Indirect Costs
What They Are and How They’re Reimbursed
H. Orf, 24 October 2016
The indirect costs associated with the conduct of research, and the reimbursement of these charges by granting agencies, have historically been poorly understood.
Researchers often do not understand how these costs are calculated and, in some cases, actually believe the costs are made up or inflated by the institution. And granting agencies seldom acknowledge or understand how accepting one of their low- or no overhead grants actually costs the institution very real and significant dollars just to accept their grant.
In order to shed some light on the mystery of indirect cost calculation and reimbursement, we have developed the following short list of FAQ’s that we hope will promote understanding and dialogue among researchers, granting agencies, and research administrators.
What are indirect costs as they relate to research grants?
Most costs that appear in budgets of research grant applications are direct costs, i.e., they are the costs that are incurred as a direct result of doing the research project.
These include charges such as the cost of the actual supplies and equipment to carry out the experiments and the salaries of the people doing the work. They are the charges that directly relate to the research project itself. Indirect costs are also expenses necessary for the research project to be conducted but, unlike direct costs, indirect costs are attributable to multiple research projects and cannot be assigned directly to one project.
Examples of indirect costs include the rent/lease cost of the space where the research is being done, the utility and maintenance costs of the building where the work is conducted, the costs of processing purchase orders for supplies and delivering the supplies to the lab, the cost of lab cleaning and trash/waste disposal, the costs of government-required safety and compliance programs, etc.
These costs are paid directly by the institution and included in the research grant budget as a separate line item (indirect costs), expressed as a percentage of the direct costs budgeted in the grant application. They are included as a percentage of direct costs because this is how the federal government requires that they be listed in order to be reimbursed.
Most foundations awards pay for the direct costs of research but provide little or no funding to cover the indirect costs associated with the study.
Sadly, foundations do not realize (or do not believe) that their failure to cover the indirect costs requires the hospital to actually pay in real operating dollars those indirect costs in order for the hospital to accept the grant. Why this is true is explained in question 3 below.
Are indirect costs real? How do we know they are not made up or padded by the
hospital?
They are very real and are set by the government, not the hospital. Every year, the hospital tabulates all indirect costs (for research space, utilities, maintenance, purchasing, grant administration, etc.) and submits them to the Department of Cost Allocation at DHHS. There, rate negotiators conduct a thorough audit of the submitted costs and then conduct a site visit to review their findings and get any questions they have about methodology or allowable costs answered. The negotiators then make a final determination of which indirect costs are allowable, which then determines the official indirect rate for the hospital for that year
I have two R01 grants that pay full overhead and my indirect cost density is significantly higher than the hospital average. How can my accepting a foundation grant at low or zero overhead possibly cost the hospital anything?
It won’t immediately, but it will have a very negative impact next year! Here’s why.
The overhead rate is a quotient with all direct research dollars in the denominator:
Total of all indirect expenses incurred ($) / Total of all direct research fund spending ($)
Let’s use a simple example* to illustrate why the foundation grant will have a negative impact. Say that in one year a hospital incurs $150M of indirect expenses and spends $200M of research grant funds. The overhead rate would then be $150M/$200M = 75%. If all of the $200M of research funds spent were from NIH or other grants paying full
overhead, the hospital would receive 75% overhead from all grant spending and would recover all of the $150M of indirect costs it spent. There would be no overhead loss.
Now imagine that in addition to the $200M of fully-overheaded grant spending, there was another $200M of foundation grant spending in that same year that paid zero overhead. The overhead rate, determined by the federal rate negotiators, would now be $150M/$400M = 37.5%. The NIH and other fully-overheaded grants would continue to pay their full overhead rate share, but that would only bring in $75M (37.5% x $200M) of indirect revenue to the hospital, leaving the hospital overhead recovery $75M short in that year.
Since our overhead rate is set annually based on the previous year numbers, every grant we accept at less than full overhead lowers our rate the following year and results in real dollars lost that the hospital is required to cover.
Here are the actual numbers for MGH. In FY15, direct dollar (MTDC – modified total direct cost) research spending on government grants was $176.7M and this spending brought in with it an additional $104.9M of indirect dollars (59% average indirect recovery rate). In that same year, direct dollar research spending on all other grants (industry, foundation, sundry) was $233.5M, yet it brought in only $66.4M in indirect
dollars (28% average indirect recovery rate).
*The overhead rate is actually determined annually based on a two-component formula but this example
will use just the onsite component and exclude training grants and trials. If you wish to see a complete
example of an MGH overhead calculation, watch the narrated video at:
https://hub.partners.org/register/?return_url=%2fresearch%2findirect-costs%2f
How many fewer dollars in indirect costs does MGH recover than it spends?
In FY15 (the most recent year that we have complete data), indirect costs at MGH totaled $275.3M and the hospital recovered $184.5M, leaving an investment (loss) of $90.8M.
Isn’t this indirect cost investment (loss) more than offset by license/royalty income?
No, but it helps. In FY15, MGH received $15.8M in net royalty/licensing revenue. If credited against the FY15 $90.8M investment (loss), then the net investment (loss) in FY15 would be $75.0M. Of course, royalty/licensing income varies from year to year and cannot be relied upon as a stable source of income.
It seems like this new policy will disproportionately impact/hurt junior investigators, since they are likely to have less discretionary (sundry) funding to make up the overhead shortfall.
Research leadership is aware that foundation awards are important to junior faculty and it set the policy specifics to minimize the impact on them.
Research fellowships, an important funding vehicle for young PI’s and their postdocs and graduate students, are excluded from the 15% minimum requirement. Also, in FY15, a total of 55 junior PI’s were impacted, with a median cost of only $2,200 per PI.
Hopefully, this amount will be manageable for most junior faculty but, if not, then the policy affords that junior faculty member an opportunity to discuss the foundation grant opportunity with their departmental mentor and/or chief.
These discussions will increase the visibility of the faculty member’s research program within the department and provide a basis for the department to consider funding the IDC shortfall.
Does Mass General Brigham expect that foundations paying less than 15% overhead will simply increase their allowable IDC rate because we are now requiring the PI to come up with the difference?
We do not expect that most foundations paying less than 15% IDC will simply increase to our minimum. But the new policy should create opportunity for dialogue with these foundations to help them realize that these indirect costs are very real and extremely costly to the hospital in terms of real dollars it must spent to accept foundation grants.
Even at 15% (the minimum the hospital assesses on all gifts it receives), the hospital, at the current federally-negotiated IDC rate of 71%, is contributing 56% IDC toward every 15% IDC project they accept. Thus, when the hospital accepts a $1M foundation grant paying 15% IDC, the hospital is spending an additional $560,000 from its general operating funds in order to allow that work to be done here.
The irony is that, if the hospital accepted only fully-overheaded grants (as is the policy at MIT and Scripps, for example), then the overhead rate itself would be higher but it would be fully reimbursed by federal grants (which pay their fair, negotiated share) and the hospital would not have to cover any unreimbursed indirect costs from its operating funds.
We accept foundation grants to further our research mission but ask that researchers and foundations alike recognize the true fiscal burden low/zero overhead grants impose on the hospital and ask that they contribute at least 15% of the IDC in order for us to accept the grant.
Please note that Research Management will happily speak with any research or foundation representative about the nature and importance of indirect costs in sustaining the research enterprise.
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