Department of Health and Human Services
DEPARTMENTAL APPEALS BOARD
Appellate Division
SUBJECT: Oklahoma Department of Human Services
DATE: January 13, 1992
Docket No. 91-63
Decision No. 1292
DECISION
The Oklahoma Department of Human Services (State) appealed a
determination
by the Administration for Children and Families (ACF,
Agency) disallowing
$221,179 in federal financial participation (FFP)
claimed by the State under
the Aid to Families With Dependent Children
(AFDC) program established by
Title IV-A of the Social Security Act
(Act). 1/
The disallowance is the full amount of FFP claimed for the
State's
purchase of numerous items of automatic data processing (ADP)
equipment
for the period October 1, 1989 through June 30, 1990. 2/ The
basis of
the disallowance is ACF's position that any item of equipment
costing
$25,000 or less must be depreciated rather than expensed if
purchased
together with other items of equipment where the aggregate
acquisition
cost of all of the equipment is over $25,000.
As discussed below, we conclude that the Agency's interpretation that
the
definition of "unit acquisition cost" of ADP equipment includes
parts of a
configuration of hardware in a computer processing system is
reasonable
(although we do not agree that all items of equipment
purchased at the same
time must automatically be aggregated for the
purpose of determining the
acquisition cost). We therefore uphold that
part of the Agency's
disallowance which pertains to computer hardware
(which we find was acquired
as part of a configuration of equipment in a
computer processing system), and
reverse that part of the disallowance
which pertains to computer software
(which the Agency acknowledged could
be expensed). Finally, we note
that the State is allowed to claim
depreciation expense of the computer
hardware, so that it may ultimately
recover the federal share of the cost of
the hardware.
Background
The dispute in this case arises from the parties' differing
interpretation
of 45 C.F.R. 95.705, which appears in 45 C.F.R. Subpart
G, entitled
"Equipment Acquired Under Public Assistance Programs."
Section 95.705
provides, in relevant part:
(a) General rule. In computing claims
for Federal financial
participation, equipment
having a unit acquisition cost of $25,000
or less may be claimed in the
period acquired or depreciated, at the
option of the State agency.
Equipment having a unit acquisition cost of
more than $25,000 shall be
depreciated. . . .
(b) Exceptions. . . . (2) Reimbursement
for ADP equipment having
an acquisition cost in
excess of $25,000 and subject to Subpart F
of this part must be depreciated
over its useful life unless otherwise
specifically provided for by the
Department.
Subpart F of 45 C.F.R. prescribes the conditions under which the
federal
government will approve FFP for the costs of ADP equipment.
The facts of this case are undisputed. In 1989, the State sought
to
purchase various items of ADP equipment, including terminals,
personal
computers, and printers. See State's Ex. 7, Stephens Aff., .
2; State's
Ex. 11. While no item cost more than $16,000, and a
substantial portion
cost less than $500, the overall purchase totalled
$442,357.
Negotiations between the State and manufacturers for purchase of
the
various items took place in the summer of 1989. The State
contacted
three vendors, including Memorex Telex. Memorex Telex offered
a
substantial discount if the items of equipment would be.purchased
in
quantity. The State maintained that the discount was over $130,000
for
the quantity purchased. See State's Ex. 8.
On August 9, 1989, the State submitted an advance planning document
(APD)
to the Agency and to the Department of Agriculture's Food and
Nutrition
Service (FNS) requesting FFP in the purchase of approximately
2500 items of
hardware and software equipment. State's Ex. 10. By
letter dated
October 5, 1989, the Agency approved the request for FFP
for the
equipment. State's Ex. 12.
The Agency's October 5, 1989 letter approved the APD contingent upon
the
State's submission and the Agency's acceptance of the Request
for
Proposal (RFP), the selection criteria and process, and the report
of
the selection committee with the list of winning vendors and
their
ranking. Finally, the letter stated that "[o]nly depreciation or
use
allowance may be charged by the State for this equipment." Id.
After APD approval, the State completed the purchase from Memorex
Telex.
At the same time, by letter dated October 12, 1989, the State
requested
that the condition in the October 5th letter be removed to permit
it to
expense the costs of the equipment as they were incurred, rather
than
depreciating each individual piece of equipment. State's Ex. 13.
