Which type of contract compensates a contractor based on allowable costs and fees that decrease with higher costs?

The correct answer is the type of contract that compensates contractors based on allowable costs, coupled with a fee that incentivizes cost control. A cost plus an incentive fee contract allows the contractor to be reimbursed for allowable costs, and additionally, they earn a fee that can decrease as the costs increase, therefore motivating them to keep expenses low.

This contract structure aligns the contractor's financial interests with cost savings, successfully ensuring that they manage resources efficiently. If the contractor incurs costs beyond a certain point, their additional compensation can be reduced, encouraging them to control costs while still ensuring that necessary expenditures are covered. This balance helps achieve project objectives effectively while managing government expenses.

In contrast, other types of contracts don’t incorporate this specific mechanism for controlling costs through an incentive structure. Time and materials contracts typically involve payment based on the actual time spent and materials used, without the incentive component. Cost plus fixed fee contracts provide a set fee regardless of incurred costs, and fixed price contracts establish a set price that doesn’t account for cost variations, which completely removes the incentive aspect for controlling costs.