Department of Health and Human Services
DEPARTMENTAL APPEALS BOARD
Appellate Division
SUBJECT: New York State Department of Social Services
DATE: July 9, 1992
Docket No. 91-80
Audit Control No. A-02-88-02018
Decision No. 1343
DECISION
The New York State Department of Social Services (New York or
State)
appealed a determination by the Director of the Division of
Audit
Resolution, Office of Grant and Contract Financial Management
(Agency),
disallowing $69,018 in federal financial participation (FFP)
claimed by
the State under federal health programs, including Medicaid, for
the
interest portion of payments made under lease purchase agreements
for
equipment. The payments were made during the period October 1, 1982
to
March 31, 1988. 1/
As discussed below, we conclude that the interest costs are
not
allowable. Accordingly, we uphold the disallowance in full.
Background
The auditors reviewed leases entered into by the State's Department
of
Health. See State's Exhibit (Ex.) 1. At issue here are 12
leases that
New York entered into for the procurement of equipment
including
computer hardware and software, related computer peripherals,
word
processors, telecommunication systems, and photocopying machines. 2/
The auditors reviewed the terms and conditions of each lease agreement
and
found that the contracts at issue included payments for
unallowable
interest. The audit report noted, in part:
The [Office of Management and Budget (OMB)] Circular (Cir.)
A-87
provides specific guidance to state agencies as to
the
allowability and nonallowability of certain items of cost.
With
regard to interest and other financial costs, the Circular,
in
Attachment (Att.) B, paragraph D.7., states:
"Interest on borrowing (however represented),
bond
discounts, cost of financing and refinancing
operations,
and legal and professional fees paid in
connection
therewith, are unallowable . . ."
Circular A-87 does not specifically address interest on
capital
leases, but it is clear that interest in any form is
an
unallowable charge to Federal programs.
State's Ex. 1 at 3. 3/ Based on the audit report, the Agency
disallowed
the lease costs attributable to interest.
The State's Arguments
The State submitted four leases as representative of all 12 leases.
See
State's Ex. Nos. 2, 3, 4 and 5. New York maintained that the
leases
contained some unique provisions relating to ownership of the
leased
equipment or to the payments. In general, the differences
equated to
whether: (1) interest was identified as a component of the
rental
payment; (2) an option to purchase the equipment at the expiration
of
the lease term was included; (3) title to the equipment passed to
the
State upon the approval of a contract; and (4) a contract
expressly
addressed the issue of interest. See State's brief at
3-5.
The State did not deny that part of its lease payments under each
lease,
no matter how unique, in fact represented payment of interest.
Nor did
the State challenge the Agency's calculation of the amount of
interest
paid. Instead, the State argued generally that 1) the Agency
had
applied an overbroad interpretation of the interest
prohibition,
inconsistent with the interpretation of the same provision
in
procurement cases; 2) the interest should be allowable because
federal
agencies paid interest in similar circumstances; 3) some of the
interest
costs were allowable because they were attributable to the
State's
Medicaid Management Information System; and 4) federal tax law
provides
statutory authority for the interest here.
Analysis
OMB Cir. A-87, Att. B., D.7. provides that "interest on
borrowings
(however represented)" is unallowable. The only exceptions
are for
interest on acquisition of public buildings, newly occupied on or
after
October 1, 1980, or "when authorized by federal legislation." The
plain
language of the provision supports the Agency's reading that it
applies
to any type of interest payment, and this Board has since
1980
consistently applied the provision to interest paid on the purchase
of
computer equipment. Vermont Statewide Cost Allocation Plan, DAB No.
84
(1980); see also Georgia Dept. of Administrative Services, DAB No.
577
(1984); Missouri Dept. of Social Services, DAB No. 560 (1984);
Alameda
County Cost Plan, DAB No. 281 (1982); and Illinois Dept.
of
Administrative Services, DAB No. 271 (1982).
In Vermont, the Board noted that a proposed revision to OMB Cir.
A-87
would provide an exception for interest related to certain
public
buildings but that there was no proposal to allow interest on
purchase
of computer equipment, even though purchase might have some
advantages
over rental. DAB No. 84, at 2, citing 44 Fed. Reg. 3707
(June 28,
1979). The final revision, published in 1981, was limited
to
acquisition of public buildings and was clearly considered an
exception
to the general interest prohibition. 45 Fed. Reg. 27363
(April 22,
1980); see also 53 Fed. Reg. 40352 (October 14, 1988); State's Ex.