By letter dated December 21, 1989, the Agency denied the State's
request
to expense the equipment. Specifically, the letter stated:
HHS [Department of Health and Human Services]
continues to maintain
the position that this
equipment must be depreciated. The State
may depreciate the cost of
this ADP equipment over a 5-year period or
its useful life.
State's Ex. 14. By letter dated May 23, 1990, the State informed
the
Agency that:
Expenditure reports submitted by [the State] for the
quarters
ending December 31, 1989 and March 31,
1990, included certain
expenditures for equipment purchased for use in
Oklahoma's statewide
automated data processing system. . . . In the
State's view,.because
each item of the equipment in question cost $25,000 or
less, the State
is entitled to use an expensing method in claiming FFP on the
equipment.
State's Ex. 15. By letter dated August 1, 1990, the Agency responded
to
the State's May 23rd letter. In essence, the Agency maintained that
its
long-standing interpretation of 45 C.F.R. 95.705(a) is that the
language
regarding ADP equipment cost refers to the aggregate cost of all
pieces
of equipment acquired under a single acquisition, and not the cost
of
each individual piece of equipment acquired under a single
unit
acquisition or procurement. Further, the Agency maintained that
the
preamble to the Notice of Proposed Rulemaking for that regulation at
46
Fed. Reg. 38280 (which the State claimed supported its position) is
an
imprecise statement of the regulation, and "acquisition cost" must
be
read in light of the actual regulation at 45 C.F.R. 95.705(a)
which
refers to "unit acquisition cost" and does not refer to "an
item."
State's Ex. 16.
By letter dated August 28, 1990, the Agency deferred FFP of the
State's
claim for the quarters ended December 31, 1989, March 31, 1990 and
June
30, 1990. State's Ex. 17.
By letter dated September 19, 1990, the State wrote the Agency
and
requested any action transmittals or other policy statements
regarding
HHS' interpretation of the phrase "unit acquisition cost" for
purposes
of section 95.705(a). State's Ex. 18.
By letter dated November 21, 1990, State's Ex. 19, the Agency responded
to
the State's request and transmitted three documents. 3/ .Analysis
I. The State was not entitled to claim all of
its equipment
purchase on an expense
basis.
Although the applicable regulations do not define "unit
acquisition
cost," 45 C.F.R. 95.703 provides, in relevant
part:
"Acquisition cost" of an item of purchased equipment
means the net
invoice price of the equipment,
including the cost of
modifications, attachments, accessories, or auxiliary
apparatus
necessary to make the equipment usable for the purpose for which it
was
acquired.
"Equipment" means an article of tangible personal
property that has
a useful life of more than two
years and an acquisition cost of
$500 or more.
The Agency maintained that two issues are involved in this case:
(1)
whether the acquisition cost of ADP equipment is the total cost of
all
ADP equipment acquired under an acquisition; and (2) whether the
Agency
properly disallowed the claimed costs of ADP equipment. The
Agency
argued that ADP equipment purchased by the State collectively
consists
of several components which form statewide mechanized claims
processing
and information retrieval systems. Thus, "ADP equipment"
acquisition
costs can only be based on the aggregate acquisition cost of the
ADP
system, and not on the cost of each unit or item of the ADP system.
The State argued that the Agency's interpretation is directly contrary
to
the plain language of the regulation, which indicates that the
$25,000
threshold is to be applied separately to each item of newly
purchased
equipment. The State maintained that the Agency has twisted
the word
"unit" to mean its opposite. The State asserted that the
definitions
could not be clearer to show that unit acquisition cost of
equipment means
the net invoice cost of an item of equipment.
The Agency is reasonable in determining that 45 C.F.R. 95.705(a)
means
that "unit acquisition cost" of ADP equipment which is all part of
a
configuration of hardware comprising a computer processing system
means
the aggregate acquisition cost of all components of the system.
4/ The
section 95.703 definition of "acquisition cost" makes it clear
that the
cost includes not only the basic piece of equipment but any
equipment
which is a necessary accessory to that equipment. 5/
Therefore, if a
grantee is purchasing a mainframe computer and the
peripherals that go
with it such as terminals and cables, the unit consists
of the computer
and the peripherals. The peripherals cannot be treated
as a separate
item for purposes of determining acquisition cost. Thus, the
factual
issue which arises under the most reasonable reading of the
Agency's
standard concerns the extent to which a particular procurement is
of
systemically integrated components or of components which are
intended
to operate independently.
