Federal Contractor Tax Delinquencies and Felony Convictions Addressed in New Interim Rule Regarding Debarment and Suspension

January 20, 2016

On December 4, 2015, the Department of Defense (DoD), the General Services Administration (GSA), and the National Aeronautics and Space Administration (NASA) issued an interim rule amending the Federal Acquisition Regulation (FAR) to implement sections of the Consolidated and Further Continuing Appropriations Act, 2015, to prohibit the federal government from entering into a contract with any corporation having an unpaid federal tax liability or a felony conviction under any federal law in the prior 24 months, unless the agency has considered suspension or debarment of the corporation and has made a determination that this further action is not necessary to protect the interests of the government.  A copy of the rule is available here.  The rule is effective on February 26, 2016.  Public comments are due by February 2, 2016.

Specifically, the rule requires that all offerors responding to federal solicitations make a representation regarding whether the offeror is a corporation with an unpaid federal tax liability or a felony conviction under federal law, as required by sections 744 and 745 of Division E of the Consolidated and Further Continuing Appropriations Act, 2015 (Pub. L. 113–235) (and similar provisions in subsequent appropriations acts).  In addition, the rule adds a special certification requirement regarding tax matters, in solicitations for which the resultant contract (including options) may have a value greater than $5 million, and that will use funds made available by Division B of the Consolidated and Further Continuing Appropriations Act, 2015 (Pub. L. 113–235) (and similar provisions in subsequent appropriation acts).  Agencies funded by these acts include the Department of Commerce, the Department of Justice, NASA, as well as some smaller agencies.

The interim rule is applicable to all procurements, including the acquisition of commercial items, because the FAR Council and the Administrator for Federal Procurement Policy have determined that it is not in the best interest of the United States to exempt contracts for the acquisition of commercial items (including commercially available off-the-shelf items) or acquisitions in amounts not greater than the simplified acquisition threshold (other than from the certification requirement).  According to the preamble to the interim rule in the Federal Register, the requirements imposed by the new representation and, where applicable, certification requirements impose a minimal burden relative to the benefit of avoiding awarding contracts to corporations that have delinquent unpaid taxes, or felony convictions for violations of federal law, or to prospective contractors with other violations relating to federal tax matters.

Representation Regarding Delinquent Tax Liability or Felony Convictions

When an offeror provides an affirmative representation regarding the existence of an unpaid federal tax liability or felony conviction, the rule states that the contracting officer shall— (1) request such additional information from the offeror as the offeror deems necessary in order to demonstrate the offeror’s responsibility; (2) notify the agency official responsible for initiating debarment or suspension action; and (3) not award the contract to the corporation unless an agency suspending or debarring official has considered suspension or debarment of the corporation and made a determination that suspension or debarment is not necessary to protect the interests of the government.

Certification for Certain Agencies/Contracts

With respect to agencies that require the certification (Justice, NASA, Commerce, and a few others), however, in the case of contracts that may have a value greater than $5 million, the rule would prohibit the awarding of the contract in an amount greater than $5 million, unless the offeror certifies that it: (1) has filed all required federal tax returns during the three years preceding the certification, (2) has not been convicted of a criminal tax offense, and (3) has not, more than 90 days prior to certification, been notified of any unpaid federal tax assessment for which the liability remains unsatisfied, unless the assessment is the subject of an installment agreement or offer in compromise that has been approved by the Internal Revenue Service and is not in default, or the assessment is the subject of a non-frivolous administrative or judicial proceeding. 

Concerns Regarding Prior Regulation

The issue of government contractors who have a tax delinquency or are convicted felons has been a topic of interest for many years.  The Government Accountability Office (GAO) and the Treasury Inspector General for Tax Administration (TIGTA) have reported that some contractors have, in their view, “abused” the federal tax system and that such contractors cause loss of tax revenue, while at the same time benefitting from taxes paid by compliant individuals and corporations.

During the past several years, the Senate Permanent Subcommittee on Investigations requested the GAO to investigate DoD, civilian agency, and GSA contractors that abused the federal tax system.  Based on that work, the GAO made recommendations and noted that regulations calling for federal agencies to do business only with responsible contractors do not require that contracting officers consider a contractor’s tax delinquency unless the contractor was specifically debarred or suspended by a debarring official for specific actions, such as conviction for tax evasion.  According to the standards set out in FAR 9.104-1, a responsible prospective contractor is a contractor that meets certain specific criteria, including having adequate financial resources and a satisfactory record of integrity and business ethics.  However, although current FAR 9.104-5 requires notification to the agency’s suspension and debarment office of federal tax delinquencies exceeding $3,000, the FAR does not presently specifically require contracting officers to take into account contractor tax debts when determining the prospective contractor’s responsibility.

