The current cap was set at $763,029 and was published by the Office of  Federal Procurement Policy on April 23, 2012. The cap has more than doubled since  1998 in then-year dollars; when adjusted for inflation and measured in  2011 dollars, the cap has increased by about 63 percent in real terms. Number of Contractor Employees with Compensation Costs in Excess of Reduced Caps

Reducing the cap to the salaries of the U.S. President or Vice President  would have substantially increased the number of employees with  compensation above the cap in 2010-2012, and in turn, increased the  amount of compensation costs that would have no longer been allowable   Across the 27 contractors reviewed, fewer than  under federal contracts.200 employees in any one year had compensation costs over the existing  cap, but this number would have increased to more than 500 if the cap  had been set at the President’s salary, and to more than 3,000 if the cap  had been set at the Vice President’s salary. All employees with compensation costs that exceeded the existing cap  were identified as executives. Contractors identified over $180 million per year in compensation costs  that would have exceeded a cap set at the President’s salary, and at least  $440 million per year if set at the Vice President’s salary. Government  representatives generally supported reducing the cap as a means to help  reduce the costs of DOD contracts, whereas industry representatives and  most contractors we reviewed emphasized potential negative impacts to  reducing the cap. OMB noted that the growth in the cap has outpaced  the rate of inflation, the rate of growth of private sector salaries generally,  and the rate of growth of federal salaries. DOD noted that it fully supported the principle of paying only reasonable  compensation costs and some DOD officials supported reducing the cap,  though DOD cautioned that there are limited data on the potential impacts  of doing so and that the impact on the defense industry would need to be  carefully monitored and assessed. For example, several contractor and  industry representatives stated that even though a cap does not limit what  the company can pay the employee, companies may consider limiting the  compensation paid to their employees over the long term. DOD provided written comments on a draft of this report. We noted in the report that our sample was not generalizable and that  some findings, particularly those associated with the impact that the  potential reductions of the cap may have on the large-tier contractors, are  limited since the three largest contractors selected did not provide  requested data. Appendix I: Objectives, Scope, and Methodology

Section 864 of the National Defense Authorization Act for Fiscal Year  2013 directed GAO to report to Congress on the effect of reducing the  allowable costs of compensation to the salary of the U.S. President or  that of the U.S. Vice President, which are currently $400,000 and  $230,700, respectively. This report provides (1) estimates of the number  of employees of a sample of Department of Defense (DOD) contractors  whose compensation would have exceeded a cap set at the salaries of  either the U.S. President or Vice President, and the amount of  compensation that would not have been allowable; (2) the status of  DOD’s efforts to establish an exception for scientists and engineers and  the extent to which scientists and engineers would be affected by  reducing the cap; and (3) the views of government and contractor  representatives on potential effects of a reduction in the cap. We also requested data from a stratified, random sample of 30  contractors on a number of items related to each objective. To determine government and contractor representatives’ views on  the potential impacts of reducing the cap, we interviewed government  representatives and industry associations. We  received complete responses to our data request from 27 of the 30  contractors in our sample—seven large-tier, 10 mid-tier, and 10 small-tier.
Why GAO Did This Study

Since the 1990s, federal law has placed a limitation, or cap, on the amount of employee compensation that contractors can charge to federal contracts. The cap increased by 63 percent in real terms since first use of the current approach in 1998. The cap was set at $693,951 in 2010 and $763,029 for 2011 and 2012.
The National Defense Authorization Act for Fiscal Year 2013 directed GAO to provide information on the effect of reducing the cap to the salary of the U.S. President or Vice President. GAO identified, among other things, (1) estimates of the number of employees of a sample of DOD contractors whose compensation would have exceeded a cap set at the salaries of either the U.S. President or Vice President and the amount of compensation that would not have been allowable and (2) the views of government and contractor representatives on potential effects of a reduction in the cap. GAO collected data from a nongeneralizable, stratified random sample of 10 large-tier, 10 mid-tier, and 10 small-tier contractors; reviewed relevant laws and regulations, and interviewed government and contractor representatives. Data on the number of employees affected by the cap was received from 27 of the 30 contractors; the three largest contractors in GAO's sample did not provide these data.

What GAO Found

Reducing the cap to the President's salary ($400,000) or the Vice President's salary ($230,700) would have substantially increased the number of employees with compensation costs exceeding the cap in 2010-2012.
For 2010-2012, contractors identified over $180 million per year in compensation costs that would have exceeded a cap set at the President's salary, and at least $440 million per year if set at the Vice President's salary. Most affected employees were at large-tier companies; few small-tier companies had employees exceeding these caps. While employees with compensation costs in excess of the existing cap were all identified as executives by the contractors, reducing the cap would have increasingly affected compensation costs for individuals below the executive level.
Government representatives generally supported reducing the cap as a means to reduce the costs of Department of Defense (DOD) contracts, whereas industry representatives and most contractors identified negative effects that could result from reducing the cap. The Office of Management and Budget noted the growth in the cap has outpaced inflation and the rate of growth of federal salaries. DOD noted that it fully supported the principle of paying only reasonable compensation costs and some DOD officials supported reducing the cap, though DOD cautioned that there are limited data on the potential impacts of doing so and that the impact on the defense industry would need to be carefully monitored and assessed. Industry associations and contractors representatives noted that the compensation they offer to their employees is generally based on market surveys of compensation paid by private sector companies. While acknowledging that a reduced cap would not preclude them from compensating their employees above the cap, contractor representatives noted that doing so would come at the expense of company profits, which in turn may result in challenges in attracting capital from the financial markets. They also noted that reducing the cap may affect companies' ability to attract and retain top talent and, over the long term, lead companies to reassess their business and staffing models and potentially shift work or personnel from government business to their commercial sector.

What GAO Recommends

GAO is not making any recommendations in this report. DOD and OMB commented on a draft, noting the need to pay reasonable compensation costs. DOD also cited the need for more research given GAO's sample size. GAO believes this analysis provides valuable insights into potential effects of cap changes.