GAB Decision 380
January 31, 1983 Community Action Commission of the Cincinnati Area
Docket No. 82-156 Garrett, Donald; Settle, Norval Ford, Cecilia
The Community Action Commission of the Cincinnati Area (Grantee)
appealed a decision by the Office of Human Development Services (Agency)
to disallow costs claimed by the Grantee under its Head Start Program
for the period November 1, 1980 to October 31, 1981. The Agency
disallowed $11,103. The Grantee originally appealed $10,971 of the
disallowance. However, the parties s
ettled one issue /1/ and the sole remaining issue is the allowability of
$5,500 expended by the Grantee to settle a lawsuit filed against it by a
former employee. For the reasons set out below, we uphold the Agency
decision to disallow.
Background
On October 29, 1979, the Grantee was sued by a former employee who
alleged that her termination was not for good cause and that the Grantee
had violated its personnel policies and breached its employment
contract. On September 1, 1981, on the advice of legal counsel, the
Grantee entered into a settlement agreement with its former employee
under which the Grantee paid its ex-employee $5,500. The Grantee
charged this cost to its grant for 1980-81 program year. The Grantee's
attorney's opinion was that the termination was proper, but that there
was a 30-40% likelihood that the employee would win her suit because of
a lack of overwhelming documentation as to the reason for the
termination (November 8, 1982 letter from the Grantee's counsel).
The Agency found that the costs were unallowable because the Grantee
had neither notified the Agency of the lawsuit, nor produced documented
evidence to show that the Grantee had attempted to procure insurance (2)
against such suits by employees. The Agency relied on Policy
Interpretation Memo No. 9, issued May 31, 1979 (Agency Tab H, hereafter
Memo), which set out factors governing the allowability of legal fees
and settlement costs for personnel litigation. /2/ The Agency also
relied on two costs principles from 45 CFR Part 74, Appendix F: Section
G.17(a)(3) regarding uninsured losses, and section G.8(c)(2) on
contingencies.
The Grantee did not deny the applicability of the regulations cited
by the Agency. The Grantee stated that it had attempted to obtain
insurance coverage, but that it was turned down due to adverse publicity
which it had received in the local press. However, the Grantee admitted
that it did not have any documentation to prove that it had been refused
insurance, and thus, it could not comply with provision 5 of the Memo.
The Grantee did not allege that it had ever notified the Agency of the
lawsuit or the settlement negotiations.
The Grantee contended that it acted reasonably in settling the
lawsuit, pointing to the letter from its attorney which explained the
reasons for the settlement. That letter explained that if the Grantee
lost the litigation, it would probably have incurred $15,000 to $25,000
in (3) damages and attorneys' fees for the plaintiff, as well as $3,000
in fees for its own attorney. The Grantee argued that settlement was
"reasonable and in the best interests of the program and its mission."
(Grantee's Jaunary 11, 1983 letter to the Board) The Grantee requested
that the Board mitigate the harsh impact of the Agency decision to
disallow the settlement costs.
Analysis
While it may have been true that the Grantee saved itself a
considerable amount of money by settling the suit out of court, this is
not necessarily sufficient to demonstrate allowability of the costs. As
a charge to federal funds, this expenditure must also be consistent with
the applicable cost principles. The Agency argued that the cost claimed
by the Grantee was an uninsured loss not expressly provided for in the
grant and was, therefore, unallowable under 45 CFR Part 74, Appendix F,
section G.17(a)(3) (1980), which provided:
Actual losses which could have been covered by permissible insurance.
. . are unallowable unless expressly provided for in the grant . . . .
The facts indicate that the Grantee was uninsured for the type of
liability incurred as a result of this lawsuit. /3/ The regulation, G.
17(a)(3), clearly provides that uninsured losses are unallowable unless
expressly provided for in the grant. The Grantee did not contend that
its grant provided for this type of loss. Therefore, application of G.
17(a)(3) to the settlement cost for this lawsuit supports a finding that
the cost is unallowable.
The Agency also argued that the cost principle dealing with
contingencies supported the disallowance. The cost principles provide
for the allowability of certain costs classified as contingencies.
However, the allowability of such costs is premised upon a grantee's
adherence to guidelines specified in the regulation. The regulation, at
45 CFR Part 74, Appendix F, section G.8, (1980), defined a contingency
as:
(a) . . . a possible future event arising from known or unknown
causes, the outcome of which is indeterminable at the present time.
(4) The regulation went on to provide:
(c) In connection with estimates of future costs, contingencies fall
into two categories:
(2) Those which may arise from presently known or unknown conditions,
the effect of which cannot be measured so precisely as to provide
equitable results to the institution and the government; e.g., results
of pending litigation . . . . Contingencies of this category are to be
excluded from cost estimates under the several times of cost, but should
be disclosed separately, including the basis upon which the contingency
is computed in order to facilitate the negotiation of appropriate
contractual coverage . . . .
