Simplify Federal Grant Reimbursement Procedures

Simplify Reimbursement Procedures for Administrative Costs of
Federal Grant Disbursement

Background

Approximately $19 billion of federal grant funds is used to reimburse
states and localities for administrative costs. Administrative costs
include:

--the federal portion of expenses states incur to administer public
assistance programs such as Aid to Families with Dependent Children
(AFDC), Medicaid, and Food Stamps;

--the direct and indirect administrative expenses associated with
federal formula and block grants; and

--the indirect costs of the various state departments that administer
federal discretionary grants.

State and local governments account for administrative costs under a
system established 25 years ago through OMB Circular A-87, "Cost
Principles for State and Local Governments," which sets forth
principles, standards, and processes for determining
 charges to federal grants.

Because states and localities incur costs that benefit both the
particular jurisdiction and a wide variety of separate federal programs,
a complex allocation process is used to determine the equitable
distribution of these common costs between the states and federal
government, and across multiple federal grant programs.

OMB Circular A-87 requires states to develop a cost allocation plan that
must be reviewed and approved by the federal Department of Health and
Human Services (HHS), to determine:

--the dollar amount of central services (e.g., purchasing, personnel
management, and financial management) to be allocated to the various
state departments; and

--the methodology for determining the amount of charges for central
services that are funded on a billed or fee-for-service basis.

In addition, state agencies administering federal public assistance
funds must receive prior HHS approval of plans for allocating
administrative costs among the various programs that they administer.

A number of large local governments must also receive advance approval
of cost allocation plans. Other local governments receiving federal
assistance are required to develop cost allocation plans and indirect
cost proposals, and retain them for audit.  Also, each state agency
receiving federal funds negotiates an indirect cost rate with the
federal department from which it receives the largest amount of funds.


Need for Change

Concerns regarding the effectiveness of the system in controlling costs,
as well as the accounting and allocation burdens the current system
imposes, have been documented in the General Accounting Office (GAO) and
HHS audit reports and expressed by federal, state, and local officials
in interviews.

Since 1980, administrative costs have often grown disproportionately
compared to the growth in programs. Faced with their own fiscal
pressures, many states and localities have explicitly pursued policies
for administrative cost maximization, sometimes using consultants and
firms specializing in federal cost reimbursement maximization
strategies.

A healthy debate exists about these strategies--with states and
localities arguing that they are simply claiming their fair share after
years of unintentional underreporting, and federal managers asserting
that this is simply gaming the system.  Either way, there is little
question that uncontrolled growth in administrative costs could continue
indefinitely in the face of severe federal deficit constraints.

The HHS inspector general has also concluded that not enough is being
done at federal and state levels to ensure that only allowable costs are
being paid. The inspector general estimates that hundreds of millions of
dollars in reimbursements have been paid historically for costs that
would be disallowed if the federal government had the time or resources
to conduct exhaustive and detailed audits. However, in the past several
years, the staff resources available in HHS to audit as well as to
review and approve cost allocation plans and negotiate indirect cost
rates has decreased significantly, further diminishing the federal
capacity to oversee the system.

An HHS audit report states that the system for accounting for
administrative costs has ". . . grown arcane and has slowly degenerated
into a highly technical accounting and allocation maze."[Endnote 1]
Clearly, the existing system is overly burdensome for both state and
local governments. For example:

--Huge disparities exist among and between jurisdictions.[Endnote 2]

--States are often required to negotiate indirect cost rates with as
many as 14 separate federal agencies.

--Thousands of cost allocation plans are prepared annually for no
purpose other than satisfaction of OMB Circular A-87 requirements

--Significant costs are incurred at the state and local levels to
administer the costing methods such as random moment time studies
required by the plans.

Various approaches to changing the system have been considered by
members of Congress, OMB, HHS, the Congressional Budget Office, the
National Association of State Budget Officers, and the National
Governors' Association, among others. In the past, no single proposal
has had sufficient support for adoption.  Nevertheless, there remains
broad consensus that change is badly needed.


Endnotes

1. See U.S. Department of Health and Human Services, Office of Inspector
General, Reforming the System for Determination of State and Local
Government Administrative/Indirect Costs (Washington, D.C., September 3,
1993).

2. For example, in fiscal year 1991, Alaska spent $300 per recipient to
administer AFDC, Medicaid, and Food Stamps, while West Virginia spent
only $54.