Under the Budget Control Act of 2011, P.L. 119-28 (August 2, 2011), funding for a variety of federal programs will be reduced by nearly $1 trillion over the ten years from 2012 through 2021. The Act also established the nowinfamous “Super Committee” (officially the Joint Select Committee on Deficit Reduction) which, it was hoped, would come up with legislation reducing deficits by $1.2 trillion over that period. In an attempt to foster compromise, the Act included a “Sword of Damocles” in the form of a back-up “sequestration” procedure – automatic, largely across-the-board, spending cuts to both defense and non-defense programs that would kick in if the Super Committee failed to reach an agreement that could pass both houses. Because the members of the Joint Committee were unable to reach a compromise, sequestration is presently scheduled to start in January 2013.1

Sequestration is (a) the cancellation of budgetary resources previously provided either by appropriations or the authorization of direct spending through automatic spending cuts in order to meet budgetary goals established by statute and (b) limitations imposed on appropriation and direct spending in future years. Under the sequestration, in FY 2013, $54.7 billion is to be cut from defense spending and an equal amount is to be cut from non-defense spending. It is estimated that such cuts will decrease defense spending by 10%-15%. Although certain “mandatory” spending programs, such as Social Security, Medicaid, Food Stamps, Veterans’ benefits and federal retirement are exempt from sequestration and reductions in Medicare payments, community and immigrant health and Indian health services are limited to 2%, it is estimated that the cut in non-defense discretionary programs will be 8.5%.

The cuts will come both from both mandatory (entitlement) programs and discretionary programs. Indeed, about $16.2 of the $54.7 billion to be cut from non-defense spending will come from mandatory spending programs of which there are many. In contrast, since mandatory spending makes up less than 1% of all defense spending, almost all of the deficit reduction in the defense category will take place in discretionary programs. For FY 2013, sequestration is to be accomplished through an across-the-board, proportional reduction in the funding provided for each non-exempt discretionary program. In 2014 and subsequent years, the Appropriation Committee will decide how to live within the limits established for overall defense spending. In those years, Medicare providers will continue to receive 98 cents on the dollar while the remaining amount of the $54.7 billion in required annual non-defense cuts will be applied proportionally to (a) other non-exempt mandatory spending programs in the aggregate and (b) overall non-defense discretionary funding.2

One of the first tangible signs of the sequestration will come toward the end of FY 2012 when OMB, after determining the percentage of cuts to be applied to eligible defense and non-defense programs, will start issuing apportionments to each agency – something that will preclude the agency from spending more than OMB has allotted to it. With this in mind, some have already asked OMB to release an account-by-account analysis of the cuts and how they will impact personnel, contracts, operations and maintenance and research, among other things. Clearly, it would be useful not only to see where the cuts are likely to be made but, perhaps more importantly, to identify those payment reductions that contractors, grantees, holders of co-operative agreements, and direct payment recipients, may be able to recoup. Yes. Recoup!

This is not to say that under most existing traditional government contracts including Integrated Resource Service Contracts, i.e., stewardship contracts where the value of services to be performed exceeds the value of timber to be removed, agencies, faced with what amounts to a depleted checking account, cannot legitimately exercise the authority contained in those contracts to “de-scope” them, i.e., temporarily suspend, stretch-out or reduce required contract performance or even terminate the contract. (Most of these actions would, of course, require the government to provide some compensation to the contractor in the form of an equitable adjustment.) However, there are a great many other (generally non-traditional) contracts including timber sales as well as grants, cooperative agreements and direct payment programs where the agency’s taking any such action because the relevant appropriation account has become exhausted will simply constitute a breach for which the government will be liable. So too, in those instances, an agency’s refusal to pay for services rendered, goods provided or (pursuant to traditional contracts pay for an equitable adjustment) simply because there is no more money in the relevant account is, absent more, also a breach for which recovery might be available.

In the great rush to “cut spending,” Congress, as it is wont to do, has lost sight of the fact that, while not providing sufficient money to an agency may prevent the agency from making any further payments to contractors, grantees, recipients of direct payments (e.g., counties receiving PILT payments and funds under the Secure Rural Schools program), valid obligations will remain enforceable in the courts. The precept that a lack of funding does not void a valid underlying obligation is not only a long-standing one but is one that has only recently been reaffirmed by the Supreme Court. In the process, the Court also made it clear that purporting to make the government’s payment obligation “subject to the availability of appropriation” as many contracts and grants do, likewise does not void the government’s obligation to make full payment merely because at some point in the future funds in the relevant appropriation account become exhausted, i.e., a valid obligation remains fully enforceable in the courts.

While the above is good news in the long run for those who might be able to successfully sue to recover money wrongfully denied them due to the sequestration, the fact is that (whether it is cushioned by the possibility of recoupment or partially ameliorated by some equitable adjustment to which the contractor is entitled under the terms of its existing contract) when sequestration hits, it will likely hit existing contractors, grantees, holders of cooperative agreement and direct payment recipients quite hard. So too, it is likely to have a profound effect on the future of many important programs.