For many SBIR and STTR companies, Phase II is where the financial requirements become more serious.

Phase I may have been manageable with basic bookkeeping, a simple budget, and a lean team. But Phase II often brings larger funding, more labor, consultants, subcontractors, indirect rates, billing requirements, and greater scrutiny over how the company tracks and supports costs.

 

For companies pursuing DoD Phase II or other cost-reimbursable federal opportunities, a pre-award accounting system review may become part of the process.

 

This review is not just a paperwork exercise. It is a test of whether your accounting system is designed to support the type of federal work you are pursuing.

 

At Peter Witts CPA PC, we help SBIR/STTR companies prepare for pre-award accounting system reviews by strengthening cost tracking, timekeeping, indirect rates, policies, documentation, and award-ready financial processes before Phase II creates pressure.

 

Why Pre-Award Accounting System Reviews Matter

 

A pre-award accounting system review helps the government determine whether a company’s accounting system is adequate for the contract or award being considered.

 

This matters because cost-reimbursable work is different from fixed-price work. Under a cost-reimbursable structure, the government reimburses allowable incurred costs. That means the company must be able to track, support, and report those costs properly.

 

A review may focus on whether the company can:

• Track direct costs by contract or project

• Separate direct, indirect, and unallowable costs

• Support labor with timekeeping

• Accumulate costs under general ledger control

• Calculate and monitor indirect rates

• Support billing or reimbursement requests

• Maintain documentation for review

• Follow written policies and procedures

• Demonstrate internal controls

DCAA’s pre-award accounting system checklist is used to document how a contractor’s system is designed to meet SF 1408 criteria. It is specifically intended for contractors new to government contracting, contractors with cost-reimbursement contracts, or contractors receiving progress payments.

 

For SBIR/STTR companies, this review can become especially important before Phase II.

 

Why Phase II Raises the Bar

 

Phase II usually means a larger project, longer performance period, more labor, more outside support, and more complex financial management.

 

A company that was financially organized enough for Phase I may still need stronger systems before Phase II.

 

Phase II may require:

• More detailed proposal budgets

• Formal project cost tracking

• Daily timekeeping

• Labor distribution

• Indirect rate support

• Consultant and subcontractor documentation

• Budget-to-actual reporting

• Billing, voucher, or drawdown support

• Written accounting policies

• Audit-ready documentation

SBIR.gov notes that for contractors new to cost-reimbursement contracts, such as DoD Phase II SBIR/STTR awardees, passing the pre-award accounting system survey can be one of the largest hurdles.

 

That hurdle is easier to manage when the company prepares before the review is scheduled.

 

Pre-Award Review Is About System Design

 

A common misconception is that the company must already have years of government contracting history.

That is not always the point.

 

A pre-award accounting system review often focuses on whether the system is designed to meet the requirements of the prospective contract. The company may be new to federal contracting, but it still needs the right structure, controls, policies, and reporting capabilities.

 

The review is asking whether the company can manage federal cost accounting expectations if the award is issued.

 

This is why preparation should focus on system design and readiness, not just cleaning up the books.

 

90 Days Before Review: Assess the Current Accounting System

 

The best time to prepare is before the agency or contracting officer asks for documentation.

 

About 90 days before an expected Phase II review, companies should assess whether the accounting system is ready for federal cost tracking.

 

Start by reviewing whether the system can:

• Track costs by contract, grant, project, or award

• Separate direct costs from indirect costs

• Identify unallowable costs

• Track labor by employee and project

• Connect timekeeping to payroll

• Support indirect rate calculations

• Produce project cost reports

• Reconcile to the general ledger

• Support invoices, vouchers, or reimbursement requests

• Store documentation in an organized way

If the company cannot answer yes to these questions, the next 90 days should be used to close the gaps.

 

90 Days Before Review: Review the Chart of Accounts

 

The chart of accounts is one of the first places to look.

 

A generic bookkeeping chart may not support federal cost accounting. The company needs account categories that separate costs clearly enough for proposals, project reporting, indirect rates, billing, and review.

 

The chart of accounts should support:

• Direct labor

• Indirect labor

• Fringe benefits

• Overhead costs

• G&A costs

• Materials and supplies

• Consultants

• Subcontractors

• Travel

• Equipment

• Software or cloud services

• Unallowable costs

• Fee or profit, if applicable

• Contract or grant revenue

The chart should not be overly complicated, but it should be structured enough to support the award the company is pursuing.

 

90 Days Before Review: Identify Direct, Indirect, and Unallowable Costs

 

Cost classification is central to accounting system readiness.

 

The company should have a clear process for identifying:

• Direct costs tied to the specific project

• Indirect costs that support the business more broadly

• Unallowable costs that should not be charged to federal awards

This classification affects the proposal budget, indirect rates, billing, and audit readiness.

