Types of Government Contracts

Fixed-Price Contracts

The contractor agrees to deliver a defined scope for a set price. If costs exceed the price, the contractor absorbs the loss. If costs come in under, the contractor keeps the savings.

• Firm Fixed-Price (FFP): The most common contract type. Price is locked — maximum risk to contractor, minimum administrative burden. Used when requirements are well-defined.
• Fixed-Price Incentive (FPI): Base price plus incentive adjustments for exceeding (or missing) cost, schedule, or performance targets. Shares cost overruns/underruns between parties.
• Fixed-Price with Economic Price Adjustment (FP-EPA): Allows price adjustments based on economic indices (labor rates, material costs). Used for long-duration contracts where market conditions may shift.
• Fixed-Price Level of Effort (FP-LOE): Pays a fixed price for a specified number of labor hours, regardless of output. Rarely used.

Cost-Reimbursement Contracts

The government reimburses the contractor's allowable costs plus a fee. The government bears most cost risk. Used when requirements are uncertain or R&D is involved.

• Cost-Plus-Fixed-Fee (CPFF): Reimbursement of costs plus a negotiated fixed fee (profit). Fee doesn't change with actual costs. Most common cost-reimbursement type.
• Cost-Plus-Incentive-Fee (CPIF): Reimbursement plus a fee that adjusts based on cost performance against a target. Rewards efficiency.
• Cost-Plus-Award-Fee (CPAF): Reimbursement plus a base fee and a subjective award fee based on the government's evaluation of contractor performance.
• Cost (no fee): Reimbursement only — typically used for nonprofit organizations or research.

Time-and-Materials / Labor-Hour Contracts

• Time-and-Materials (T&M): Fixed hourly labor rates plus reimbursement for materials at cost. Used when the scope can't be precisely defined. Requires government surveillance.
• Labor-Hour (LH): Same as T&M but without material costs — purely labor at fixed hourly rates.

Choosing the Right Contract Type

Situation	Best Contract Type	Why
Well-defined requirements	FFP	Lowest admin cost, clear scope
R&D or uncertain scope	CPFF or CPIF	Can't estimate costs reliably
Ongoing support services	T&M or LH	Flexible scope, defined rates
Long-term with cost uncertainty	FP-EPA or FPI	Adjusts for market changes

What This Means for Contractors

The contract type determines your risk exposure and profit potential. FFP contracts offer the highest profit margins if you manage costs well — but can bankrupt you if you underestimate. Cost-reimbursement contracts are safer but have lower margins and higher compliance burden (you must maintain an adequate accounting system). T&M contracts are the most common for IT services and offer predictable revenue but limited upside.