Many people believe the profit margin for a government contractor exceeds that of private industry, particularly when they consider how much of taxpayers' money lines the coffers of government agencies. Even the U.S. Small Business Administration highlights opportunities for entrepreneurs wanting to break into the federal market -- the agency says that in 2013, the federal government spent almost $100 billion on products and services. In some cases, government contracts become lucrative means of increasing the company’s profitability. In others, regulations dictate the amount of profit allowed. Cost-type government contracts present a higher risk to the agency and require analysis of the profit amount when negotiating costs.
Government agencies issue some contracts to nonprofit groups with a zero profit margin. This type of contract provides government funding for a specific cause. In a perfect world, the nonprofit agency would receive funds for all costs expended during work. In reality, nonprofits often do not break even because government agencies may not cover all the costs.
According to the New Jersey Center for Non-Profit Corporations, 53 percent of the agencies surveyed reported reimbursement problems, with some identifying restrictions on amounts of allowable overhead charges. With no profit included in the contract, failure to obtain reimbursement of the expenses creates a financial loss.
The Federal Acquisition Regulation defines limits for profit levels on some types of contracts. For research, developmental and experimental type work performed under a cost-plus-fixed-fee contract, the fee cannot exceed 15 percent of the cost. When calculating the maximum fee amount, the 15 percent cap applies to the cost only, not any potential fee.
For public works or utility architect-engineering contracts, regulations address profit combined with the cost of work. The combination of the fee and the cost of designing and producing the project requirements must total less than 6 percent of the cost of the construction.
Negotiation of profit amounts for government contracts occurs only under cost-type agreements. For cost contracts other than design or research and development/experimental, the negotiated fees cannot top 10 percent of the estimated contract cost. Although the estimated value of the negotiated profit percentage becomes part of the funded award, contractors receive profit payments based only on the percentage applied to actual costs.
When calculating the profit amount for government contracts, government agencies eliminate the amount of capital committed to facilities from the estimated value of the contract before determining how much fee to pay. Similarly, no profit allowance applies to property purchased for the government and reimbursed to the contractor.
For contracts completing negotiations after segments of work are finish, the profit limitations may decrease because the contractor’s risk reduces substantially.