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SBA Proposed Rule Would Permit Contractors to Receive Subcontracting Credit at Any Tier

December 21, 2022

Overview

On December 19, 2022, the U.S. Small Business Administration (SBA) issued a proposed rule that, if enacted, will permit prime contractors to receive small-business subcontracting credit for subcontracts at any tier. The deadline for comments on this proposed rule is February 17, 2023.

13 Code of Federal Regulations (C.F.R.) § 125.3 requires federal contractors who are prime contractors on federal contracts that exceed the simplified acquisition threshold (currently $250,000) to “ensur[e] that small business concerns have the maximum practicable opportunity to participate in the performance of the contract, including subcontracts for subsystems, assemblies, components, and related services for major systems, consistent with the efficient performance of the contract.”

Federal contractors who are prime contractors on federal contracts that exceed $750,000 (or $1,500,000 in the case of construction contracts) are also required to develop a subcontracting plan “that reflects maximum practicable opportunities for small businesses in the performance of the contract as subcontractors or suppliers at all tiers of performance” and “mak[e] a good-faith effort to achieve the dollar and percentage goals and other elements in its subcontracting plan.”

Currently, SBA’s regulations permit a prime contractor to count only its first-tier subcontracts toward the goals in its subcontracting plan and mandate that a prime contractor receive credit for lower-tier subcontracts only under certain circumstances.

Section 870 of the National Defense Authorization Act (NDAA) of 2020, Public Law 116-92, changed that, such that a prime contractor may elect, in some instances, to receive credit toward its subcontracting plan for lower-tier subcontracts to small-businesses. Section 870 also prohibited agencies from setting tier-specific goals for prime contractors that use lower-tier credit and mandated that subcontracting plans describe the records that contractors will maintain to substantiate lower-tier credit.

SBA’s new proposed rule attempts to implement Section 870 of the 2020 NDAA by making the following changes:

  • Permits a prime contractor to elect to take credit for lower-tier subcontractors when the subcontracting plan applies to a single contract with one federal agency. When a subcontracting plan applies to more than one contract or to a single contract with more than one agency, the prime contractor could not receive credit for lower-tier subcontracting, and could only receive credit for first-tier subcontractors. Accordingly, this limitation on claiming a lower-tier small business subcontracting credit would apply to all commercial plans, comprehensive subcontracting plans with the Department of Defense, government-wide contracts, and multi-agency contracts.
  • Permits a prime contractor to receive credit for lower-tier subcontractors only if the following conditions are met:
    • The prime contractor must incorporate the subcontracting-plan goals of their lower-tier subcontractors in its individual-subcontracting-plan goals.
    • The lower-tier subcontractors must have their own individual subcontracting plans.
    • The prime contractor and any subcontractor with a subcontracting plan are responsible for reporting on subcontracting performance under their contracts or subcontracts at their first tier.
    • The prime contractor’s performance under its individual subcontracting plan will be calculated by aggregating the prime contractor’s first-tier subcontracting achievements with the achievements of the prime contractor’s lower-tier subcontractors that have flow-down subcontracting plans.
  • Government-wide contracts and multi-agency contracts would not be permitted to use lower-tier subcontracting credit to meet their small business contracting goals.
  • Eliminates a prior provision that a prime contractor would have two sets of subcontracting goals—one for the first tier and one for lower tiers. Instead, SBA proposes that a prime contractor incorporate the subcontracting-plan goals of its lower-tier subcontractors into its individual-subcontracting-plan goals.
  • Prime contractors would be required to maintain records of the procedures used to substantiate the credit they elect to receive for lower-tier subcontracting under 13 CFR 125.3(a)(1)(i)(C).

The specific language of the proposed regulation is as follows:

13 C.F.R. § 125.3(a)(1)(i)(C): “Where the subcontracting goals pertain only to a single contract with one Federal agency, the contractor may elect to receive credit for small business concerns performing as first-tier subcontractors or subcontractors at any tier pursuant to the subcontracting plans required under paragraph (c) of this section in an amount equal to the dollar value of work awarded to such small business concerns. The election must be recorded in the subcontracting plan. If the contractor elects to receive credit for subcontractors at any tier, the following requirements apply:

(1) The prime contractor must incorporate the subcontracting-plan goals of their lower-tier subcontractors in its individual-subcontracting-plan goals.

(2) To receive credit for their subcontracting, lower-tier subcontractors must have their own individual subcontracting plans.

(3) The prime contractor and any subcontractor with a subcontracting plan are responsible for reporting on subcontracting performance under their contracts or subcontracts at their first tier. This reporting method applies to both individual subcontracting reports and summary subcontracting reports.

(4) The prime contractor’s performance under its individual subcontracting plan will be calculated by aggregating the prime contractor’s first-tier subcontracting achievements with the achievements of the prime contractor’s lower-tier subcontractors that have flow-down subcontracting plans.

(5) If the subcontracting goals pertain to more than one contract with one or more Federal agencies, or to one contract with more than one Federal agency, the prime contractor shall only receive credit for first tier subcontractors that are small business concerns. This restriction applies to all commercial plans, all comprehensive subcontracting plans with the Department of Defense, government wide contracts, and multi-agency contracts.”

While there remain some limitations on the scope of these proposed changes, they may foster the use of small-business subcontractors by prime contractors at any tier.

This article summarizes aspects of the law and does not constitute legal advice. For legal advice for ‎your situation, you should contact an attorney.

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