Imagine taking on a government contract without the risk of losing money on unexpected costs. Cost-reimbursement contracts make this possible by covering your expenses—plus a profit—while you focus on delivering results.

For small businesses, these contracts offer a safety net for unpredictable projects. But to take advantage of them, you need to understand the rules, the risks, and the right strategies to maximize profitability.

Why Small Businesses Hesitate to Pursue Government Contracts

Many small business owners assume that federal contracts are too complicated, too risky, or too time-consuming. While some contract types require upfront financial risk, cost-reimbursement contracts remove that uncertainty by ensuring businesses are reimbursed for allowable costs.

The trade-off is strict government oversight, compliance requirements, and detailed cost tracking. But for businesses that can navigate these challenges, cost-reimbursement contracts provide a consistent revenue stream and a path to long-term government work.

What Are Cost-Reimbursement Contracts?

Unlike firm-fixed-price contracts, where contractors agree to a set price regardless of costs, cost-reimbursement contracts pay businesses for actual expenses incurred while completing a project.

These contracts typically include:

Direct costs, such as labor, materials, and equipment directly tied to the project
Indirect costs, such as administrative expenses, rent, or utilities related to the contract
Fixed or incentive-based fees, providing a set profit margin or additional compensation for meeting performance targets

A small engineering firm secures a cost-reimbursement contract to develop a radar system for the military. As the project scope shifts, requiring additional materials and engineering hours, the firm bills the government for all approved expenses while earning a fixed profit fee.

Why Small Businesses Should Consider Cost-Reimbursement Contracts

Lower financial risk since the government covers actual costs
Ideal for research, development, and technical contracts where expenses may change
Stronger relationships with federal agencies, often leading to repeat contracts

A cybersecurity company wins a cost-reimbursement contract to develop an AI-driven threat detection system for a federal agency. Because the project is experimental, the scope shifts multiple times. By tracking expenses carefully and submitting detailed reports, the company ensures continued reimbursement and contract extensions.

How to Succeed with Cost-Reimbursement Contracts

Maintain accurate records to document every cost in real time, preventing compliance issues and reimbursement delays.
Understand allowable costs by reviewing the contract and Federal Acquisition Regulations (FAR) to ensure all expenses qualify.
Set up a compliance system using accounting software or hiring a contract manager to handle financial reporting.
Price smartly by calculating indirect costs and negotiating a reasonable fixed fee.
Communicate regularly with the contracting officer to provide updates, submit reports, and prevent billing disputes.

A biotech startup receives a cost-reimbursement contract to develop a new vaccine delivery system. By working closely with the contracting officer, they adjust project milestones while ensuring all expenses are properly documented for reimbursement.

What to Watch Out For

While cost-reimbursement contracts minimize financial risk, they do come with challenges.

Government agencies may conduct audits to ensure all claimed expenses are justified
Cash flow delays can occur since businesses must cover costs upfront before reimbursement
Fee limits may restrict profit margins, unlike fixed-price contracts that offer higher earning potential

Five Steps to Win and Manage a Cost-Reimbursement Contract

Find the right opportunity by using USFCR’s Advanced Procurement Portal to identify contracts suited to your business
Build a cost-tracking system with accounting software or a bookkeeper experienced in government contracts
Study the FAR to understand reimbursement rules and prevent unexpected cost rejections
Negotiate smartly to ensure indirect cost rates and fixed fees cover expenses while keeping your bid competitive
Stay in communication with the contracting officer to prevent compliance issues and avoid payment delays.