Similarly Situated Small Business and Limitations on Subcontracting RuleMany small businesses will be faced with dissecting the most recent SBA Rule governing the Limitation on Subcontracting Rule and similarly situated small business assessments. When you are bidding on a total small business set aside subcontract with a large business subcontractor, this rule is dangerous if you are not familiar with the recent definition.

SBA OHA is now faced with dissecting critical gaps in the rule. If you believe the rule is a no-brainer, then you may want to think again. You want to extremely careful when you pick your teaming partners and named subcontractors and submit government bids.  For example, you must also understand how the limitations on subcontracting apply to the second tier subcontractor and how it may or may not impact the underly similarly situated test.

  • Predictably,  much litigation will be based upon whether a small business is similarly situated or not. This will be a new issue that many small businesses across the country should investigate earlier than later.
  • How much work can the prime subcontract out since the work contracted out to similarly situated entities will count towards the prime’s small business performance requirements? This is only but one question that needs to be answered.

As stated in the comments leading up to the final SBA rule,  15 U.S.C. 657, requires that the limitations on subcontracting for full or partial small business set-aside contracts, HUBZone contracts, 8(a) BD contracts, Service-Disabled Veteran-Owned (SDVOSB) Small Business Concern (SBC) contracts, and WOSB and Economically Disadvantaged Women-Owned Small Business (EDWOSB) contracts, be evaluated based on the percentage of the overall award amount that a prime contractor spends on its subcontractors.

The SBA suggests that 15 USC 757 provides that any contractor work done by similarly situated entities not to be subcontracted work for purposes of complying with the limitations on subcontracting rule.

What Does a Similarly Situated Small Business Mean? 

When assessing how the SBA rules apply, one should first make sure that your similarly situated entity is a subcontractor or teaming partner that has the same small business status and the set-aside criteria and small as the prime contractor submitting the bid. An example would be an 8(a) or HUBZone set aside where the prime contractor also is a HUBZone company. The subcontractor will be similarly situated if it also a HUBZone or 8(a) company.

Not only does the subcontractor have to be within the same status as the awarded to contract to considered a similarly situated small business  but the company must also be small under the NAICS code of the assigned work from the prime contractor. Companies that simply generalize the requirements for being a similarly situated 

Subcontracts to a similarly situated bidder will not count towards the limitations on subcontracting rule. The SBA believed that to do otherwise would not be in the best interest of furthering SBA government contracting goals. See 13 CFR 125.6 (a)(1) –(2).

Government contractors should assess their specific subcontracting relationships. The facts of each case will be different. Therefore, companies should properly assess their unique situations and be proactive. There are not enough SBA OHA decisions on the issue.

Limitations on Subcontracting

When does the 50% subcontracting rule apply? The SBA provided an example where there is a procurement for both supplies and services. It suggested that if the contract is considered primarily for services, then the prime contractor cannot subcontract more than 50 percent for supplies.

It would appear that future disputes would also hinge on what is the primary requirement of the contract.

First-tier subcontractors should be aware. Small business set aside requirements regarding similarly situated concerns,  prime and subcontractors should be aware that protection from violating the limitations on subcontracting rule would only flow from work subcontracted from the prime to the subcontractor.

  • Subcontracts from the first-tier subcontractor to a second-tier will not count.
  • Prime contractors should extremely careful to protect themselves, and even inquire when it builds new relationships with first-tier subcontractors that are similarly situated.
  • A total small business set aside subcontract with a large business company is fertile ground for a size protest.

The requirement for a signed agreement. Based upon the SBA’s comments, prime contractors submitting federal government proposals must also submit a signed agreement between the prime contractor and the similarly situated subcontractor. See 13 CFR 125.6 (b)(1). Whether a teaming agreement would suffice or a traditional subcontract remains to be seen. These are all reasons why small businesses should be proactive on these matters.

Suspension and debarment possible. Of importance, the SBA comments also warn prime contractors that they can be debarred for any violation of the spirit of 13 CFR 124.6(b)(3). This issue goes towards the percentage of work identified in the signed agreement.

Similarly Situated Subcontractors and NAICS Code Application: When considering the legal definition of similarly situated small business concern, prime contractors that are considering entering into a subcontractor also want to be aware of various factors that could influence the outcome of any future litigation. See information about small business subcontracting plans.

The primary issue is whether similarly situated subcontractors are limited to the NAICS code assigned to the prime contract. The new SBA rules seem to suggest not. Instead, the similarly situated definition focuses on the NAICS code that the prime contractor assigns to the subcontractor as a similarly situated company.

There will be some disputes in the future as to the validity of the prime’s assignment of a NAICS code to its similarly situated subcontractor that arguably has nothing to do with the primary contract requirements. Although the SBA expressed the goals of promoting subcontracts to similarly situated small businesses, there could be some concern as to whether relying on the prime to implement new NAICS code weakens the government’s overall assignment of the primary NAICS Code. See 13 CFR 125.3 (c)(1)(v).

Getting professional assessments can avoid costly litigation.

Given the unknowns due to lack of case law on the new rules, small businesses can still take proactive measures to reduce the impact of bid protests filed by competitors. There are still minute issues or facts that can arise. SBA Office of Hearings and Appeals will have its work cut out from the legal challenges that could arise.

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For immediate help with the SBA’s similarly situated small business rules and the limitations on subcontracting requirements, contact Watson & Associates’ government contract small business lawyers at 1-866-601-5518. FREE INITIAL CONSULTATION.