Testimony

Before the Committee on the Agriculture, Nutrition,

and Forestry, U.S. Senate

United States General Accounting Office

GAO

For Release on Delivery

Expected at 9 a.m., EDT

Wednesday, May 16, 2001 FARM LOAN PROGRAMS

Improvements in the Loan

Portfolio but Continued

Monitoring Needed

Statement of Lawrence J. Dyckman

Director, Natural Resources and Environment

GAO-01-732T
Page 1 GAO-01-732T Farm Loan Programs

Mr. Chairman and Members of the Committee:

Thank you for the opportunity to testify on the U.S. Department of

Agriculture’s (USDA) farm loan programs. Our testimony today is based

on reports that we have issued over the past decade, the most recent of

which are our January 10, 2001, report entitled Farm Service Agency:

Updated Status of the Multibillion-Dollar Farm Loan Portfolio

(GAO-01-202) and our January 2001 report entitled Major Management

Challenges and Program Risks: Department of Agriculture (GAO-01-242).

As you know, within USDA, the Farm Service Agency (FSA) is responsible

for administering USDA’s farm loan programs.

Our testimony today focuses on two areas covered in our reports: (1) an

overview of the financial condition of FSA’s farm loan portfolio as of

September 30, 2000, and (2) our decision to remove the farm programs

from our high-risk list. In summary:

• FSA had more than $16.6 billion in outstanding farm loans as of September

30, 2000; direct loans accounted for slightly more than half of this amount

and guaranteed loans for slightly less than half. Of the $16.6 billion, about

$2.1 billion was owed by borrowers who were delinquent on repaying their

FSA loans. Most (87 percent) of the $2.1 billion was owed on direct farm

loans. Although the total amount due on the problem loans remains high,

this financial position reflects improvement in FSA’s direct farm loan

portfolio in recent years as well as a continuation of a relatively healthy

guaranteed farm loan portfolio.

• In January 2001, we removed the farm loan programs from our high-risk

list. We did so because the financial condition of the programs had

improved since we first designated the programs as high-risk in 1990 and

because actions taken by the Congress and USDA, many of which we

recommended, have had a significant positive impact on the operation and

condition of USDA’s farm loan programs. Specifically, since the end of

fiscal year 1995, the amount of outstanding principal owed by borrowers

who were delinquent on their direct loans and the percentage of debt

owed by such borrowers declined each year—from $4.6 billion, or about

41 percent of the outstanding principal, in fiscal year 1995 to $1.8 billion,

or about 21 percent of the outstanding principal, in fiscal year 2000. While

we have removed the farm loan programs from our high-risk list, USDA

and the Congress need to continue to monitor its performance over time.

FSA’s farm loan programs are intended to provide temporary financial

assistance for the nation’s farmers and ranchers who are unable to obtain Background
Page 2 GAO-01-732T Farm Loan Programs

commercial credit at reasonable rates and terms. FSA provides various

types of both direct and guaranteed farm loans. Direct farm ownership

loans can be used to buy farm real estate and make capital improvements.

Guaranteed farm ownership loans are made for the same purposes and for

refinancing existing debts. Also, direct farm operating loans can be used to

buy feed, seed, fertilizer, livestock, and farm equipment; pay family living

expenses; and, subject to certain restrictions, refinance existing debts.

Guaranteed farm operating loans are made for the same purposes but

without restriction on refinancing existing debts. Additionally, direct loans

include emergency disaster loans which are made to farmers and ranchers

whose operations have been substantially damaged by adverse weather or

other natural disasters.1

In operating the farm loan programs, FSA faces the conflicting tasks of

(1) providing high-risk borrowers with temporary credit so that can stay in

farming until they are able to secure commercial credit and (2) ensuring

that the taxpayers’ investment is protected. When a borrower does not

repay his or her direct farm loans, FSA has various tools to resolve the

delinquency, including (1) restructuring the loans, which may include

reducing (writing down) some of the outstanding debt so that the

borrower can continue in farming; (2) allowing a borrower who does not

qualify for restructuring to pay an amount that is based on the value of

collateral security, which is less than the outstanding debt and results in

FSA’s forgiving (writing off) the balance; and (3) reaching a final

resolution of the debt that may or may not include a payment by the

borrower, which also results in forgiving the debt. When a borrower

defaults on a guaranteed loan and a commercial lender incurs a loss, FSA

reimburses the lender for the guaranteed portion of the loss. FSA’s losses

on direct and guaranteed loans totaled about $486 million during fiscal

year 2000, about 88 percent of which involved losses on direct farm loans.