33,
at 1.
The State's arguments would have us ignore the plain language of
the
provision and apply convoluted reasoning, based partly on analogy
to
federal procurements. We note at the outset that the State's
analysis
clearly was performed recently, in response to this and a
related
disallowance. See State's Ex. 8. 4/ The State did not
assert that it
had relied on this analysis in incurring the interest costs in
question
or in charging them to federal funds. In any event, for
reasons stated
below, we find the State's reasoning to be flawed, and we
reject it.
I. The State's Reliance on Procurement Cases isMisplaced.
New York argued that the Agency's "interpretation" of OMB Cir. A-87,
Att.
B, D.7. as applying to any form of interest is overbroad. New
York
asserted that the interest prohibition should be applied only
very
narrowly, because it was borrowed from procurement regulations
and,
according to the State, was construed narrowly in that context.
We find no merit in this argument. A similar argument was made by
the
State and rejected in New York State Dept. of Social Services, DAB
No.
1336 (1992). Like this decision, that decision rested primarily on
the
plain language of the provision. We nonetheless discuss the
State's
arguments here, explaining why we reject them.
New York argued that an exhaustive review of the history of this
provision
and its predecessors supports an extremely restrictive
interpretation of the
forms of interest intended to be proscribed. See
State's Ex. 29
(Affidavit of Gerald Townley, Jr.); State's Ex. 35
(Memorandum of
Congressional Research Service); Tr. at 26-31, 212-242.
New York argued that
the interest prohibition is applicable only to
situations where the State
"acts as a contractor" to, rather than a
grantee of, the federal government,
and then only to "prevent the State
from receiving interest on late
payments." Tr. at 26. In one place in
its brief here, the State
described the provision as limited to
"interest incurred to borrow money for
the general operating costs of
corporations doing business with State or
federal governments." State's
brief at 7. Elsewhere, the State
described the scope of the procurement
regulation as limited to prejudgment
interest or the kind of interest on
late payments requiring sovereign
immunity waiver. In support, New York
cited several procurement
decisions. State's brief at 11-12. The State
also argued that
interest is allowable in many other circumstances. New
York asserted
that interest is allowable as "facilities capital cost of
money" and "cost of
money as an element of the cost of capital assets
under construction," citing
procurement regulations at 41 C.F.R. .
1-15.205-51 (1983), recodified at 48
C.F.R. . 31-205-10 (1983). State's
brief at 12.
We first note that reading the provision as limited to "operating costs
of
corporations" does not make sense. OMB Cir. A-87 applies to
costs
incurred by state and local governments, not to costs incurred
by
corporations. Moreover, section D.7. specifically makes
unallowable
both interest on borrowing and cost of financing
operations. In any
event, the procurement cases cited by the State
simply do not support
any of the limited readings advanced by the
State. For example, cases
under the old Federal Procurement Regulations
(FPR) stand for the
proposition that interest is not allowable under
cost-reimbursement type
contracts, unless the contractor was forced to borrow
to finance
additional work not initially required by the contract or to
finance
other extra costs incurred because of government action. See,
e.g.,
Bell v. United States, 404 U.S. 975 (Ct.Cl. 1968); Singer
Co.,
Librascope Div. v. United States, 568 F.2d 695, 698 (Ct.Cl.
1977);
Appeal of Ingalls Shipbuilding Div., Litton Systems, ABSCA No.
17579
(1978). In Framlau Corp. v. United States, 568 F.2d 687, 694
(Ct.Cl.
1977), the court refused to extend Bell beyond the situation where
a
contractor could show an actual cost of borrowing money resulting
from
government delays. 5/
In American Chemical Society v. United States, 438 F.2d 597 (Ct.Cl.
1971),
the contract negotiators for the government were aware of the
interest
prohibition of the FPR, but at the time the cost principles of
the FPR did
not govern the National Science Foundation (the contracting
agency) and were
used only as a guide. Nevertheless, at the request of
the Comptroller
of the National Science Foundation, the mortgage
interest was treated in the
contract as part of a fixed fee above costs,
rather than as a reimbursable
cost. Thus, the allowance of interest in
that case cannot be considered
as a determination that mortgage interest
was in general an allowable cost
under the FPR.
