SBIR Proposal Writing Basics: Your Indirect Rate Should Always Be Exactly _____%

Gail & Jim Greenwood, Greenwood Consulting Group, Inc.
Copyright © 2014 by Greenwood Consulting Group, Inc.


We can tell it is Springtime: love is in the air, the snow storms aren’t
as severe, and everyone is asking us “what should my indirect rate be?”
We have a very simple and accurate answer to this question: your indirect
rate should be whatever is necessary to compensate you for a reasonable
share of your general costs of being in business, adjusted by whatever the
awarding agency allows or disallows.  Kind of reminds us of Abe Lincoln’s
answer when asked how long a person’s legs should be: he said they should
be just long enough to reach t he ground.

The point here is that there is no simple percentage rate that always
should be used for your indirect rate. There are three basic factors that
go into calculating your indirect rate: your projected costs of being in
business, the base on which you will place your rate, and the agency’s
norms and restrictions. Let’s address these one at a time.

Indirect rates are basically a way to help make sure you get compensated
on your SBIR/STTR project for a reasonable share of your general costs of
being in business. Things like office or lab rent, cell phone bills,
office supplies, and non-project related labor (e.g., accounting, clerical
support, general correspondence) are what we mean by general costs of
being in business. You need to have a comprehensive list of the
non-project costs you incur in your firm, and then project their values
for the time period when you would be working on the SBIR or STTR project
if it is awarded. You have to be “reasonable” in your request for
compensation for such costs—believe it or not, the definition of
“reasonable” is whether it would be paid by a prudent person in the
conduct of a competitive business. Not a very exacting standard, and
therefore one reason why your indirect rate can be subject to discussion
and negotiation with the government.

The “base” simply means whether you are stating your indirect rate as a
percent of ALL direct costs (i.e., all the costs of doing the technical
work in the SBIR/STTR project), or just your company’s direct labor on the
project (excluding project-related materials, subcontracts, etc.). Most
for profit businesses use the latter base, but some agencies, like NIH,
are very comfortable with the former. Does it make a difference? You bet.
To collect a certain amount of indirect costs on a project, the indirect
rate will have to be LARGER if you only apply it to direct labor, versus
if you apply it to all direct costs (assuming, of course, that you have
some direct costs that aren’t labor).  You should NEVER ask someone what
their indirect rate is without also asking whether the basis is just
direct labor or all direct costs—otherwise, that rate has no meaning and
you could find yourself mixing apples and oranges.

Each SBIR/STTR agency has its own culture, and with that culture comes
norms about what they allow and don’t allow in your indirect rate. NIH and
NSF, for example, will not allow you to put independent research and
development (IR&D) into your indirect rate, while most other SBIR/STTR
awarding agencies will.

The most common example of an agency norm also is found at NIH: that
agency will not give you an indirect rate of more than 40% on a Phase 1
SBIR/STTR grant unless you have recently negotiated a higher rate with
some Federal agency. Therefore, all of you who are preparing Phase 1 NIH
grant proposals for next week’s deadline will need to show an indirect
rate of 40% or less, except for those who have previously negotiated a
higher rate. When it comes to Phase 2 on an NIH grant, you can either use
a previously negotiated indirect rate, ask for 40% or less, or request a
higher indirect rate that you have calculated.  In the latter case, you
will then have to negotiate with NIH before they will allow you to use
that indirect rate.

And what did we say two paragraphs before this one? You need to know the
base for the indirect rate being quoted to you, or the rate is
meaningless. So your question needs to be “is the NIH 40% cap is on all
direct costs or just direct labor?”  Glad you asked--in this case, it is
40% of all direct costs, not just direct labor.


Hopefully we’ve enlightened you a bit on indirect rates. There is no way
we could tell you how to estimate your indirect rate in this brief
article, but we want to make sure you understand that there is not a
magical percentage rate out there that you should always use (and you
should never use another company’s or a university’s indirect rate, since
it is based on their unique cost structure that likely is nothing like
yours). Allow ample time to estimate your indirect rate before finalizing
the proposal, and get professional help as needed to estimate that rate so
it is reasonable, defensible, and accurate