The Ongoing Battle for Indirect Costs
Federal grant recipients have found themselves in uncharted waters in recent months, with an unprecedented level of challenges to grant-funded programs coming from the Trump administration. While many of the challenges have been focused on specific funding for federal programs or the nature of awards (e.g., those addressing diversity, inclusion and equity (DEI) or containing other administrative “trigger” words), a common thread has been simmering that would impact nearly all grant recipients — indirect cost recovery.
While most in the industry are tracking the numerous attempts since March 2025 from agencies to wholly limit indirect cost recovery, the changes to indirect cost calculations was actually already beginning prior to the change in political administrations. While federal funding recipients were celebrating the Oct. 1, 2024, effective date of the revised uniform guidance and its increase of the de minimis indirect cost rate to 15%, many could be forgiven if they overlooked the Department of Health and Human Services (HHS) updating its Grants Policy Manual, with the same Oct. 1, 2024, effective date, extending the salary rate limitation for HHS-funded awards to the costs included in a recipients indirect rate calculation. This meant that any organization that charged indirect costs to HHS, or which used HHS as its indirect cost rate negotiator, now needed to exclude any salaries above the established salary cap from the amount of indirect charged. For many organizations, this now forced a strategic decision on whether to establish bifurcated indirect cost rates or a single rate that would forgo potentially allowable salary costs for other agencies.
The challenges to indirect costs then exploded under the Trump administration, with four agencies (National Institutes of Health (NIH), Department of Energy (DOE), National Science Foundation (NSF) and the Department of Defense (DOD)) issuing instructions that indirect costs would be capped for all awards to reduce the expense grants posed to the government. The guidance issued across these agency notices all followed similar themes, proposing to cap allowable indirect cost rates between 10-15% depending on the type of organization. As each new policy was published, legal challenges were filed by various groups (typically collaborations of research universities or nonprofit organizations), each of which received a temporary restraining order (TRO), and then several that have not received final rulings prohibiting the government from taking such actions.
Though the uniform guidance does allow agencies to establish their own “deviations” regarding the acceptance of negotiated indirect cost rates (§200.414(c)), the judges’ decisions focused on the fact that judicial rulings each cited the moves as violations of the Administrative Procedures Act and a long-held standard established by a 1965 congressional directive prohibiting the government from implementing such arbitrary caps. Agencies continued to issue similar policy statements even as the first of such actions was being challenged through the courts, with each situation facing similar scrutiny. However, as the environment surrounding the government’s quest for cost savings continued to evolve, the agencies’ attempts to limit indirect costs are also evolving.
This evolution is best demonstrated by DOE’s efforts to limit indirect cost recovery. On April 11, DOE issued a “policy flash” stating that it would not limit all grant awards issued to institutions of higher education (IHEs) to a 15% indirect cost rate. Though this policy would only apply to new awards, the policy glash clearly stated that any existing award not compliant with this new policy would be terminated. As with prior government attempts to limit indirect costs, this action was swiftly challenged by a group of IHEs and halted with a TRO. On May 8, DOE issued another policy flash that impacted indirect costs charged by non-IHEs (i.e., nonprofits, state and local governments, and for profit organizations). In this instance, what seemed like a very similar administrative decree actually contained notable and significant differences.
One key distinction of the May 8 policy flash is that DOE’s approach is not to limit the rate a grant recipient can charge; instead, DOE is limiting the total dollar amount of an award that can be recovered as indirect costs. The notice explicitly states that recipient organizations should continue to use their negotiated indirect cost rates and no such change is being forced on the rate that can be used, but that DOE has established a “maximum amount of funds to be paid or reimbursed as indirect costs.” Further, the language made it clear that this action was only associated with new awards. Both of these statements show a critical difference in prior attempts to limit indirect cost recovery and responsiveness to the judicial decisions that had halted them.
Potentially of even greater concern in the May 8 notice is the statement that the percentage limit on reimbursement for “allowable, allocable and reasonable indirect cost” is inclusive of “total indirect costs and fringe benefits.” This definition causes significant alarm as many recipient organizations consider fringe benefits as a direct cost to awards and such interpretation will further limit the amount of true indirect cost recovery for relevant grant recipients.
To date, the May 8 policy flash has not received a formal legal challenge within the first two months after issuance, though it is expected that such a move will come. Regardless of the outcome of such a challenge, or those ongoing across the other attempts to limit rates by NIH, DOE, NSF and DOD, grantmaking agencies are sending a clear message about their current focus and feelings around indirect cost recovery. As the Office of Management and Budget has intimated that further changes are coming the the uniform guidance to reflect priorities and policies of the current administration, industry experts anticipate that current provisions at §200.414 may be one of the elements seeing additional change.
However, not all is lost for grant recipients. Pending a major overhaul and re-write of the uniform guidance from its current form, which would mean a significant shift to long-standing federal cost accounting practices, there is a potential silver lining. This comes from the language defining direct costs in §200.413(a), specifically that, “Direct costs are those costs that can be identified specifically with a particular final cost objective, such as a federal award, or other internally or externally funded activity, or that can be directly assigned to such activities relatively easily with a high degree of accuracy.” As you read through the uniform guidance, there are very few references to the type of costs that must be considered as an indirect cost. Several costs types are references as “commonly” treated as an indirect expense, but ultimately it is up to the recipient organization to establish the necessary cost accounting treatment and allocation (and consistent cost-charging treatment) of its expense categories.
As the federal government continues to evolve its thinking on indirect cost recovery, so too must recipient organizations. In particular, the limitation in allowability of indirect cost recovery can be combated by changes to the consideration of which expenses are classified as direct expenses rather than indirect. While such a shift may not enable institutions to achieve as much cost recovery as it previously had or require additional effort to establish practices for the allocation of expenses as direct costs, such an approach may provide a significant lifeline to those organizations facing dramatic cost recovery deficits and represent one of the strongest remaining moves in the ongoing chess match between grantmaking agencies and their recipients.
David Clark is Managing Director and Practice Leader at BDO, assisting recipient of federal grants (including state and local governments, nonprofits, for profits, and institutions of higher education) in several key areas, including full lifecycle grants management, forensics and investigations, financial risk management, excellence in financial operations, and strategy. Over nearly two decades of consulting, David has supported clients in the management and administration of billions of dollars in federal grants and supported clients through audits from OIGs and False Claims Act cases. Prior to joining BDO, he served as a Director in the Risk, Internal Audit, and Cybersecurity consulting practice of another international accounting firm as well as a Senior Internal Audit Manager at one of the country’s leading financial institutions. David is based out of Raleigh, NC and can be reached at dclark@bdo.com.