The decisions of the Armed Services Board of Contract Appeals cited by
the
State are also inapposite. The State itself acknowledged that,
under
the most recent of those decisions, Lockheed-Georgia Co., ASBCA
No. 27660,
April 26, 1990, the "form of interest that appears to remain
unallowable is
interest related to a cost reimbursement type of contract
. . . ."
State's brief at 13, n. 5 (emphasis in original). The State
argued that
the costs at issue here are not pursuant to a cost
reimbursement contract and
that, unlike a cost reimbursement contract
where the contractor's profit is
based upon its costs, the State neither
seeks nor is paid a profit here.
While the grants at issue here are not cost reimbursement contracts,
the
State's whole argument rests on applying law developed for
procurement
contracts to grants. To the extent such application is
appropriate at
all (see our discussion below), grants are more like cost
reimbursement
contracts that any other type of contract. In a grant
program, only a
percentage of costs are reimbursed, but the grantee must
account for
costs the same way a contractor must account for costs under a
cost
reimbursement type contract. The fact that no profit is intended
in
grant programs does not change this.
The State's reference to "facilities capital cost of money" as
allowable
also has no relevance here. The Federal Acquisition
Regulations (FAR)
replaced the FPR in 1983, and added to the prohibition on
interest on
borrowings a specific exception for "facilities capital cost of
money."
6/ No parallel provision existed in OMB Cir. A-87, until the
addition
of the current exception for public facilities occupied on or
after
October 1, 1980 (which is not relevant to the issue of
equipment
leases). Any cases decided under the FAR thus cannot
reasonably be read
as interpreting the interest on borrowings provision as
narrowly as New
York advocated; rather, these cases merely evidence the
effect of an
exception to that prohibition applicable only in the procurement
arena
(and only to facilities, not to equipment). See, e.g., Appeal of
TDC
Management, DOTCAB No. 1802 (1991).
Even if procurement law did make the distinction urged by the State,
we
would not be bound by procurement decisions. As this Board stated
in
Humanics Associates, DAB No. 860, at 11 (1987):
[W]e are not bound by Board of Contract Appeals decisions,
even
though they decide issues concerning contract
provisions
containing the same wording as grants provisions;
special
considerations may apply in grants administration which do
not
apply to procurement contracts.
Our prior decisions have established that even identical language
in
regulations may be construed differently, in light of the
many
differences in the grant and procurement contexts. 7/ Action for
Boston
Community Development, Inc., DAB No. 349, at 8 (1982).
The federal government may reasonably have different concerns and
policies
when it acts as a donor or partner with a grantee in operating
an ongoing
program, than when it acts as a purchaser seeking a vendor
or
contractor. It is noteworthy also that the cost principles for
state
governments were prepared by OMB and adopted by this Department as
a
complete set and not as an incorporation by reference or in toto
of
procurement regulations. Therefore, each principle should be
viewed
primarily in connection with the total set of principles in OMB
Cir.
A-87, and not in connection with the original sources of
particular
provisions. Thus, we conclude that the existence of parallel
language
in or a common origin with procurement regulations does not compel
the
Agency to apply language in a grant context in the same way as in
a
procurement context.
II. The State Misinterpreted the Effect of
Public Law
93-400 and Uniform State and
Federal Treatment.
New York also argued that federal agencies paid interest when
procuring
equipment under lease purchase arrangements and that therefore
the
State's interest payments should be considered allowable. The
State
took the position that the cost principles could not permissibly
impose
different treatment for state grants and for federal
procurement,
because Congress expressed an intention in enacting Public Law
No.
93-400 that OMB "establish uniform rules for federal executive
agencies
and states as recipients for federal grants or assistance."
State's
brief at 8, citing S. Rep. No. 692, 93rd Cong., 2d Sess., reprinted
at
1974 U.S. Code Cong. and Ad. News 4622. The statute provides
as
follows:
With due regard to applicable laws and the program
activities of
the executive agencies administering
Federal programs of grants or
assistance, the
Administrator [of the Office of Procurement Policy]
may prescribe government-wide policies, regulations,
procedures,
and forms which the Administrator
considers appropriate and which
shall be followed by
such executive agencies in providing for the
procurement, to the extent required under such programs,
of
property or services . . . by recipients of
Federal grants or
assistance under such
programs.
