Indirect Costs

Indirect costs are expenses that support a research or innovation project but cannot be directly attributed to specific project activities. In EU grant programmes, particularly Horizon Europe, indirect costs are reimbursed through a flat rate of 25% applied to eligible direct costs, as established by Article 181 of the EU Financial Regulation (Regulation 2018/1046). This flat-rate approach significantly simplifies financial administration by eliminating the need for beneficiaries to track, justify, and audit overhead expenses on a per-project basis.

How It Works

In any research or innovation project, organizations incur two categories of costs: direct costs that can be attributed to specific project activities (researcher salaries, travel, equipment, consumables), and indirect costs that support the organization's general operations and cannot be traced to a single project (rent, utilities, IT infrastructure, administrative staff, library resources, general insurance).

Under Horizon Europe and most other EU grant programmes, indirect costs are calculated using a simple formula:

Indirect costs = 25% x (Total eligible direct costs - Subcontracting - Financial Support to Third Parties - In-kind contributions provided by third parties not used on the beneficiary's premises)

This means the 25% rate is applied to a reduced base. Three categories of direct costs are excluded from the calculation base:

1. Subcontracting costs. Work performed by external subcontractors is excluded because those subcontractors have their own overhead. Including subcontracting in the indirect cost base would effectively double-count overheads.

2. Financial Support to Third Parties (FSTP). Cascade grants or prizes distributed to third parties through the project are excluded because the beneficiary merely channels these funds rather than spending them on activities that generate overhead.

3. In-kind contributions provided by third parties not used on the beneficiary's premises. Resources provided by other organizations that are not consumed at the beneficiary's facilities do not generate overhead costs for the beneficiary.

The calculation is straightforward. Consider a project partner with the following eligible direct costs:

The flat rate is applied automatically during financial reporting. Beneficiaries simply declare their eligible direct costs in the periodic financial statements, and the reporting system calculates the indirect cost amount. No supporting documentation, timesheets, allocation keys, or receipts are required for indirect costs.

This approach differs fundamentally from actual-cost indirect cost models (used in some national funding schemes and in the predecessor programme FP7), where organizations had to demonstrate their actual overhead rates through detailed cost accounting, certified methodology, and regular audits. The flat rate eliminates this administrative burden entirely.

Legal Framework

Article 181 of the EU Financial Regulation (Regulation 2018/1046) provides the legal basis for using flat rates to reimburse indirect costs in EU grant programmes. It authorizes the use of simplified cost options, including flat rates, unit costs, and lump sums, to reduce administrative burden while ensuring sound financial management.

The Horizon Europe Model Grant Agreement (HE MGA), Article 6.2.C specifies the 25% flat rate for indirect costs and defines the exclusions from the calculation base. The MGA is the legally binding document that governs the financial rules for each Horizon Europe grant.

Article 186 of the Financial Regulation governs the general principles of cost eligibility, requiring that costs be actually incurred, necessary for the project, and compliant with the beneficiary's usual cost accounting practices. For indirect costs under the flat rate, these principles are satisfied by the fact that the organization exists, operates, and provides the general infrastructure within which project activities take place.

The 25% flat rate has been used since Horizon 2020 (2014-2020) and was carried forward unchanged into Horizon Europe. Under the previous Framework Programme 7 (FP7, 2007-2013), beneficiaries could choose between a 20% flat rate or declaring their actual indirect costs based on a certified methodology. The shift to a mandatory flat rate was driven by the simplification agenda: actual indirect cost models generated significant audit findings, disputes, and administrative overhead for both beneficiaries and the European Commission.

Other EU programmes apply different indirect cost rates. The LIFE Programme uses a 7% flat rate for indirect costs. The European Regional Development Fund (ERDF) and European Social Fund (ESF) offer member states a choice between flat rates of 15%, 25%, or 40%, depending on the programme and cost category. National funding agencies — for instance those in Germany and France — have their own overhead policies, which may or may not align with the EU rates.

Practical Examples

Example 1: University Research Group. A university department participates in a Horizon Europe RIA with EUR 400,000 in personnel costs, EUR 30,000 in travel, and EUR 20,000 in equipment depreciation. No subcontracting or FSTP. The indirect cost base is EUR 450,000, yielding EUR 112,500 in indirect costs. The university's actual overhead rate (calculated from its full cost accounting system) is approximately 60% of personnel costs, meaning the 25% flat rate significantly under-compensates the university's true overhead. However, the simplification benefit — no timesheets for administrative staff, no utility allocation calculations, no audit of overhead methodology — is considered a worthwhile trade-off.

