Cost Accounting· · 7 min read
Allocating Employer Payroll Taxes and Fringe Costs to Government Contracts
Employer payroll taxes, benefits and paid leave are fringe costs. Here is what follows the labor dollar to each contract, what goes to the fringe pool, why consistency is the rule, and a worked example on QuickBooks Online.
Every payroll run costs more than the gross pay on the paychecks. The employer's share of Social Security and Medicare, unemployment taxes, health insurance, retirement contributions and paid leave all come on top. For a government contractor, each of those dollars has to land somewhere: on a contract, or in a pool that reaches contracts through a rate. This guide is for owners and bookkeepers deciding where employer payroll taxes and benefits go. It is part of our series from payroll to job cost.
Brian Wendroff, CPA, explained the fringe pool in our DCAA Ready webinar on building rates:
"[The] fringe cost pool includes expenses relating directly to... an employee, such as benefits. It could be payroll taxes, paid time off, health insurance, retirement. Those are fringe expenses, but then eventually they get grouped up into a pool called a fringe pool."
Brian Wendroff, CPA, Co-founder of WiseCost and Managing Partner at Wendroff & Associates, CPA
The short answer
The wages for hours worked on a contract follow the labor dollar: they are charged to that contract through labor distribution. Employer payroll taxes, employer-paid benefits and paid leave are fringe costs. The usual treatment is a fringe pool: collect them in fringe accounts and allocate them to contracts with a fringe rate, the fringe pool divided by a labor base.
Employer taxes and benefits go to the fringe pool, and reach each contract through the fringe rate.
What counts as a fringe cost
FAR 31.205-6(m)(1) defines fringe benefits as "allowances and services provided by the contractor to its employees as compensation in addition to regular wages and salaries." The same paragraph lists vacations, sick leave, holidays, military leave, employee insurance and supplemental unemployment benefit plans. Employer payroll taxes are allowable as taxes under FAR 31.205-41, and in a GovCon chart of accounts they sit with the fringe accounts.
| Cost | What it is | Where it usually goes |
|---|---|---|
| Wages for hours worked on a contract | Gross pay for the hours recorded against that contract | Direct labor on that contract |
| Wages for indirect work | Gross pay for hours on overhead, G&A, bid and proposal | Indirect labor in the overhead or G&A pool |
| Paid leave | Pay for vacation, holidays and sick leave | Fringe |
| Employer Social Security and Medicare | 6.2% Social Security on wages up to $184,500 in 2026, and 1.45% Medicare with no wage limit | Fringe |
| Federal unemployment tax (FUTA) | 6.0% on the first $7,000 of each employee's wages a year, 0.6% after the full state credit | Fringe |
| State unemployment tax (SUTA) | Set by each state, with its own rate and wage base | Fringe |
| Employer-paid benefits | Health, dental and life insurance, retirement contributions | Fringe |
Fringe benefits are allowable when they are reasonable and required by law, an employer-employee agreement, or an established policy of the contractor (FAR 31.205-6(m)(1)). That is one more reason to have your PTO, holiday and benefits policies in writing.
The fringe pool sits next to direct labor, overhead, G&A and unallowable costs. Tap the Fringe card to see the accounts that usually go in it, employer payroll taxes and PTO among them:
Keep paid leave off the contract
Paid leave is the fringe cost most often charged by mistake. When an employee who usually works on Contract A takes a vacation day, those 8 hours belong in a leave account, not on Contract A. Sarah Sun, CPA, puts it as a priority for small contractors:
"It's very important to make sure the labors are accounted for correctly. For example, what is direct labor charged to that contract, and really importantly, separate out paid compensation like PTO, holiday, sick leave. So these need to be accounted for separately."
Sarah Sun, CPA, Sr Manager at Wendroff & Associates, CPA
In practice, that means employees record leave on their timesheet under a leave category, the same way they record contract hours, and labor distribution posts the cost of those hours to the leave account in your fringe pool.
The fringe pool and the fringe rate
All employer taxes, benefits and paid leave go to fringe accounts. At the end of a period, the fringe rate is the fringe pool divided by its base, often direct labor dollars. Brian's simple example from the same webinar: $10,000 of fringe expenses over $100,000 of direct labor is a 10% fringe rate. Each contract then carries its direct labor plus 10% of it as fringe.
This is the structure behind the rate examples on this blog, such as how cost pools become rates. It has a practical advantage: some employer taxes are not even through the year. FUTA stops after the first $7,000 of an employee's wages and Social Security after the $184,500 wage base, so a period-by-period tax cost per hour is higher early in the year and lower later. A fringe rate spreads those costs across the year's labor.
Consistency is the rule
FAR 31.202(a) states the principle: "No final cost objective shall have allocated to it as a direct cost any cost, if other costs incurred for the same purpose in like circumstances have been included in any indirect cost pool." FAR 31.203(b) says the same from the indirect side.
For employer payroll taxes and benefits, that means:
- Do not charge them directly to one contract and through the fringe rate on another. A contract would carry the cost twice, or not at all.
- Do not switch methods mid-year because one contract has room in its budget.
- Write the method into your accounting policies, so the bookkeeper, the CPA and an auditor all read the same rule.
The fringe pool is the simplest method to keep consistent. Charging these costs directly to contracts instead is an accounting decision to make with your CPA, before the first period, and it then applies to every employee and every contract.
How WiseCost handles employer costs
WiseCost is a QuickBooks Online add-on for DCAA timekeeping and labor distribution. QuickBooks Online stays your accounting system.
- Fringe pool. Leave employer taxes and benefits where your payroll sync posts them, in your fringe accounts. You assign account roles once, and the Indirect Rate report calculates fringe, overhead and G&A rates from your QuickBooks Online data.
- If your CPA decides otherwise. If your CPA decides to charge employer taxes and benefits by contract instead of through the fringe pool, WiseCost can post them as separate lines on each contract. See Employer taxes, benefits and adjustments.
- Leave on the timesheet. Employees record PTO and holidays against the leave accounts you enable, so the cost of those hours posts to the leave account, not to a contract.
FAQ
The Bottom Line
Wages for hours worked follow the timesheet to each contract. Employer payroll taxes, benefits and paid leave are fringe: they go to the fringe pool and reach contracts through the fringe rate. Whatever method you use, document it and apply it to every contract and every period. That consistency is what makes your fringe rate, and every rate built on top of it, hold up in a proposal or an incurred cost audit.
Want your fringe rate from your own books? Start a 14-day free trial connected to your QuickBooks Online, or read how to calculate indirect rates in QuickBooks Online.