41 U.S.C. . 405(i)(1). 8/ The State presented no evidence of any
effort
by the Administrator to exercise this .discretionary authority
to
require that grants to state governments follow all federal
procurement
procedures, use the same forms as in procurement contracts, or
otherwise
be treated identically with executive agencies. 9/ In any
case,
procurement procedures even under grants relate to purchasing
by
grantees and address such matters as competitive bidding, while
cost
principles govern the reimbursement of costs incurred by the
grantee.
10/ The federal acquisition regulations adopted under this
law
expressly state that OMB Cir. A-87 "sets forth the principles
for
determining the allowable costs" of contracts with state governments
and
that any contract with a state government that refers to the
contract
cost principles "shall be deemed to refer to, and shall have
the
allowability of costs determined . . . in accordance with" OMB
Cir.
A-87. 48 C.F.R. . 31.602 and . 31.603(a) (1991) (adopted
1983). When
these regulations were adopted, the prohibition on interest
had long
been in effect. Thus, to the extent the Administrator has
spoken on
cost principles applicable to state governments, he has adopted OMB
Cir.
A-87 as interpreted by OMB and the Agency here. Furthermore, the
law
admonishes the Administrator to act only .with "due regard" to
the
"program activities" of other federal agencies. 11/
We also reject the State's argument that the fact that federal
agencies
may pay interest connected with a lease purchase of computer
equipment
from a contractor amounts to an interpretation of federal
procurement
regulations as allowing such interest. In the situation
described by
the State, it is the federal government which is in effect doing
the
borrowing and is incurring the interest cost. Payment of such
interest
has no bearing on the allowability of interest costs incurred by
a
contractor or grantee.
III. The State's Argument on Costs of Its MMIS System
Is
Without Merit.
New York claimed that a part of the disallowed interest costs related
to
the operation of its computers in the Medicaid Management
Information
System (MMIS) and was therefore eligible for reimbursement at
enhanced
rates under section 1903(a)(3) of the Social Security Act
(Act).
State's brief at 15. The State relied on this Board's decision
in New
Jersey Dept. of Human Services, DAB No. 648 (1985), for the
proposition
that interest costs were included in the "special benefits"
Congress
intended to extend to the states for MMIS.
Nothing in the Act supports the State's position that unallowable
costs
become eligible for FFP simply because they are expended in relation
to
MMIS. The "special benefits" extended by Congress consist only of
the
fact that the .percentage of allowable costs allocable to MMIS
and
attributable to its design, development, operation, etc., borne by
the
federal government is higher than the percentage otherwise available
for
administrative costs under section 1903(a)(7) of the Act. In
New
Jersey, the Board dealt with indirect costs about which there was
no
dispute as to their allowability and allocability to MMIS. Id. at 1,
4.
The Board rejected a distinction between indirect costs which
were
"directly attributable" to MMIS and those which were
merely
"attributable." Id. at 6. New Jersey provides no
foundation for New
York's argument that unallowable interest costs are
reimbursable because
they may be attributable to MMIS. The State has
presented no evidence
to show that the interest from the leases at issue was
allowable under
the circumstances presented here.
IV. The Tax Law Does Not Support the State's Position.
The State submitted a supplemental brief arguing that interest should
be
allowable here because OMB Cir. A-87 contains an exception to
the
prohibition on interest on borrowings "when authorized by
federal
legislation" and that a provision in the Internal Revenue Code of
1954
provided such authorization. State's supplemental brief at 3; OMB
Cir.
A-87, Att. B, D.7. In support of its position, the State cited
to
section 103, Public Law No. 591, as recodified by the Tax Reform Act
of
1986, Public Law No. 99-514, 99th Cong., 2d Sess. This
provision
excludes interest paid on state and municipal obligations from
the
recipients' gross income subject to federal income tax.
New York cited cases and legislative history of the 1986
recodification
which support the proposition that section 103's exclusion
from income
extends beyond bonds to interest on obligations arising from
lease
purchases. State's supplemental brief at 4-6, and citations
therein.
