Guest Blogger: Jim Schweiter, Partner, McKenna Long & Aldridge LLP

Last August, Congress passed the Budget Control Act of 2011 (“BCA”)(Pub. L. 112-25).  This law authorized raising the debt ceiling, established caps on discretionary spending, and put a process in place to reduce the federal deficit.  The provisions to raise the debt ceiling have been triggered, so that the federal borrowing limit now stands at $16.4 trillion.  In brief, the BCA:

  • Imposed caps on discretionary spending beginning in October 2011 that will generate $917 billion in savings over the next ten years.  The Department of Defense (“DOD”) portion of these savings is approximately $487 billion.
  • Created a bipartisan, bicameral committee to identify up to $1.5 trillion of additional deficit reduction (the Joint Select Committee on Deficit Reduction).  This “Super Committee” failed to reach agreement.
  • Required Congress to vote on a Balanced Budget Amendment to the Constitution.  The amendment failed in both houses.
  • Imposed a budgetary process known as sequestration to implement a total of $1.2 trillion in automatic spending cuts through fiscal year 2021 which will begin January 2, 2013, unless Congress passes a bill which the president signs to avert such a result.

Senior Executive Branch officials, members of Congress and industry leaders all predict catastrophe if sequestration is implemented.  For companies doing business with the federal Government, it is therefore important to understand what sequestration is and how it would operate.  Congress recently passed and President Obama signed the Sequestration Transparency Act of 2012.[1]  Although this law requires the Administration to report to Congress within 30 days about how sequestration would be implemented by federal agencies, few expect this report to provide much useful detail.

Budget Sequestration

Sequestration is a process of automatic, largely across-the-board spending reductions under which budgetary resources are permanently canceled to enforce certain budget policy goals.[2]  This process was first established in the Balanced Budget and Emergency Deficit Control Act of 1985 (BBEDCA).[3]  Sequestration involves the permanent cancellation of budgetary resources by a uniform percentage, which is applied to all non-exempt programs, projects and activities within a budget account[4] in order to achieve required savings.

Under the BCA, there are two situations in which sequestration could occur—

  • If Congress appropriates more money in any year than is allowed under the annual discretionary spending limits established in the BCA, the automatic process of sequestration would result in the cancellation of the excess amount.  The President would issue an order canceling any excess budget authority.
  • Because Congress failed to enact legislation developed by the Joint Select Committee on Deficit Reduction to reduce the deficit by at least $1.2 trillion by January 15, 2012, the BCA provides for a series of automatic spending reductions in both discretionary and direct (mandatory) spending[5] to make up for the shortfall in savings.

Sequestration is thus a budget enforcement mechanism that is intended to prevent enactment of legislation that would increase the federal deficit.  Under the BCA, the automatic sequestration procedures will affect both mandatory and discretionary spending programs, and the reductions will affect defense and non-defense spending categories equally in each of fiscal years 2013 through 2021.

Under the BCA, the Department of Defense (DoD) would have to absorb half the cuts required by sequestration, a total of $492 billion.  Non-defense accounts would absorb an equal share. Because the cut would be spread over nine years (2013-2021), both the defense and non-defense portions of the federal budget would be subject to annual reductions of about $54.7 billion.[6]

Implementation of Sequestration 

The process by which sequestration would be implemented is different in 2013 than in 2014 and the out years.  In 2013, there would be across-the-board, proportional reductions in programs, projects and activities funded by annual appropriations and in non-exempt mandatory programs.[7]  In 2014 through 2021, the required sequestration cuts would be achieved by reducing the statutory spending limit specified in the law for each year.  How this “top line” cut would be implemented at the agency level would be governed by the appropriations process.   The Office of Management and Budget would direct agencies to implement cuts to available appropriations based on apportionment guidance issued pursuant to OMB Circular A-11.[8]

Sequestration would not begin until January 2, 2013, so the funding reductions would be spread over only three quarters of that fiscal year.  Appropriated funds that have been obligated to contracts are not subject to the sequestration process.  Appropriated fund balances that remain unobligated as of January 2, 2013 may be subject to sequestration.  If, as now appears likely, the federal government will be funded by continuing appropriations resolution (a “CR”)[9] during the first half of fiscal year 2013,[10] the ability of agencies to enter into new contracts, issue new task orders on existing multiple award contracts or exercise contract options that would obligate funds before sequestration begins will be constrained.  Guidance from OMB also could limit agency spending in advance of sequestration.  Because the baseline for fiscal year 2013 funding has not been established, and because there are so many variables that may affect how sequestration would be implemented, contractors of all stripes must closely examine their contracts and funding status in making judgments about how to prepare for sequestration.

Conclusion

“The president [and] the secretary of Defense said it would be catastrophic to our national defense, but we still haven’t found a way through it,”  Arizona Senator John McCain said recently about sequestration. “Everybody says it’s not going to happen, but so far, it’s going to happen.”[11]  If the worst occurs, it is imperative to understand the magnitude of the funding cuts that would occur if sequestration as provided in the Budget Control Act is implemented and for contractors to plan accordingly.

 


[1] H.R. 5872 was signed into law by President Obama on August 7, 2012.

[2] OMB Circular A-11, sec. 20, at 8 (Aug. 2011); see also 2 USC 900(c)(2).

[3] Title II of Pub. L. 99-177, sometimes referred to as the Gramm, Rudman, Hollings Act.

[4] See 2 USC 906(k)(2); Under the BCA, many mandatory spending programs would be exempt from sequestration cuts, including Social Security, other federal retirement programs, Medicaid, and other programs benefiting low-income people.  Medicare cuts would be limited to no more than two percent.  See sections 255 and 256 of the BBEDCA (codified at 2 USC 905, 906).

[5] “Discretionary spending” refers to outlays from budget authority that is provided and controlled

by appropriation acts. “Mandatory spending” refers to outlays from budget authority that is provided

by laws other than appropriation acts.  Congressional Budget Office, Estimated Impact of Automatic Budget Enforcement Procedures Specified in the Budget Control Act, n. 2, at 1 (Sept. 12, 2011).

[6] For the mechanics of the calculations, see BBEDCA sec. 251A(3), as added by BCA, Pub. L. 112-25, sec. 302(a), (Aug. 2, 2011).

[7] The Budget Control Act provides that certain programs are exempt from sequestration funding cuts.  These include Social Security, Medicaid, certain Medicare payments, federal retired pay, and VA programs.  In addition, the White House recently announced that the President has decided to exempt the military personnel accounts from sequestration, although this will mean a proportional increase in the size of the cuts to other non-exempt defense accounts in order to achieve the required level of deficit reduction.

[8] See OMB Circular A-11, Part 4, sec. 120.1 et. seq. (Nov. 2011).  As of this writing, OMB has not yet issued apportionment guidance to federal agencies regarding sequestration.

[9] A continuing resolution is “an appropriation act that provides budget authority for federal agencies to continue in operation when Congress and the President have not completed action on regular appropriation acts by the beginning of the fiscal year.”  Government Accountability Office (GAO), A Glossary of Terms Used in the Federal Budget Process, GAO-05-734SP, September 2005, pp. 35-36.

[10]  See, Rosalind S. Helderman, John Boehner, Harry Reid Reach Early Deal to Avert Shutdown,  Wash. Post, July 31, 2012, athttp://www.washingtonpost.com/boehner-reid-reach-early-deal-to-avert-shutdown/2012/07/31/gJQAKVLENX_story.html.

[11] Nancy Cook, High Anxiety, National Journal, June 30, 2012.