How Compensation Reasonableness Is Evaluated
FAR 31.205-6 requires compensation reasonableness to be evaluated in relation to the work performed. For compensation not covered by labor-management agreements, relevant factors can include the practices of other firms of the same size, firms in the same industry, firms in the same geographic area, and firms performing similar non-Government work under comparable circumstances. :contentReference[oaicite:1]{index=1}
These factors provide a framework for analyzing whether compensation aligns with the applicable labor market rather than relying on a single salary figure. The contracting officer may determine which factors are relevant to the particular employee or job class being reviewed.
Allowability and Established Compensation Practices
Reasonableness is one part of the broader cost-allowability analysis. FAR 31.205-6 states that compensation must be based on and conform to the contractor's established compensation plan or practice when that practice has been followed consistently enough to imply an agreement to make the payment. The regulation also states that costs unallowable under another provision of Subpart 31.2 do not become allowable merely because they are characterized as compensation. :contentReference[oaicite:2]{index=2}
Contractors should therefore maintain compensation policies, approval records, payroll information, job descriptions, and supporting analysis that demonstrate how compensation decisions were established and applied. FAR 31.201-3 also provides the general reasonableness framework, including consideration of sound business practices, arm's-length bargaining, applicable laws and regulations, and significant deviations from established practices. :contentReference[oaicite:3]{index=3}
Compensation Benchmarking and Market Evidence
Market evidence is particularly useful when evaluating executive compensation, specialized technical roles, or positions where compensation is substantially different from broader workforce averages. Compensation Benchmarking provides a structured way to compare pay information across relevant data sets and can help finance and human resources teams document the market context for compensation decisions.
The CFO Compensation & Salary Benchmarking Report provides insights into CFO compensation by company size, industry, geography, and equity, helping readers understand the market factors that influence executive pay. The Director of Finance Salary Benchmark Report provides 2026 salary benchmarks, pay ranges, and compensation drivers across company size, industry, and location. These sources can contribute to the broader market evidence considered when evaluating compensation, although the relevance of any benchmark depends on the employee, role, circumstances, and applicable contract requirements.
Accounting, Approval, and Documentation
Government contractors need accounting records and supporting documentation that allow compensation costs to be traced and evaluated. The accounting function connects compensation data with the general ledger, cost accounting, financial reporting, controls, and auditability. Accurate classification helps distinguish direct labor from indirect compensation and supports consistent treatment across contracts and cost objectives.
Compensation Approval provides the governance step through which proposed salaries, bonuses, increases, or other compensation arrangements can be reviewed against established policies and authorization requirements. Documentation should identify the employee or job class, compensation elements, approval authority, effective date, and supporting rationale where appropriate.
The 2026 Chief Accounting Officer Salary Benchmark Report provides compensation ranges and pay drivers across company size, location, and role complexity. Such information can support accounting and finance teams when reviewing compensation data and developing documented market comparisons.
Practical Example of Reasonableness Analysis
Assume a government contractor pays an employee a base salary of $150,000, a bonus of $20,000, and employer benefits valued at $30,000. The total compensation considered is $200,000.
Total Compensation = $150,000 + $20,000 + $30,000 = $200,000
The reasonableness analysis does not simply compare the $200,000 total with one salary survey. The contractor can examine the employee's responsibilities, experience, geographic market, industry, company size, comparable non-Government work, and the reasonableness of each allowable compensation element. The resulting documentation should explain why the compensation is appropriate for the work performed and the circumstances of the position.
Special Considerations and Controls
FAR 31.205-6 contains additional requirements for particular compensation arrangements and individuals. For example, compensation involving owners of closely held corporations, partners, sole proprietors, certain family members, or persons with substantial financial interests receives specific consideration under the regulation. The compensation must be reasonable for services rendered and cannot represent a distribution of profits treated as an allowable contract cost. :contentReference[oaicite:4]{index=4}
Contractors should also recognize that the regulation includes specific provisions governing certain compensation elements and compensation limits. The applicable contract award date, agency, employee category, and compensation arrangement can affect which provisions apply. :contentReference[oaicite:5]{index=5}
- Maintain current compensation plans and job descriptions.
- Document approvals for significant compensation changes.
- Retain relevant market and comparable-company evidence.
- Reconcile compensation records with accounting and payroll data.
- Review unusual compensation arrangements against applicable FAR provisions.
- Maintain supporting records sufficient to explain claimed compensation costs.
These practices also support Compensation Disclosure by providing a documented basis for explaining compensation information within applicable finance and business workflows.
Summary
FAR 31.205-6 Compensation Reasonableness provides the framework for evaluating whether compensation for personal services is reasonable and allowable in government contracting. Contractors should consider the work performed, allowable compensation elements, established compensation practices, relevant market evidence, and applicable FAR requirements. A documented approach to Compensation Approval, benchmarking, accounting, and recordkeeping helps support defensible compensation costs and reliable contract financial reporting.