32.406 Letters of credit
Source: FAR 32.406 on acquisition.gov
Letters of credit are the preferred method for advance payments to contractors with ongoing, high-value relationships, and strict Treasury rules govern their use to ensure timely and appropriate disbursement of government funds.
Overview
FAR 32.406 outlines the requirements for using letters of credit as a method for providing advance payments to contractors. The regulation is based on Treasury Department rules and is designed to ensure proper management and oversight of government funds advanced to contractors. It specifies when letters of credit must be used, how multiple contracts should be handled, and the procedures for minimizing the time between fund receipt and disbursement. The section also addresses what happens if contractors do not comply with timing requirements, including possible termination of the advance payment arrangement or use of a working capital method.
Key Rules
- Treasury Regulations Govern Letters of Credit
- Agencies must follow Treasury Department Circular 1075 and the Treasury Financial Manual for guidance on letters of credit for advance payments.
- Mandatory Use of Letters of Credit
- Letters of credit are required for contractors with ongoing relationships (one year or more) and annual advances of at least $120,000, unless a Treasury waiver is obtained.
- Direct Treasury Check for Other Cases
- If the above criteria are not met, advance payments must be made by direct Treasury check.
- Consolidation of Letters of Credit
- Agencies must consolidate multiple letters of credit for the same contractor when possible, following Treasury procedures.
- Drawdown Timing Techniques
- Agencies should use drawdown techniques (delay of drawdown or checks paid) to minimize the time between fund receipt and disbursement.
- Termination or Adjustment of Advance Methods
- If contractors cannot minimize elapsed time, advance arrangements may be terminated or replaced with a working capital method limiting advances to actual disbursements.
Responsibilities
- Contracting Officers: Ensure compliance with Treasury regulations, select appropriate payment method, and monitor contractor disbursement timing.
- Contractors: Withdraw funds only as needed for disbursements, comply with drawdown techniques, and minimize time between receipt and use of funds.
- Agencies: Oversee consolidation of letters of credit, obtain waivers if needed, and enforce Treasury guidance.
Practical Implications
- This section ensures government funds are advanced responsibly and only as needed for contract performance.
- Contractors must carefully manage cash flow and comply with timing requirements to avoid loss of advance payment privileges.
- Agencies must coordinate with Treasury and maintain oversight to prevent misuse or inefficient use of government funds.
(a) The Department of the Treasury (Treasury) prescribes regulations and instructions covering the use of letters of credit for advance payments under contracts. See Treasury Department Circular1075 (31 CFR Part 205), and the implementing instructions in the Treasury Financial Manual, available in offices providing financial advice and assistance.
(b) If agencies provide advance payments to contractors, use of the following methods is required unless the agency has obtained a waiver from the Treasury Department:
(1) By letter of credit if the contracting agency expects to have a continuing relationship with the contractor for a year or more, with advances totaling at least $120,000 a year.
(2) By direct Treasury check if the circumstances do not meet the criteria in paragraph (b)(1) of this section.
(c) If the agency has entered into multiple contracts (or a combination of contract(s) and assistance agreement(s)) involving eligibility of a contractor for more than one letter of credit, the agency shall follow arrangements made under Treasury procedures for-
(1) Consolidating funding to the same contractor under one letter of credit or
(2) Replacing multiple letters of credit with a single letter of credit.
(d) The letter of credit enables the contractor to withdraw Government funds in amounts needed to cover its own disbursements of cash for contract performance. Whenever feasible, the agency shall, under the direction and approval of the Department of the Treasury, use a letter of credit method that requires the contractor not to withdraw the Government funds until the contractor’s checks have been-
(1) Forwarded to the payees (delay of drawdown technique), or
(2) Presented to the contractor’s bank for payment (checks paid technique) (see 31 CFR205.3 and 205.4(d)).
(e) The Treasury regulations provide for terminating the advance financing arrangement if the contractor is unwilling or unable to minimize the elapsed time between receipt of the advance and disbursement of the funds. In such cases, if reversion to normal payment methods is not feasible, the Treasury regulation provides for use of a working capital method of advance; i.e., for limiting advances to-
(1) Only the estimated disbursements for a given initial period; and
(2) Subsequently, for only actual cash disbursements (31 CFR205.3(k) and 205.7).