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Contract Audit
A contract audit is an examination and assessment of performance or information, designed to verify that one or more parties to a contract have complied with requirements or standards set forth in the contract. Unlike audits that are required by law, these audits are conducted pursuant to the parties’ agreement, as set forth in the terms of the contract.
Contract audits can be used as an effective tool to control costs and promote quality. For example, when costs are an element of the amount paid under a contract, the parties may agree to audits of relevant financial records. To help ensure quality, an audit provision could call for an audit of the quality of parts or services. Audits can also be used to determine whether parties are meeting all of their contractual obligations. When negotiating contract audits, the parties generally must consider and address the following:
- Which items addressed by or included in the contract will be subject to audit – that is, what will be measured?
- What standard will apply?
- How will the evaluation be conducted (method)?
- What remedies will apply in the case of deviation from the standard?
Vendors and parties in construction contracts often agree to contract audits. Contract audits are also extremely common for those contracting with governmental entities. Over time, the federal government has come to rely more and more on the services of contractors. Recognizing its responsibility to protect taxpayer funds, the government relies upon contract audits to ensure compliance with contractual requirements and to protect against waste, mistake, and fraud. The government considers these provisions to be an important part of the procurement process.
Frequently Asked Questions
What does an audit clause usually include?
A good audit clause spells out five things: what records or work can be examined, the standard being measured against, how much notice you’ll give, who pays for the audit, and what happens if the review finds a shortfall. Many also limit how often audits can happen and how far back they reach, plus confidentiality terms for anything the auditor sees.
How far back can a company audit a vendor’s records?
That depends entirely on the record retention and audit period the parties negotiated, commonly one to three years after the relevant invoice or contract year. The clause should say how long the vendor keeps books and how long your right to inspect survives termination. If the contract doesn’t say, you’ll likely end up arguing about it, so pin it down when drafting.
Who pays for a contract audit?
Typically the party requesting the audit covers its own costs, with a common flip: if the auditor finds an underpayment or overbilling above a set threshold, often three to five percent, the audited party reimburses the expense. That structure discourages fishing expeditions while keeping a real remedy in place. Spell out the threshold and the correction period in the clause itself.