Example 2: Industrial Partner with Large Subcontracting. A manufacturing company participates in an IA with EUR 200,000 in personnel costs, EUR 10,000 in travel, and EUR 150,000 in subcontracting (for specialized testing by an external laboratory). The indirect cost base is EUR 210,000 (excluding the EUR 150,000 subcontracting), yielding EUR 52,500 in indirect costs. The company receives a funding rate of 70% on direct costs plus 70% on indirect costs, totaling EUR 252,000 + EUR 36,750 = EUR 288,750 in EU funding.

Example 3: SME with Minimal Overhead. A small technology startup with low fixed costs (co-working space, cloud-based IT) participates in a Horizon Europe project with EUR 150,000 in eligible direct costs and no subcontracting. The indirect costs are EUR 37,500 (25% of EUR 150,000). For this SME, the 25% flat rate may actually over-compensate the true overhead, as the company's actual fixed costs are modest. The over-compensation is accepted by the EU rules as a simplification trade-off.

Key Considerations for Suppliers

Factor indirect costs into your budget planning. When preparing a Horizon Europe proposal, your total eligible costs include both direct costs and the 25% indirect cost top-up. If your project budget allocation is EUR 500,000, you should plan approximately EUR 400,000 in direct costs and EUR 100,000 in indirect costs (assuming no subcontracting). This means your usable budget for activities is the direct cost portion; the indirect portion covers your organizational overhead.

Maximize the indirect cost base. Since subcontracting and FSTP are excluded from the indirect cost base, every euro shifted from personnel or other direct costs to subcontracting reduces your indirect cost recovery. When deciding whether to perform work in-house (as personnel costs) or outsource (as subcontracting), consider the impact on indirect cost recovery. Work performed in-house generates 25% overhead recovery; subcontracted work does not.

Do not attempt to claim actual overhead costs as direct costs. A common audit finding is the inclusion of general overhead items (rent, utilities, administrative salaries, insurance) as "other direct costs" in the financial reporting. Under the flat-rate model, all overhead is covered by the 25% — claiming these items additionally as direct costs constitutes double funding and will be identified in audits.

Understand the interaction with the funding rate. For companies participating in IAs (70% funding rate), the indirect costs are also reimbursed at 70%. This means a company with EUR 100,000 in indirect costs receives EUR 70,000 from the EU grant and must self-finance EUR 30,000. For RIAs (100% funding rate), the full indirect cost amount is reimbursed.

Plan for the gap between true overhead and the flat rate. Most universities and large research organizations have actual overhead rates well above 25%. The gap must be covered from institutional funds or other sources. This is a strategic consideration when deciding whether to participate in EU-funded projects: the indirect cost recovery may not cover the full organizational cost of hosting the research.

Related Concepts

• Grant — The funding instrument under which indirect costs are reimbursed.
• Funding Rate — The percentage of total eligible costs (direct + indirect) reimbursed by the EU, which applies equally to both cost categories.
• Beneficiary — The grant recipient that declares direct costs and receives the 25% indirect cost top-up.
• Lump Sum Grant — An alternative cost model where no distinction between direct and indirect costs is required, as payment is based on work package completion.
• Work Package — The project structure within which both direct and indirect costs are incurred.
• Horizon Europe — The EU programme applying the 25% flat rate for indirect costs.

Frequently Asked Questions

Why is the flat rate 25% and not a higher or lower figure?

The 25% rate was established as a compromise during the design of Horizon 2020 (2014-2020). Studies showed that actual indirect cost rates across European research organizations ranged from approximately 15% (for some SMEs and smaller research institutes) to over 100% (for some universities when fully loaded). The 25% rate was chosen as a balance that provides reasonable overhead recovery for most participants while keeping the system simple. It over-compensates some organizations and under-compensates others, but the administrative savings from eliminating actual-cost calculations, certifications, and audits were deemed sufficient to justify the approximation.

Can an organization opt for a different indirect cost rate?

No. Under Horizon Europe, the 25% flat rate is mandatory for all beneficiaries. There is no option to declare actual indirect costs or to use a different rate. This contrasts with FP7, where organizations could choose between the flat rate and actual costs. The mandatory flat rate was adopted specifically to eliminate the complexity and audit burden associated with actual cost methodologies. Some organizations with high actual overheads supplement the EU contribution from their institutional budgets or other funding sources.

Are indirect costs audited?

Indirect costs calculated under the flat rate are not subject to detailed financial audit in the traditional sense. Since they are calculated as a fixed percentage of eligible direct costs, the audit focus is on the correctness of the direct cost base: are the declared direct costs eligible, actually incurred, and properly documented? If a financial audit adjusts the direct cost base (for example, by disallowing ineligible personnel costs), the indirect costs are automatically adjusted proportionally. There is no requirement to provide receipts, invoices, or allocation keys for the indirect costs themselves.

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