March 31, 2016

It Pays to Comply: DoD Proposes to Expand Safe Harbor for Cost Allowability Related to Counterfeit Electronic Parts Detection Systems

3 min

The Department of Defense (DoD) has proposed to expand a safe harbor on cost allowability for government contractors and their subcontractors that follow DoD guidance on purchasing supplies from original equipment manufacturers (OEMs), authorized dealers, or other trusted suppliers. As amended, the Defense Federal Acquisition Regulation Supplement (DFARS) would make allowable the costs of counterfeit parts or suspect counterfeit parts and the costs of rework or corrective action required to remedy their use or inclusion in supply contracts if:

  • The contractor has an operational system to detect and avoid counterfeit parts and suspect counterfeit electronic parts that has been reviewed and approved by DoD;
  • The counterfeit electronic parts or suspect counterfeit electronic parts were obtained in accordance with DoD-prescribed suppliers (including original manufacturers and authorized dealers, or other trusted suppliers);
  • The contractor discovers the counterfeit electronic parts or suspect counterfeit electronic parts; and
  • The contractor provides timely (i.e., within 60 days after the contractor becomes aware) notice to the Government.

This latest rule expands on DoD's regulations governing supply chain security, which has focused on development of counterfeit electronic parts detection systems (covered by Venable in 2013 and 2014). As reflected in DFARS 231.205-71, the DoD has already established a safe harbor for cost allowability for contractors and subcontractors that establish operational detection and avoidance systems that have been approved by DoD. Contractors should be aware that the proposed rule expressly makes the costs associated with counterfeit electronic parts and suspect counterfeit electronic parts, and the costs of rework or corrective action that may be required to remedy the use or inclusion of such parts, unallowable unless the four above conditions are satisfied.

The new proposed rule follows DoD's proposed rule in 2015 requiring contractors to obtain electronic parts from OEMs, authorized dealers, and trusted suppliers. The amendment reflects DoD's proposed rule and expands the basis that a contractor has for demonstrating the allowability of costs of rework and corrective action if the contractor obtained the parts from the DoD's prescribed sources of supply (i.e., OEMs, authorized dealers or suppliers that obtain the parts exclusively from them, and, for parts no longer in production or stock, trusted suppliers using DoD-adopted counterfeit prevention industry standards and processes).1

The DoD has clarified that this proposed rule will not be finalized until its proposed rule on trusted sources of supply is final.2 In the meantime, contractors and subcontractors should focus on establishing approved counterfeit electronic parts and suspect electronic parts detection systems in order to take advantage of cost allowability safe harbors already available in DFARS.

Comments on the new proposed rule are due May 24, 2016.

For more information on how the proposed amendments might impact your business, or to better understand the requirements regarding counterfeit electronic parts, please contact Keir Bancroft, Michael Francel, or any of the other attorneys in Venable's Government Contracts Practice Group.

[1] Per the proposed rule, cost allowability would apply if the counterfeit electronic parts or suspect electronic parts were obtained by the contractor in accordance with the regulations described in paragraph (c)(3) of section 818 of the NDAA for FY 2012, as amended.

[2] The proposed rule on trusted sources of supply, DFARS Case 2014–D005, Detection and Avoidance of Counterfeit Electronic Parts—Further Implementation (analyzed here) is in the process of being finalized.