Definition
A Cost-Plus-a-Percentage-of-Cost (CPPC) contract is a type of cost reimbursement arrangement where the contractor is paid back for all allowable costs incurred, plus an additional fee calculated as a fixed percentage of those actual costs.
In simple terms, the more the contractor spends, the more they earn. There is no incentive to control costs, and every incentive to overspend.
This is exactly why CPPC contracts are explicitly prohibited in federal government contracting under FAR 16.102(c).
The Simple Explanation
Imagine a contractor is hired by a federal agency to build a software system. The contract says: "We will reimburse all your costs, plus pay you a fee equal to 10% of whatever you spend."
If the contractor spends $1 million, they earn a $100,000 fee. If the contractor spends $2 million, they earn a $200,000 fee.
The contractor has absolutely no financial reason to control costs, in fact, spending more directly increases their profit. From the government's perspective, this is a recipe for runaway costs and wasted taxpayer money. That is why the federal government banned this contract structure entirely.
Key Characteristics of a CPPC Contract
- Fee is a percentage of actual costs: Unlike CPFF (fixed fee) or CPIF (variable but capped fee), the CPPC fee grows in direct proportion to spending.
- No cost control incentive: The contractor's profit increases as costs increase, the exact opposite of what the government wants.
- Contractor's entitlement is uncertain at award: Neither party knows at the time of signing what the final fee will be, because it depends entirely on actual costs incurred.
- Prohibited in federal contracting: FAR 16.102(c) explicitly bans CPPC contracts and requires prime contractors to prohibit CPPC provisions in subcontracts as well.
- Also prohibited for federally funded grants: Under 2 CFR Part 200.324(d), CPPC contracts are prohibited for non-federal entities receiving federal grant funds, making this prohibition relevant in the SLED market too.
The Four GAO Criteria for a CPPC Violation
The U.S. Government Accountability Office (GAO) has established four criteria for determining whether a contract provision constitutes an illegal CPPC arrangement. All four must be present:
- Payment is at a predetermined rate, a fixed percentage is applied to costs
- The rate is applied to actual performance costs, not estimated or budgeted costs
- The contractor's entitlement is uncertain at the time of contracting, the final fee cannot be known upfront
- The rate increases commensurately with increased performance costs, the more spent, the higher the fee
If all four conditions exist in a contract or subcontract, it is a CPPC arrangement, and it is illegal regardless of what the contract calls it. (Source: GAO Decision B-211213)
Why CPPC Contracts Were Ever Used
CPPC contracts were not always illegal. During World War I, the U.S. government used CPPC arrangements extensively to encourage private manufacturers to take on risky wartime production contracts. At the time, the priority was speed and output, not cost control. Contractors needed assurance that they would be compensated regardless of what the work cost them.
After the war, it became clear that CPPC had created massive cost inefficiencies. The government had paid far more than necessary because contractors had no reason to manage expenses. As a result, cost-plus-fixed-fee (CPFF) contracts were introduced in 1940 as a legal alternative that preserved cost reimbursement while removing the perverse incentive to overspend. (Source: Wikipedia, Cost-Plus Contract)
Real Enforcement Example
One of the most notable recent enforcement actions involving CPPC involved StandardAero Component Services (SSSI) and its subcontractor Derco Aerospace. The government alleged that SSSI had awarded Derco a subcontract under which Derco's prices were developed by applying a 32% markup, consisting of estimated indirect costs and profit, on top of its actual costs. The government argued this constituted a prohibited CPPC arrangement.
The case resulted in a $70 million False Claims Act settlement, serving as a stark reminder that CPPC violations, even in subcontracts, can carry severe financial and legal consequences for both prime contractors and subcontractors. (Source: Miller & Chevalier)
Where CPPC Violations Hide, What Vendors Must Watch For
CPPC violations do not always look obvious. Contractors often enter into illegal CPPC arrangements without realizing it. Common red flags to watch for in contract language include:
- A fixed "material handling fee" stated as a percentage of actual material costs
- A fixed "general and administrative (G&A) rate" applied to actual costs that is not subject to adjustment to reflect actual indirect costs
- A fixed overhead percentage applied to direct costs that cannot be retroactively adjusted
- Any provision where a predetermined rate is applied to actual costs incurred, and the total fee rises as spending rises
The key distinction: provisional indirect rates that are later adjusted to actual costs are legal. Fixed rates that permanently scale with actual costs, and are never trued up to actual indirect costs, are CPPC and are illegal.
CPPC vs. Legal Cost-Type Contracts
CPPC in the SLED Market: What Vendors Should Know
While the CPPC prohibition is a federal rule under the FAR, its reach extends into the SLED market through federal grant funding. Under 2 CFR Part 200.324(d), known as the OMB Uniform Guidance, any non-federal entity receiving federal pass-through funds is also prohibited from using CPPC contracts with their vendors and subcontractors.
This matters for SLED vendors because:
- State and local agencies that receive federal grants (from HHS, DOE, FEMA, DOT, etc.) must ensure their vendor contracts do not contain CPPC provisions
- Subcontractors working under federally funded SLED programs need to review their agreements carefully for any language that ties fees to a fixed percentage of actual costs
- Universities and school districts receiving federal research or education grants are subject to the same prohibition
The practical takeaway: if you are a SLED vendor working under any federally funded program, even indirectly, make sure your contract does not include any fixed-percentage fee structure applied to actual costs. When in doubt, consult a contract compliance professional.
Quick Summary
A CPPC contract reimburses all allowable costs and adds a fee calculated as a fixed percentage of those costs, meaning the more spent, the higher the fee. This creates a direct incentive to overspend and no incentive to control costs, which is why CPPC contracts have been prohibited in federal contracting since 1940 under FAR 16.102(c). CPPC violations can occur in subcontracts and even in indirect cost structures, and the consequences can include False Claims Act liability, withheld payments, and contract termination. In the SLED market, the prohibition extends to any program funded by federal grants under 2 CFR Part 200.