 

Before the review, companies should make sure their accounting records and policies show how costs are classified. If direct, indirect, and unallowable costs are mixed together, the system may not be ready for Phase II cost tracking.

 

90 Days Before Review: Build or Review the Indirect Rate Structure

 

Indirect rates are often a major focus before Phase II.

 

The company should understand what indirect rate structure it is using and whether the accounting system can support it.

 

That may include:

• Fringe rate

• Overhead rate

• G&A rate

• Combined indirect rate

• Cost pools

• Allocation bases

• Unallowable cost exclusions

• Historical cost data

• Projected costs

• Actual versus proposed rate monitoring

The rate should be based on the company’s own financial structure, not copied from another company or selected only to fit the proposal budget.

 

The company should be prepared to explain how the rate was calculated and how it will be tracked after award.

 

60 Days Before Review: Implement Timekeeping

 

Timekeeping should not begin after the review is scheduled. It should be implemented early enough for employees to understand the process and for the company to show that labor can be tracked properly.

 

About 60 days before the review, companies should confirm that timekeeping includes:

• Daily time entry

• Project or contract codes

• Direct and indirect labor categories

• Employee certification

• Supervisor approval

• Documented corrections

• Labor distribution reporting

• Reconciliation to payroll

• Founder time tracking

• Training for employees and managers

For SBIR/STTR companies, this is especially important because founders, scientists, engineers, and technical staff may work across funded research, commercialization, general management, and other activities.

 

Not all labor belongs on the award. Timekeeping helps prove the difference.

 

60 Days Before Review: Connect Timekeeping to Payroll

 

Timekeeping alone is not enough. Labor records should connect to payroll and the general ledger.

 

The company should be able to show how employee time flows into:

• Payroll registers

• Labor distribution reports

• Project cost reports

• Direct labor accounts

• Indirect labor accounts

• General ledger entries

• Indirect rate calculations

• Billing or reimbursement support

If timesheets live in one system and payroll lives somewhere else, there should be a clear reconciliation process.

 

The review should not depend on manually rebuilding labor records from scratch.

 

60 Days Before Review: Draft Written Policies and Procedures

 

Written policies help show that the accounting system is not just configured correctly, but also managed consistently.

 

Policies do not need to be overly long, especially for an early-stage company. But they should explain how the company handles federal award financial activity.

 

Helpful policies may include:

• Accounting procedures

• Timekeeping policy

• Labor distribution procedure

• Direct and indirect cost classification policy

• Unallowable cost policy

• Expense reimbursement policy

• Purchasing and approval policy

• Indirect rate calculation procedure

• Billing or voucher preparation procedure

• Month-end close checklist

• Document retention policy

The policies should match how the company actually operates. A policy that looks good but is not followed can create more questions than confidence.

 

60 Days Before Review: Organize Documentation

 

A pre-award review can move quickly once the request arrives.

 

About 60 days before review, companies should begin organizing the documents that may be needed to explain the system.

 

Helpful documents may include:

• Chart of accounts

• Accounting system overview

• Timekeeping policy

• Sample timesheets

• Labor distribution reports

• Payroll records

• General ledger detail

• Trial balance

• Indirect rate schedules

• Cost pool schedules

• Allocation base calculations

• Unallowable cost schedule

• Expense approval workflow

• Sample project cost report

• Billing or voucher process

• Consultant and subcontractor agreements

• Prior budgets or cost proposals

• Agency correspondence

The goal is to make the financial system easy to explain.

 

30 Days Before Review: Test the System

 

About 30 days before the expected review, the company should test whether the accounting system can produce the reports and support the review may require.

 

This means walking through the financial process from start to finish.

 

Test whether the company can:

• Record time by project

• Approve time properly

• Reconcile time to payroll

• Allocate labor to direct and indirect categories

• Code vendor costs to the correct project

• Separate unallowable costs

• Generate a project cost report

• Calculate indirect rates

• Reconcile project costs to the general ledger

• Prepare support for a sample invoice or voucher

• Produce budget-to-actual reports

• Retrieve supporting documentation quickly

Testing the system helps identify gaps while there is still time to correct them.

 

30 Days Before Review: Review Internal Controls

 

Internal controls show that financial activity is reviewed, approved, and reconciled.

 

For small companies, internal controls may be simple, but they still matter.

 

Review whether the company has controls for:

• Timesheet approval

• Expense approval

• Vendor payment approval

• Payroll review

• Labor distribution review

• Bank and credit card reconciliations

• Journal entry review

• Indirect rate review

• Billing or voucher approval

• Month-end close

• Documentation retention

Small teams may not have perfect separation of duties, but they should still have review and approval procedures.