The record does not show that the Grantee informed the Agency either
that it had been sued or that it had entered into the settlement
agreement until after it had committed itself to the $5,500 expenditure.
Furthermore, the Grantee did not request that the potential cost be
taken into account when it submitted its budget for the 1980 - 1981
program year, as was required by the cost principle for contingent
liabilities. Thus, the Grantee did not adhere to the regulatory
requirement that potential costs be disclosed.
The Agency also argued that this disallowance can be sustained on the
basis of the Memo. Provisions 3 and 5 of the Memo do require the same
actions from the Grantee as the cost principles discussed above, i.e.,
insurance and notice to the Agency. During the course of the Board
proceedings however, it was established that the Memo was issued to
Regional Program Directors, rather than to grantees, and that the
Grantee did not have actual notice of the Memo until November 1982. We
conclude that the Memo set forth factors reasonably used by the Agency
to evaluate these grants. Nevertheless, this Memo was an internal
document of which the Grantee had no notice prior to incurring the
expense in question. As such, the Memo does not itself establish
requirements which were binding on the Grantee. Thus, we do not think
the Agency properly relied on the Memo as substantive support for its
disallowance.
Although litigation settlement costs are in general allowable, as the
Agency's Memo recognizes, we conclude the Agency reasonably determined
that under the circumstances here this expenditure was an unallowable
charge to grant funds. The Grantee acknowledged that this was an
insurable risk, but that the Grantee was not covered by insurance.
(5) At this time, the Grantee can only state that at the time in
question it was verbally refused such insurance coverage due to
"sensational newspaper articles." (Grantee's January 11, 1983 letter
to
the Board) The Grantee state that its employees "who were privy to the
conversations (verbal refusals to insure) are no longer employed by CAC,
no longer in the area, or are otherwise unavailable." Although this may
admittedly hamper the Grantee's efforts to present evidence in this
matter, the fact remains that the Grantee has presented no information
about when attempts were made to obtain insurance, how many insurance
companies were contacted, and whether these efforts were made prior to
the lawsuit in question here. There is then no basis for us to conclude
that the Grantee made reasonable efforts to obtain insurance but was
unsuccessful. Furthermore, the Grantee has no documentation or evidence
to show when and how the Agency was notified about this lawsuit and the
charges to grant funds which could potentially arise. Although it
appears from the opinion of the Grantee's attorney that the settlement
itself was a reasonable action, we think the Agency's disallowance must
stand. In accordance with the applicable cost principles, when faced
with a contingent and uninsured liability, the Grantee was obliged to
disclose this potential obligation to the Agency so that the parties
could take this potential obligation into account when negotiating the
approved budget for the grant year in question. In addition, the cost
principles in general encourage the parties to discuss in advance the
allowability of particular charges which may be subject to question.
(See, Introductory Comments to 45 CFR Part 74, Appendix F, section G.,
(1980)) Thus, we conclude that the Grantee failed in its administrative
obligations concerning this expenditure, and that the disallowance is
fully supportable based on the regulations discussed above.
Conclusion
For the reasons discussed above, we sustain the Agency decision to
disallow the $5,500 claimed by the Grantee. /1/ The Grantee had claimed
$5,471 for several different items, but the Agency disallowed
that amount because it found that the Grantee's claims for these costs
were not supported by adequate documentation. During the course of this
appeal the Grantee submitted documentation to the Agency which caused
the Agency to reduce the disallowance to $3,135. The Grantee did not
contest further the reduced amount of this portion of the disallowance.
/2/ The Memo set out five specific factors governing the allowability of
costs incurred in settling personnel litigation. The Memo also stated
that "although legal fees and settlement costs are generally allowable,
allowability of particular legal fees and settlement costs must be
determined on a case by case basis." Under the Memo, settlement costs
are allowable where: 1) A grantee does comply with their personnel
policies and procedures. 2) There was no pattern of harassment or other
grossly unfair personnel practices, although the grantee's personnel
policies and procedures were followed. 3) A grantee does notify the
regional office as soon as they learn that a lawsuit is filed against
them. 4) Legal fees are reasonable in relation to the services rendered
in accordance with the cost principle (45 CFR Part 74, Appendix F, 31(
a)). 5) A grantee can produce a documented evidence that they attempted
to purchase insurance against suits brought by employees, but the
insurance was not available or cost of the insurance was such that it
was unreasonable to carry such insurance. /3/ The Grantee
admitted that this was the type of insurance that it would be expected
to produce in keeping with sound business practices and that it is now
covered by this type of insurance.
OCTOBER 22, 1983