Furthermore, the 1987 OCSE policy on purchase of ADP equipment (which
may
have been sent to the State as part of a regular transmittal to
states
although the Agency did not specifically allege this) states a
position on
treating a systemic or integrated computer configuration as
one acquisition
which should be capitalized and depreciated. See State's
Ex. 20.
Even though the equipment acquisition here is not the purchase of
the
original processing system, the evidence shows that this is an
expansion
of the teleprocessing system. The State's APD explains
its
teleprocessing system and details how the system functions:
Data processing system support includes:
Maintenance of all case
related data required to
support the Federal programs covered under
Titles IV-A, IV-B, IV-D, IV-E, XIX
[and] XX . . . . Claims for services
arising out of the operation of
these programs are processed, payment
records maintained and warrants
prepared. Financial, statistical, and
management reports are prepared
from the available data. . . . An
essential element in providing this
support is the development,
operation, and maintenance of the statewide
teleprocessing system which
includes:
o Statewide
Teleprocessing Network connecting all
local
[Department of
Human Services] offices and institutions with
the host computer site
maintained at the State Office . . . .
o Network of
distributed processing sites serving the
offices
of child
support enforcement also connected to the host
computer site.
o On-line
computer links with the Oklahoma Tax
Commission,
Oklahoma
Employment Security Commission, Oklahoma Department
of Public Safety, and an
interstate link connecting this state with
Missouri, Kansas, Illinois and
Nebraska.
The [State] also operates a number of state and
federal data
exchange programs in accordance with
program requirements.
State's APD, p. 2, December 20, 1991 submission. In addition, the
APD
provides that --
[t]he [State] is requesting approval, in accordance
with 45 C.F.R.
95.600, Subpart F, of this [APD] for
the purchase of additional
terminals to expand this states [sic]
teleprocessing network.
Id., p. 1. Finally, the APD notes that the equipment purchase would:
o Increase caseload management capability.
o Provide more access to case information for local office staff.
o Provide word processing capabilities for local office staff.
Id., p. 3. Since these items are not intended to function
independently
and were purchased to expand the State's unitary teleprocessing
system,
the aggregate cost of the hardware must be used in determining
whether
it may be expensed or depreciated.
Contrary to the State's argument, the Agency's interpretation
of
acquisition cost is not inconsistent with the preamble for
these
regulations. That preamble simply indicates that the purpose was
to
allow states to expense most of their equipment (and thus avoid the
cost
of accounting for depreciation). See 46 Fed. Reg. 38280
(July 24,
1981). This was accomplished, however, by setting the
threshold
acquisition cost for requiring depreciation at $25,000.
Nothing in the
preamble indicates that the definition of acquisition cost
which was
adopted would require treating pieces of equipment which are part
of a
computer system configuration separately for purposes of
determining
acquisition cost. While the State argued that it would be
costly to
depreciate each "item" of computer equipment separately, the
Agency's
position would require only treating the equipment as one unit to
be
depreciated, rather than separately depreciating each item.
The State also maintained that a regulation recently issued by
FNS
underscores the lack of authority for the Agency's position. In
the
Agency's the final rule, at 47 Fed. Reg. 41575 (September 21,
1982),
the Agency responded to comments received. In particular,
comment 3
said:
3. Relationship to the Food and Nutrition Service
(FNS)
Requirements. Comment: To achieve
the maximum benefit associated
with the simplification, the requirements of both the Department
of Health
& Human Services and the Department of Agriculture's FNS
should be the
same. Response: We agree with the
comment.
Standardization and
simplification of a State agency's system of
accounting for depreciation
requires a uniform approach by the Federal
Government. HHS is working
with the FNS to standardize these
requirements.
Effective March 15, 1983, FNS approved the $25,000 threshold
for
depreciating units of equipment so as to conform its policy with
HHS
regulation. See State's Ex. 27. In 1989, however, FNS changed
its
policy. According to the policy statement, "[e]ffective April 1,
1989,
the FNS changed its policy on the expensing of equipment. When
the cost
of equipment, either per unit or in the aggregate will exceed
$25,000,
the depreciation method will be used." See State's Ex. 26.
Nothing in FNS's change of policy effects the disallowance here.
In
fact, it appears that FNS's change in policy may be more
restrictive
than ACF's in this case. Here, ACF took the disallowance
because it
considered the equipment purchase part of a system. It
appears that FNS
could require depreciation of an aggregate equipment
purchase even if
the items were not part of a system.