 

30 Days Before Review: Prepare Leadership and Staff

 

A pre-award accounting system review is not only an accounting exercise. The people involved should understand the process.

 

Founders, finance staff, project managers, and employees who charge time should know:

• How the accounting system is structured

• Why timekeeping matters

• Which project codes to use

• How direct and indirect labor are separated

• Who approves time and expenses

• Where supporting documents are stored

• How billing or reimbursement support will be prepared

• Who responds to reviewer questions

The company should avoid having only one person understand the system.

 

What Reviewers May Ask About

 

During a pre-award accounting system review, the company may need to explain how its system handles cost tracking, labor, indirect rates, billing support, and documentation.

 

Reviewers may ask about:

• Accounting software and system setup

• Chart of accounts

• Project cost tracking

• Timekeeping process

• Labor distribution

• Payroll reconciliation

• Direct and indirect cost classification

• Unallowable costs

• Indirect rate calculations

• General ledger control

• Policies and procedures

• Internal controls

• Billing or voucher preparation

• Record retention

The company should be ready to explain the process clearly and show supporting documents.

 

Common Pre-Award Readiness Gaps

 

SBIR/STTR companies often run into similar issues before Phase II.

 

Common gaps include:

• No project-level cost tracking

• Generic chart of accounts

• No daily timekeeping

• Founder time not separated by activity

• Payroll not connected to labor distribution

• Direct and indirect costs mixed together

• No unallowable cost tracking

• Unsupported indirect rates

• No written accounting policies

• Weak approval processes

• Project reports that do not reconcile to the general ledger

• Billing support not defined

• Documentation scattered across emails and spreadsheets

• Employees not trained on labor charging

These gaps are easier to correct before the review than during award negotiation.

 

Why Waiting Until the Review Request Is Risky

 

Some companies wait until the agency asks for a review before preparing. That can create pressure.

By that point, the company may need to implement timekeeping, redesign the chart of accounts, build indirect rate schedules, draft policies, organize documentation, and train staff quickly.

 

Rushing can lead to errors or incomplete processes.

 

A 90-day preparation window gives the company more time to build a system that is not only ready for review, but also useful for managing the award after funding.

 

Pre-Award Review Readiness Checklist

 

Before the review, confirm that your company has:

• Project-level cost tracking

• Chart of accounts designed for federal work

• Direct, indirect, and unallowable cost separation

• Daily timekeeping

• Labor distribution process

• Payroll reconciliation

• Indirect rate schedules

• Cost pool and allocation base support

• Written accounting policies

• Expense and purchasing approvals

• Internal control procedures

• General ledger control

• Sample project cost reports

• Billing or voucher support process

• Organized documentation

• Staff training

• Management review process

This checklist should be tailored to the award type, agency, and company structure.

 

Questions to Ask 90, 60, and 30 Days Before Review

 

At 90 days, ask:

• Is our accounting system designed for Phase II requirements?

• Can we track costs by project or contract?

• Does our chart of accounts support direct, indirect, and unallowable costs?

• Do we understand our indirect rate structure?

• What gaps need to be fixed first?

At 60 days, ask:

• Is timekeeping implemented?

• Does timekeeping connect to payroll?

• Are written policies drafted?

• Are indirect rate schedules documented?

• Are support files organized?

At 30 days, ask:

• Can we produce project cost reports?

• Can we reconcile labor to payroll?

• Can we support a sample billing or reimbursement request?

• Are employees trained?

• Can leadership explain the system clearly?

These questions help turn preparation into a practical action plan.

 

Final Thoughts: Pre-Award Readiness Should Start Before the Request Arrives

 

A pre-award accounting system review before Phase II can feel intimidating, especially for first-time SBIR/STTR companies. But the review is easier to manage when the company prepares early.

 

The goal is to show that the accounting system is designed to support the federal work being pursued. That means project cost tracking, timekeeping, labor distribution, indirect rates, unallowable cost tracking, policies, documentation, and internal controls should be in place before the review creates urgency.

 

At Peter Witts CPA PC, we help SBIR/STTR companies prepare for pre-award accounting system reviews with practical, action-oriented support designed to strengthen both review readiness and post-award financial management.

 

Need Help Preparing for a Pre-Award Accounting System Review?

 

If your company is pursuing Phase II funding, cost-reimbursable federal work, or an award that may require accounting system review, Peter Witts CPA PC can help assess your accounting system, timekeeping, indirect rates, cost classifications, policies, documentation, and internal controls before the review.

 

Backed by 35+ years of government contract accounting experience and first-hand DCAA knowledge, our team helps innovators prepare for federal review and build systems that support award performance.

 

Schedule a strategic consultation with Peter Witts CPA PC to prepare for pre-award review.