixed-price contracts and fixed-price contracts with economic price adjustment are excluded from the deferred-cost mechanism entirely.

Cooperative Research Arrangements

Contractors sometimes run IR&D jointly with other companies or non-federal entities through joint ventures, teaming arrangements, or consortium agreements. FAR 31.205-18(e) treats those costs as allowable IR&D when the work would have qualified as IR&D had the contractor performed it alone.¹ The rule also expressly covers contributions to cooperative research and development agreements. Costs to prepare, submit, and support offers on potential cooperative arrangements are separately allowable if allocable and reasonable.

What DCAA Looks For

The Defense Contract Audit Agency reviews IR&D as part of its incurred cost audit cycle, and its examiners focus on three questions: whether the effort fits the regulatory definitions of IR&D and B&P, whether the costs are allowable under FAR and DFARS, and whether allocation to contracts complies with CAS 420.⁸ Auditors also test whether the contractor’s system for separating indirect IR&D from similar direct costs is applied consistently and tracks the CAS 420 definitions.⁴

Most findings sit at the boundary between IR&D and direct contract work. The best defense is a written technical plan for each IR&D project, periodic reviews to confirm the work has not become contract-specific, and contemporaneous timekeeping that ties hours to the right cost objective.

Mischarging Exposure

Misclassifying costs among direct contracts, IR&D, and B&P carries real consequences beyond the disallowed dollars. FAR 31.205-15 makes costs connected to mischarging on government contracts unallowable when they result from falsified records or improper cost recording, including the downstream costs of investigating, rescreening records, and correcting the accounting.⁹ Fines and penalties from regulatory violations are unallowable as well.

The larger risk is False Claims Act liability under 31 U.S.C. § 3729. Charging direct contract work as IR&D, or the reverse, can constitute a false claim when the contractor knew or recklessly disregarded that the costs were misclassified. Courts have held that an IR&D claim is not false simply because a government customer informally requested or benefited from the underlying work; the question is whether the contractor knew the work was specifically required by a contract and billed it as IR&D anyway. The qui tam provisions add whistleblower exposure, since current and former employees who see mischarging have financial incentives to report it.

1
Acquisition.GOV. 48 CFR 31.205-18 – Independent Research and Development and Bid and Proposal Costs
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eCFR. 48 CFR 31.205-18 – Independent Research and Development and Bid and Proposal Costs
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eCFR. 48 CFR 231.205-18 – Independent Research and Development and Bid and Proposal Costs
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Defense Contract Audit Agency. Chapter 33 – Independent Research and Development and Bid and Proposal Costs
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Defense Innovation Marketplace. Industry Portal – Defense Innovation Marketplace
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GovInfo. 48 CFR 231.205-18 – Independent Research and Development and Bid and Proposal Costs
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Acquisition.GOV. Federal Acquisition Regulation 31.203 – Indirect Costs
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Defense Contract Audit Agency. Chapter 33 – Independent Research and Development and Bid and Proposal Costs
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Acquisition.GOV. Fines, Penalties, and Mischarging Costs