Finally, the State also asserted, and the Agency did not dispute, that,
in
1988, in a settlement between the Division of Cost Allocation and the
State,
HHS agreed that individual items of equipment costing $25,000 or
under would
be expensed. See State's brief, pp. 20-21. Here, again,
this fact
does not preclude the Agency from taking the disallowance at
issue. The
State did not present any evidence to show that the items of
equipment in
that settlement were part of a system configuration. In
any event, in a
settlement situation, the Agency presumably would not be
precluded from
waiving any existing requirement if it chose to do so as
part of a larger
negotiated context.
Consequently, we uphold the Agency's determination that the
hardware
component of the Memorex Telex contract could not properly be
expensed.
II. The State is entitled to claim this
hardwarepurchase on a
depreciation basis and to
expense itssoftware purchase.
In the alternative, the State maintained that, in any event,
the
disallowance is overstated. The State argued that it is entitled to
at
least the depreciation expense of the equipment for the three
quarter
period of the disallowance, and that the portion for software should
be
expensed. We agree.
The Agency has always maintained that depreciation is the proper
claiming
mechanism. Thus, nothing in this decision precludes the State
from revising
its claim to recover the depreciation to which it is
entitled.
Finally, we agree with the State that to the extent that the
Agency's
disallowance requires that all items of equipment purchased at the
same
time must automatically be aggregated and depreciated, the
Agency's
position is unreasonable. As we have discussed above, the
Agency's
standard, reasonably read, depends on the degree of systemic
integration
of computer items. Purchase of numerous items at the same
time may be
an indication of interrelatedness, but it is by no means
dispositive.
There were software items included in the purchase, and ACF has
confirmed
that software may in fact be expensed. A letter from ACF's
Associate
Administrator for Management and Information Systems to the
State provided,
in relevant part:
Your understanding that neither operating system
software or
application software must be depreciated
is correct. Costs of
software, whether purchased, licensed, or
developed in-house, may be
claimed in the quarter in which the expenditures
for such software are
made.
State's Ex. 25. Thus, the disallowance should also be reduced by
the
cost of the software.
Conclusion
Based on the foregoing, we uphold the Agency's determination that
the
hardware components of the Memorex Telex contract could not be
expensed.
However, the State should be allowed to revise its claim to
recover
depreciation for the hardware components. Finally, we reverse
that part
of the disallowance which pertains to software.
Judith A. Ballard
Donald F. Garrett
Norval D. (John) Settle Presiding Board Member
1. This disallowance was originally issued by the Family
Support
Administration (FSA). Effective April 15, 1991, FSA was one of
several
agencies combined into the Administration for Children and
Families.
2. For the quarter ended December 30, 1989, the FFP disallowed
was
$65,720; for the quarter ended March 31, 1990, the FFP disallowed
was
$56,068; for the quarter ended June 30, 1990, the FFP disallowed
was
$99,391.
3. The Agency's letter forwarded three documents to the State:
(1) a
July 1987 document entitled: Automated Systems for Child
Support
Enforcement: A Guide for States Seeking Enhanced Funding.
State's Ex.
20; (2) an October 11, 1990 discussion paper developed by the
Division
of Cost Determination Management, Office of Grant and Contract
Financial
Management within HHS. State's Ex. 21; (3) an Action
Transmittal,
OCSE-AT-90-11 (October 9, 1990). State's Ex. 22.
4. The Agency's argument that the term "equipment" in 45
C.F.R.
95.705(a) is limited to only "non-ADP equipment" is not
persuasive. The
exception in section 95.705(b)(2) applies only to
"acquisition cost" of
ADP equipment over $25,000. Thus, the general
rule in (a) applies to
"acquisition cost" under $25,000 and it is therefore
necessary to read
the sections as treating "acquisition cost" the same (even
though the
word "unit" does not appear in (b)(2)).
5. The State also argued that an alternative, independent reason why
a
substantial portion of the disallowance should be reversed is that
most
of the computer hardware purchased under the APD cost less than
$500.
See State's Ex. 2 .2 and State's Ex. 11, p. 6. The State
alleged that
to be considered "equipment" for purposes of the depreciation
and
expensing rule an article must have "an acquisition cost of $500
or
more." State's brief, p. 23. However, as discussed in the
text, this
argument is based on a per item basis. The items of
equipment purchased
in this case must be viewed as a whole, since they are
part of a
computer system.