Issues Raised by the Interim Rule

This interim rule raises a number of issues and could have significant impact on US government contractors.  These issues include:

  • Contractors may see an increase in suspension and debarment actions.  Although there have been various proposals over the years to change the process, suspension or debarment from federal government contracting is discretionary rather than mandatory.  That is because the debarment process acts as a forward-looking protection of the procurement system, rather than a penalty for the past conduct, even if criminal.  Therefore, as long as a company is “presently responsible” it can be awarded new contracts and should not be suspended or debarred.  To be determined responsible, a prospective contractor must presently meet standards set out in FAR 9.104-1, which include having a “satisfactory record of integrity and business ethics” as well as capability to perform, financial wherewithal to perform, technical skill, appropriate facilities, etc.  Accordingly, although the interim rule does not itself require suspension or debarment, it could result in more suspension or debarment actions insofar as it requires a referral to suspension and debarment officials and more formal consideration of suspension and debarment.   Moreover, the rule is significant in that it affirmatively injects agency suspension and debarment officials into the pre-award responsibility determination process, which has traditionally been the purview of the contracting officer. 
  • The rule arguably requires referrals for consideration of suspension and debarment for an unpaid federal tax liability on contact-by-contract basis, even if there has been an earlier determination pursuant the clause that the federal tax liability does not warrant suspension or debarment to protect the government’s interest.  As such, it would result in an inefficient use of government and contractor resources and creates a risk of inconsistent determinations.  Likewise, it includes no provision for situations where the present responsibility of a contractor that has had a felony conviction has already been considered by an agency suspension or debarment official.  Here too, requiring multiple referrals creates a risk of inconsistent results, is an inefficient use of resources, and could unnecessarily delay the contract award process.  Further, a decision by an individual contracting agency to suspend and debar a contractor based on an unpaid federal tax liability or felony conviction would have government-wide effect, yet the rule does not address the lead agency process in FAR 9.402(d) and thus fails to consider the interests of other agencies in such a determination.
  • It is not clear how this rule will affect subsidiary entities.  What if a subsidiary or affiliated company has entered a plea that and thus is “convicted” or has an unpaid federal tax liability but not the parent?  Or vice-versa?  This rule may also continue to impact how companies navigate corporate plea negotiations, including which entity or entities in a corporate family ultimately plead to a felony or seek alternative resolutions such as a non-prosecution agreement or deferred prosecution agreement.    
  • From a tax perspective, the rule raises many significant concerns and unanswered questions about the rule’s application. 
    • For instance, the tax representation speaks to “any” unpaid federal tax liability that has been “assessed,” for which all judicial and administrative remedies have been exhausted or have lapsed, that is not being paid in a timely manner pursuant to an agreement with the authority responsible for collecting the tax liability, and the awarding agency is aware of the unpaid tax liability.  The representation could have substantial impact on a business’s day-to-day operations as well as on routine merger and acquisition transactions. 
      • Businesses may have to institute new procedures to ensure that all tax liabilities, including income, excise, and payroll taxes, are identified, because a failure to follow proper procedures even on a small tax liability could result in losing the ability to make this representation.   
      • This rule could also affect a company’s due diligence in mergers/acquisitions.  Because standard representations and warranties generally speak to any material outstanding tax liabilities, companies may have to substantially increase their due diligence requirements to account for any and all tax liabilities of the target company; far beyond what would be considered material to the transaction. 
      • It is not clear how the representation applies to partnerships or limited liability companies that have a corporate partner or member.
    • Further, the heightened tax certification requirement for certain civilian agencies contracts that may exceed $5 million is particularly troubling for several substantive reasons outlined below.  Moreover, because the preamble to the rule implies that this certification has very limited application, affected entities reviewing this proposed rule may not even be aware of its potentially substantial impact. 
      • The certification fails to give clear guidance to contracting officers and contractors.  FAR 9.104-5(c) appears to provide an automatic bar to award without further agency consideration if the offeror has not provided an affirmative certification pursuant to all three of the elements in FAR 52.209-12.  At the same time, it seems to permit contracting officer to request additional information from the contractor and provides that failure to do so “may render the offeror nonresponsible.”
      • The certification is confusing and may put taxpayers at a disadvantage in tax disputes. 
        • For example, it is unclear why the certification should apply to a notice of assessment received more than 90 days prior to the date the offeror makes the certification.  There is no particular significance in the tax law to 90 days after assessment.  Indeed, there may still be time to pay the tax and file a claim for refund.  Thus, this rule could force entities to seek judicial remedies earlier than otherwise required.    
        • Further, installment agreements or offers in compromise that are currently the subject of negotiations, are not addressed by the certification.  Even working in good faith, taxpayers may not be able to reach resolution within the 90-day window and may be forced to accept a weaker offer simply to reach an approved agreement within the timeframe.  This provision appears to provide the IRS with new and unwarranted leverage in these negotiations. 
      • Finally, the standards for this certification are different from those of the representation discussed above and those of the current certification in FAR 52.209-5, which means that entities will have to institute procedures to ensure tax compliance monitoring of these multiple standards as well as ensure that every tax issue and potential tax issue, no matter how small, will be addressed promptly and properly to avoid falling out of compliance with these rules.

Overall, this rule presents additional burdens and complexities for contractors and heightens the risk of suspension or debarment.  Comments on this interim rule are due on February 2, 2016.  Comments may be useful in highlighting these issues, and in particular, the unintended consequences of the rule as currently proposed.

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For more information regarding this rule, please contact Andy Irwin at +1 202 429 8177, Mike Mutek at +1 202 429 1376, or Tom Barletta at + 1 202 429 8058, in our Washington office.  For more information regarding the tax aspects of this rule or setting up internal systems to help respond to tax-related representations and certifications in federal contracting process, please contact Lisa Zarlenga at +1 202 429 8109, Rob Kovacev at +1 202 429 6462, or Cameron Arterton at +1 202 429 3064, also in our Washington office.