Key points covered in this article:

  • The executive compensation cap in government contracting limits how much of an employee’s compensation can be billed to the federal government, with the 2025 cap set at $671,000.
  • The cap applies to total compensation, including salary, bonuses, retirement contributions, and perks, and exceeding it can impact profitability if not properly tracked.
  • Contractors should benchmark pay, separate allowable and unallowable costs, and document incentive plans to ensure compliance and avoid disputes with auditors.

If you work in government contracting, you have probably heard about the executive compensation cap. It is not just one of those rules that sits quietly in the background, but a crucial aspect of your work when you’re putting together a proposal, preparing an incurred cost submission, or dealing with an auditor. And then, suddenly, it matters a great deal.

What exactly is the cap, and why is it crucial for your government contracting operations?

The Basics: It is Not a Salary Limit

First, let’s clear up a common misconception. The government isn’t telling you how much you can pay your executives. If you want to pay your CEO $1 million a year, you can.

What the cap actually controls is how much of that compensation you can bill back to the federal government on certain types of contracts, especially cost-type contracts where expenses are reimbursed. Amounts above the cap come straight out of your company’s pocket, potentially affecting your profitability and financial health.

Where the Cap Stands Today

The executive compensation cap changes annually. Monitoring and staying updated is therefore essential. The cap is tied to the Employment Cost Index, which is a measure published by the Bureau of Labor Statistics.

  • For 2023, the cap was $619,000.
  • For 2024, the amount increased to approximately $646,000.
  • For 2025, the amount is set at $671,000.

That number represents the maximum allowable compensation for any single employee, not just executives.

What Counts as Compensation?

It’s more than just base pay. The cap covers:

  • Salary
  • Bonuses and incentive pay
  • Deferred comp
  • Employer contributions to retirement plans
  • Perks and allowances that are part of the total package

If it appears to be compensation, auditors will likely include it in their assessment.

Why It Matters

Here’s where contractors sometimes get burned:

  • If you pay an executive above the cap and don’t track it carefully, the overage can sneak into your indirect rates. That means you may accidentally bill the government for costs you can’t recover, and you’ll have to eat the difference.
  • Even if you’re under the cap, compensation still has to be reasonable. That means in line with what similar companies pay for similar roles in your industry and geography. The FAR makes this a separate requirement, and the DCAA takes it seriously.

How Smart Contractors Handle It

  1. Benchmark pay regularly. Utilize salary surveys and industry data to ensure your compensation packages are well-supported and defensible.
  2. Separate allowable vs. unallowable. Build systems that clearly distinguish any pay above the cap so that it does not flow into government billings.
  3. Plan incentive pay upfront. Document your bonus and incentive programs before the start of the year to ensure accuracy and consistency. It helps prove allowability later.
  4. Watch your contract award dates. Contracts awarded before June 2014 have different rules. Don’t assume all caps are equal.
  5. Educate leadership. Executives need to understand that a higher salary isn’t always the problem; it’s who ultimately pays for it.

The Bigger Picture

The executive compensation cap is designed to control costs. However, as a contractor, it is about focusing on risk management. A little extra planning ensures you can pay competitively to attract and retain talent, without sacrificing or compromising reimbursement dollars or facing disputes with auditors later.

Remember, the bottom line is to know the cap, respect the cap, and document everything. This is how you stay compliant, stay profitable, and stay focused on what matters: growing your business.
Have questions about the executive compensation cap? Explore our resources or reach out to Partner, Neena Shukla and Government Contracting Team Leader, for insights to help you stay compliant.