While some of this material may establish that the federal
government
thought it beneficial if the states could offer interest rates on
its
obligations which were more attractive in competition
with
non-governmental offerings because of the tax exemption, none of
it
supports New York's interpretation of section 103 as an
"express
encouragement of borrowing by states as a means of obtaining capital
to
operate programs." State's supplemental brief at 7. We find
nothing in
section 103, or its legislative history or case law, that
remotely
suggests an intention to authorize FFP for interest on borrowings by
the
State as a grantee under OMB Cir. A-87. .Conclusion
Based on the foregoing, we uphold the Agency's decision to disallow
FFP
for the interest portion of lease agreements for equipment.
___________________________
Donald
F.
Garrett
___________________________
Norval
D.
(John)
Settle
___________________________
Judith
A.
Ballard
Presiding
Board
Member
1. The disallowance was based upon an audit entitled "Report on
the
Review of Interest Expense Applicable to Capital Leases Active
During
the Period April 1, 1985 to March 31, 1986." The auditors also
found
that the State had improperly classified the lease payments as
operating
costs, rather than capital expenditures, and that this had resulted
in
$191,614 in excess charges to federal programs. The State did
not
appeal the disallowance based on this finding.
2. The auditors used the terms "lease purchase agreements,"
"material
equity leases" and "capital leases" interchangeably. The
audit report
noted:
The State refers to the equipment leasing agreements,
which
provide for title to pass to the State, as lease
purchase
agreements. The Federal Department of Health and Human
Services
in its reference materials, such as the Grants
Administration
Manual, refers to this type of arrangement as a material
equity
lease. Generally accepted accounting principles, published
by
the Government Accounting Standards Board and the
Financial
Accounting Standards Board, refer to these arrangements
as
capital leases.
State's Ex. 1. The State argued that the Grants Administration
Manual
(GAM) is an internal federal government document and, as such, is
not
binding on New York. However, the disallowance of interest here is
not
based on the GAM; the auditors referred to the GAM only for
their
finding which the State did not appeal. See note 1 above.
3. OMB Cir. A-87 contains cost principles applicable to grants to
state
and local governments and was originally issued by OMB in 1969.
OMB
Cir. A-87 has been made applicable to the programs of this Department
by
regulation since 1973 and currently is incorporated by reference at
45
C.F.R. . 74.171.
4. During the course of this case, New York requested
consolidation
with another case, Board Docket No. 91-72, for the purposes of
a hearing
and oral argument. While the Board denied the formal
consolidation, the
Board did stay the proceedings in this case until after
the hearing in
Docket No. 91-72. Both parties were allowed to
incorporate arguments
made at the hearing, as well as exhibits from Docket
No. 91-72, into the
record in this case. Additionally, the Board
allowed the parties to
make post-reply submissions.
5. The Comptroller General Decision cited by the State is
similarly
limited, holding only that "statutory authority is not required for
a
federal department or agency to include in its contracts provision
for
the payment of interest where . . . there are delays in
payment
occasioned by the government." 51 Comp. Gen. 251, State's Ex.
9.
Moreover, even if the State is correct that under Library of Congress
v.
Shaw, 478 U.S. 310 (1986), interest designed to compensate for
belated
receipt of money from the federal government requires a waiver
of
sovereign immunity, this does not mean that only this type of
interest
is unallowable as a cost under federal procurement contracts.
6. The relevant part reads:
Facilities capital cost of money . . . is an imputed
cost
determined by applying a cost-of-money rate to
facilities
capital employed in contract performance. A
cost-of-money rate
is uniformly applied to all contractors . . .
. Capital
employed is determined without regard to whether its
source is
equity or borrowed capital. The resulting cost of money
is not
a form of interest on borrowings (see 31.205.20).
48 C.F.R. . 31.205-10(a)(1)(i). (The referenced section is the
one
paralleling OMB Cir. A-87, Att. B, D.7.)
7. The cases cited by New York for the proposition that the
same
interpretation must be applied are inapposite. In Northcross v.
