Office Of Management And Budget Circular A 87

Ever wonder why some nonprofits seem to spend a fortune on overhead while others keep costs low? Which means the answer often lies in a little‑known guidance document called OMB Circular A‑87. It’s not a flashy policy paper, but it shapes how federal money is spent across the country. If you’ve ever sat in a budget meeting and heard the phrase “allowable cost” tossed around, you’ve already brushed up against this circular.

What Is OMB Circular A‑87

Cost Principles Overview

OMB Circular A‑87 is a guidance document issued by the Office of Management and Budget that sets out the cost principles for federal grants and agreements. Because of that, in plain terms, it tells agencies and their partners what kinds of expenses can be charged to a federal award, how those expenses must be calculated, and what paperwork is required to prove they’re allowable. Think of it as the rulebook that keeps federal spending honest.

Who It Applies To

The circular applies to any entity that receives money from the federal government – from a small community health clinic to a large university research lab. And it also covers the agencies that award the funds, because they need to know what they can ask for in their own budgets. In short, if you’re handling federal money, you need to know the rules in A‑87.

Why It Matters / Why People Care

When a grant recipient misclassifies a cost, the fallout can be severe. The government may ask for money back, impose penalties, or even terminate the award. Beyond the immediate financial hit, there’s a ripple effect on reputation, future funding chances, and staff morale. Understanding A‑87 helps organizations protect their bottom line and stay compliant without having to guess.

How It Works (or How to Do It)

Understanding Allowable Costs

Allowable costs are those directly tied to the performance of the federally funded project. Direct costs include salaries of project staff, materials, and travel that are essential to the work. Which means indirect costs are overhead expenses like building utilities or administrative support that can be tied to the project through a cost allocation method. Which means the circular breaks them down into three buckets: direct costs, indirect (facility) costs, and unallowable costs. Anything that looks like a personal expense, a fine, or a lobbying activity is automatically unallowable.

Managing Indirect (Facility) Costs

Facility costs can be a major line item, so the circular requires a documented cost allocation plan. Day to day, this plan explains how the organization splits its overhead between direct and indirect portions. In practice, the method must be consistent, based on a reasonable driver such as square footage or number of employees, and it must be approved by the funding agency. Changing the driver mid‑project without justification can raise red flags during an audit.

Documentation and Recordkeeping

Good records are the backbone of compliance. The circular requires that every cost charged to a federal award be supported by original invoices, timesheets, purchase orders, or other evidence. Now, records must be kept for at least three years after the award ends, though many agencies recommend a longer period. A well‑organized filing system – whether digital or physical – saves headaches when auditors come knocking.

Reporting Requirements

Federal agencies often ask for periodic financial reports, usually quarterly or annually. Day to day, these reports must reconcile the charges on the award with the organization’s general ledger. So the circular mandates that the report include a cost breakdown by category, a description of the allocation method used for indirect costs, and any adjustments made during the reporting period. Accuracy here is non‑negotiable.

Audits and Compliance

Because federal funds are public money, the government conducts audits to verify that costs follow the circular’s rules. Consider this: the most common audit type is a Single Audit, which covers all federal awards for an entity. On top of that, if the audit finds unallowable costs or poor documentation, the organization may have to repay the funds and could face additional sanctions. Staying ahead of the audit means regular internal reviews and a clear understanding of what the circular permits.

Common Mistakes / What Most People Get Wrong

One of the biggest errors is treating all “administrative” expenses as indirect costs. In reality, certain administrative activities that are directly tied to a specific project – like a grant manager’s salary dedicated to that project – should be charged as direct costs. Another frequent slip is neglecting to update the cost allocation plan when the organization’s size or structure changes. A third mistake is assuming that the circular’s rules are static; they evolve, and agencies sometimes issue supplemental guidance that modifies how certain costs should be treated.

Practical Tips / What Actually Works

• Build a cost allocation plan early and get it approved before the first award is made. Keep it simple, document the driver you use, and stick to it.
• Separate direct and indirect costs in your chart of accounts. This makes it easier to pull the right numbers for reports and audits.
• Train staff on what’s allowable. A quick workshop on common pitfalls can prevent costly mistakes later.
• Maintain a dedicated folder for each award. Include all supporting documents, and back it up regularly.
• Run internal mock audits a few months before the official Single Audit. Look for missing receipts, inconsistent allocations, or any charges that look questionable.
• Stay current on updates. While A‑87 itself hasn’t changed dramatically, the OMB periodically releases new guidance that may affect how you interpret the rules.

FAQ

Do I need a separate cost manual for each federal award?
No. A single cost manual that covers all awards is sufficient, as long as it clearly outlines how indirect costs will be calculated for each project.

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Can I use the same allocation base for multiple projects?
Yes, if the base (such as square footage) is applied consistently across projects and the resulting indirect cost rates are reasonable.

What happens if I accidentally charge an unallowable cost?
You’ll need to remove the cost from the award’s ledger, reimburse the government for the amount, and document the correction. Repeated errors can trigger more severe actions.

Is there a deadline for submitting my financial reports?
The circular itself doesn’t set a specific deadline; that is usually defined in the award agreement. Most agencies require reports quarterly or annually, so check your specific agreement.

Can state or local governments use A‑87?
The circular is federal guidance, but many state and local agencies adopt similar cost principles. It’s wise to verify any local variations.

Closing

Understanding OMB Circular A‑87 isn’t about memorizing a list of rules; it’s about building a culture of transparency and fiscal responsibility. Worth adding: when you know which costs are truly allowable, keep solid records, and follow a clear allocation plan, you protect both the organization’s resources and the public trust that comes with federal funding. It may feel like a lot of paperwork, but in practice, a disciplined approach saves time, money, and headaches down the road. If you take the steps outlined above, you’ll be well positioned to handle the complexities of federal grant management without getting tripped up by the circular’s requirements.

Final Takeaway: Your 30-Day Compliance Sprint

If you’re reading this, you likely have a grant deadline looming or an audit on the horizon. Don’t try to boil the ocean. Instead, commit to this 30-day sprint to lock down your A‑87 posture:

Resources Worth Bookmarking

• 2 CFR Part 200 (Subpart E – Cost Principles): The codified successor to A‑87; the legal authority for current audits.
• OMB Compliance Supplement (Current Year): The "audit bible" used by Single Auditors—check the matrix for your specific CFDA numbers.
• Your Cognizant Agency’s Negotiation Guide: Most agencies (HHS, DOE, DOD, etc.) publish agency-specific negotiation guides that clarify gray areas better than the circular itself.
• GSA Schedule / Federal Travel Regulation (FTR): The definitive word on travel per diem and lodging caps—frequent sources of unallowable costs.

The Bottom Line

Federal funding is a partnership, not a blank check. The organizations that treat cost compliance as a strategic discipline—rather than a once-a-year fire drill—are the ones that scale their impact, retain their funding, and sleep soundly during audit season.

Your next step: Open your calendar. Block two hours this week for "Week 1" above. The rest follows naturally.