Fixed Price Incentive Fee Contract: Everything You Need to Know
A fixed price incentive fee contract provides contractors with an additional financial incentive upon completing a project. 4 min read
2. The Point of Total Assumption
3. After the Job Completion
4. The Established Ceiling Price
5. The Total Estimated Cost
A fixed price incentive fee contract provides contractors with an additional financial incentive upon completing a project. However, this incentive fee is fixed and under normal circumstances, it cannot be increased or decreased once the fee has been agreed upon and the contract is signed.
Fixed Price Incentive Firm Target (FPIF) Contract Type
Contracting officers are now being encouraged to consider the increased usage of the fixed price incentive firm target, or FPIF contract This is due to
- DFARS 216.403-1, and
- DFARS PGI 216.403-1.
This type of contract is able to offer contractors significant incentives when they take steps to control the costs of a project. However, this is one of the most complex types of contracts in terms of negotiation and execution.
16.403-1 states that a fixed price incentive firm target contract should specify the following:
- Target cost
- Target profit
- Target price.
The target price is the sum of the target costs and the profits. A contract of this nature should also specify the maximum price, but no maximum or minimum in terms of profit. This is the maximum amount the contractor will receive upon project completion. It excludes any allowable adjustments that may be outlined in other clauses in the contract.
A fixed price incentive firm target contract also outlines a specific formula for calculating profit adjustments. This formula is also sometimes referred to as:
- Share ratio
- Sharing arrangement
- Share line.
Profit adjustment formulas are usually represented in terms of ratios with the following splits:
- The numerator is called the "government share"
- The denominator is called the "contractor share."
The Point of Total Assumption
Fixed price incentive firm target contracts should also include a "Point of Total Assumption," or PTA. This contract element will outline the point at which the contractor is expected to assume complete risk related to cost overrun.
In this clause, the prices calculated using the price adjustment formula outlined earlier in the contract should be equal to the ceiling price. Moving beyond the Point of Total Assumption, the share line price is greater than the maximum price. For this reason, the maximum price should supersede the share line.
After the Job Completion
All elements of the contract should be negotiated ahead of time before the contract is actually awarded. Upon completion of the job, both parties should assess the following:
- Incurred direct costs
- Incurred indirect costs
- Negotiate the final cost.
Once this has been done, both involved parties should:
- Apply the established profit adjustment formula
- Agree upon the final price of the job.
In some situations, the contractor can potentially earn all of the target profit, as well as the "contractor share" when a project is underrun according to the requirements outlined in the price adjustment formula. In situations that run up to the Point of Total Assumption, the contractor may be required to subtract the "contractor share" portion of his or her earnings from the project's total target profit.
The Established Ceiling Price
Moving beyond the Point of Total Assumption, the share line price will exceed the established maximum price. When this happens, maximum price overrules the PTA. The contractor's total profit is reduced by one dollar for every dollar that the project is overrun. This essentially converts the contract into a firm fixed price contract.
Unless other terms in the contract specify to the contrary, the government will never pay more than the established ceiling price.
Moving beyond the established ceiling price, the contractor is usually obligated to complete the project to remain in compliance with the contract. FPI(F) are part of the "fixed price" family of contracts. This means it should include what is known as a "default clause," according to FAR 52.249-8 through FAR 52.249-10. Because this clause exists in these contracts, the contractor is subject to certain remedies, including contract termination for default.
The Total Estimated Cost
In contrast, a default clause is not typically included in contracts related to cost-reimbursement. Under these contracts, the contractor is only required to give his or her "best effort" to perform within the established Total Estimated Cost, otherwise known as the Limitation of Cost Clause as outlined in FAR 52.216-20.
In these cases, if the contractor is unable to reach job completion within the established Total Estimated Cost, he or she is usually allowed to revise the Total Estimated Cost to assist with the contractor's efforts to complete the work. In this case, the government then decides whether it is willing to provide more funding for the contractor to complete his or her efforts.
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