Board
of Education, 412 U.S. 427 (1972), the Court found that the use
by
Congress of the same language on attorney's fees in two civil
rights
laws would be a "strong indication" of parallel interpretation,
since
the laws had the same purpose and raison d'etre. Id. at
428. The Court
did not state that such an indication could not be
overcome. Here, the
drafter of the provision in question, OMB, has made
clear that its
interpretation is intended to be contrary to that advanced by
the State.
Further, the procurement and grant regulations do not have the
same
purpose and raison d'etre. New York cited General Electric Co.
v.
United States, 610 F.2d 730 (Ct.Cl. 1979), for the proposition
that
canons of statutory interpretation apply to regulations. However,
the
court states that the "meaning of particular terms is to be derived
not
only by consideration of the words themselves but also by examination
of
the context, the purpose and the circumstances under which the terms
are
used." Id. at 734 (citations omitted). The plain meaning of
the
interest provision supports a broad reading and the context and
purposes
are not the same as the procurement situation.
8. New York quoted from the original language of Pub. L. No.
93-400
(before a 1983 amendment) to argue that the prior version was
mandatory,
not discretionary. The original version states in part that
"[t]o the
extent he considers appropriate and with due regard to the
program
activities of the executive agencies, [the Administrator] . . .
shall
prescribe policies, regulations, procedures, and forms, which shall
be
in accordance with applicable law and shall be followed by the
executive
agencies" for procurement and in providing for grantee
procurement.
Despite the use of the word "shall," the Administrator was
clearly not
compelled to act except in his discretion. In any case,
either he has
acted, in that procurement regulations explicitly defer to OMB
Cir. A-87
for grants procurement, or he has failed to act, in which case,
if
action was mandatorily compelled, remedy would be against
the
Administrator, not by invalidating this Department's
regulations
incorporating OMB Cir. A-87. New York pointed to nothing in
this
language which demanded that any policies, regulations, procedures,
and
forms must be uniform for both federal procurement and federal
grant
situations without regard to differences. In fact, OMB has sought
as
much uniformity as possible in cost principles, but has
distinguished
where necessary among categories of grantees, such as state
governments,
hospitals, or nonprofit organizations. See 45 C.F.R. ..
74.171, 74.173,
74.174 with references to the relevant OMB Circulars.
9. New York rejected the Agency's position that the
Administrator
simply never chose to exercise his discretionary authority, on
the basis
that OMB Circular A-102 was issued partly pursuant to the
amended
version of Pub. L. No. 93-400 and therefore represented an exercise
of
the Administrator's authority by OMB. But as the State noted, OMB
Cir.
A-102 incorporated OMB Cir. A-87. State's reply brief at 9.
Thus,
whenever the Administrator or OMB acted in regard to state
government
grants, it has been to reaffirm the applicability of OMB Cir.
A-87.
10. While seeking as much uniformity as possible among cost
principles,
the federal government has also recognized that no one set of
principles
can apply to all situations. The FAR treats commercial
concerns and
educational institutions differently, in "recognition of
differing
organizational characteristics," despite the overall objective that
"all
organizations of similar types doing similar work will follow the
same
cost principles." 48 C.F.R. . 31.101 (1991). There is thus
nothing
untoward in applying different rules to state government agencies
and
commercial vendors.
11. New York further argued that Pub. L. No. 93-400 is the
only
statutory authority for OMB Cir. A-87 and that therefore the
circular
must be subject to Pub. L. No. 93-400, or else is invalid.
This
argument gets the State nowhere. The procurement rules under Pub.
L.
No. 93-400 affirm the applicability of OMB Cir. A-87. OMB Cir. A-87
(in
one of its versions) was already in existence when Pub. L. No.
93-400
was adopted (and, of course, when the law was amended in 1983 by Pub.
L.
No. 98-191). Thus, as New York conceded, OMB's authorization to
issue
OMB Cir. A-87 is "a moot point since Pub. L. 93-400 supported the
1974
and subsequent reissuances of OMB Cir. A-87." State's reply brief
at 8,
n.3. Furthermore, the direct source for applying these cost
principles
here is 45 C.F.R. Part 74. Contrary to New York's statement
that this
incorporation could not cure any defect in OMB's issuance of OMB
Cir.
A-87, the Secretary's adoption of the cost principles was an
independent
act taken under the Secretary's authority under 5 U.S.C. . 301
and the
Social Security