Uncompensated overtime is hours worked in excess of 8 hours a day, or 40 hours per week, by salaried employees who are paid a fixed amount per week, month or year regardless of the number of hours worked.
The terms “uncompensated overtime” or “unpaid overtime” are really misnomers, however, since the salaries of exempt employees under the Fair Labor Standards Act are considered compensation for all hours worked. An inequity in the costing of government contracts could occur if uncompensated overtime is worked, but not accounted for, and more than one contract or project is worked on by the salaried employee. The lack of proper accounting for the overtime hours can create the potential for consultants to manipulate its labor accounting system.
Government agencies always prefer that consultants implement timekeeping and labor distribution systems that properly account for all hours worked. Some consultants have not done so, sometimes because the occurrence of uncompensated overtime is insignificant. Where consultants have not done so, auditors will conduct testing to validate the consultants’ assertions. Auditors will expand timesheet testing or employee interviews to determine whether the failure of the consultant to record all time worked results in a material difference in the charging of costs.
Uncompensated overtime can increase consultant profits, especially on a fixed-price contract which was bid on the basis of a 40-hour week and employees are either required to work uncompensated overtime or they voluntarily do so. Consultant profits increase because for every additional uncompensated overtime hour per week an employee works, a lower effective hourly rate is paid by the consultant. That practice can also cause problems if the consultant wishes to use history as a basis for proposing on new contracts.
Fraud indicators related to uncompensated overtime exist and auditors are required to consider these fraud indicators when auditing labor costs. Although auditors are not responsible for proving fraud, they are responsible for finding and reporting fraud indicators. Fraud indicators are not fraud. However, by looking for fraud indicators and properly assessing them during an audit, the auditor is taking the proper approach to uncovering fraudulent acts and, thereby, protecting the government agencies’ interests.
These fraud indicators include:
- Professional staff required to work a significant amount of unpaid overtime on a variety of projects-both direct and indirect.
- Salaried employees only charging the first 8 hours worked during any day for an extended period.
- A pattern of management directed unpaid overtime with employee bonus based on the extra hours worked.
- Cost-type government contracts worked during the first 8 hours and fixed price or commercial contract work performed only during the unpaid hours.
- Overrun contracts/projects worked on only during unpaid hours.
- Encouraging employees to work significant unpaid overtime but to not record the hours in direct conflict with company policy.
Consultants should periodically perform their own self-assessments (internal audits) of their timekeeping and labor distribution policies, procedures, and practices to ensure they are in compliance with sound governmental contracting and accounting practices.
Not addressing this issue successfully poses a huge risk since auditors have no wiggle room in overlooking it as a minor problem. Any deficiency in your accounting system will likely lead to a failing grade, according to the latest audit guidance. This could prevent you from obtaining governmental contracts.
Scott Sutton is a senior accountant for Somerset’s Construction & A/E Team. He joined Somerset in 2008 after graduating from Ball State University with both a B.S. and an M.S. degree in Accounting. For Somerset clients, Scott provides various financial services, including compilation, review and tax work as well as consulting services. He has significant experience with FAR compliant overhead rate audits, government contract consulting and accounting system review for A/E industry software packages. Scott is on the Board of Directors for the Indianapolis Parks Foundation and is a member of the Indiana CPA Society.