 1

The Consolidated Farm and Rural Development Act, as amended (P.L. 87-128, Aug. 8,

1961), is the basic authority for the farm loan programs.
Page 3 GAO-01-732T Farm Loan Programs

The outstanding principal owed on FSA’s direct and guaranteed farm loans

totaled more than $16.6 billion as of September 30, 2000. Direct loans

accounted for about $8.7 billion of the total amount, and guaranteed loans

accounted for almost $8 billion. Borrowers who were delinquent owed

slightly more than $1.8 billion, or 20.9 percent, of the outstanding direct

loan debt and about $282 million, or 3.5 percent, of the outstanding

guaranteed loan debt.2

 Both the total outstanding principal owed on direct

farm loans and the amount owed by borrowers who were delinquent were

lower at the end of fiscal year 2000 than at the end of fiscal year 1999.

Also, while the total outstanding principal owed on guaranteed farm loans

was higher at the end fiscal year 2000 than at the end of fiscal year 1999,

the amount owed by borrowers who were delinquent was lower. (See

table 1.)

Table 1: Outstanding Principal and Amount Owed by Delinquent Borrowers, Direct and Guaranteed Farm Loans,

September 30, 2000

Dollars in millions

Outstanding principal Owed by delinquent borrowers

Percentage owed by delinquent

borrowersa

Loan

program Amount

Number of

borrowers Amount

Number of

borrowers

Percentage of

debt

Percentage of

borrowers

Direct loans $8,659.0 96,887 $1,812.4 13,930 20.9 14.4

Guaranteed

loans

7,967.1 40,679 281.9 1,863 3.5 4.6

Totalb$16,626.1 137,566 $2,094.2 15,793 12.6 11.5

a

Percentages are based on whole numbers.

b

The total number of borrowers includes some borrowers who are counted more than once because

they have both direct and guaranteed loans. Also, the total amount owed by delinquent borrowers

does not add because of rounding.

Note: The percent of borrowers who were delinquent on direct loans declined from 23.5 percent to

20.9 percent over fiscal year 2000, and the direct loan losses of $427 million were FSA’s least in over

10 years.

Source: GAO’s analysis of information in FSA’s farm loan automated databases.

All types of direct and guaranteed farm loans had outstanding principal

owed by delinquent borrowers at the end of fiscal year 2000, while some

types accounted for much more problem debt than others. Of the direct

loans, for example, natural disaster emergency loans accounted for the

highest amount of principal owed by borrowers who were delinquent—

 2

If a borrower was delinquent on any farm loan, the principal on all farm loans held by the

borrower was totaled to calculate the amount owed by the delinquent borrower.

FSA’s Farm Loan

Portfolio Has

Improved but Still

Contains Many

Delinquent Loans
Page 4 GAO-01-732T Farm Loan Programs

about $811 million; 44.1 percent of the outstanding principal on these

emergency loans was owed by delinquent borrowers.3

 Farm operating

loans were second in terms of the amount of principal owed by delinquent

borrowers—$569.4 million; 20 percent of the outstanding principal on

these loans was owed by delinquent borrowers. Of the guaranteed loans,

farm operating loans accounted for the highest amount owed by

delinquent borrowers, more than $165 million; 3.8 percent of the

outstanding principal on farm operating loans was owed by delinquent

borrowers. Guaranteed farm ownership loans had about $115 million, or

3.2 percent of the outstanding principal owed by delinquent borrowers.

(See table 2.)

Table 2: Outstanding Direct and Guaranteed Farm Loans and Portion Owed by Delinquent Borrowers as of September 30,

2000, by Loan Type

Dollars in millions

Outstanding principal Owed by delinquent borrowers

Loan type Amount

Percentage

of total Amount

Percentage

 of total

Percentage owed

by delinquent

borrowers

Direct loans

Ownership $3,482.4 40.2 $135.7 7.5 3.9

Operating 2,846.9 32.9 569.4 31.4 20.0

Natural disaster 1,838.8 21.2 810.8 44.7 44.1

Othera490.9 5.7 296.5 16.4 60.4

Total $8,659.0 100.0 $1,812.4 100.0 20.9

Guaranteed loans

Ownership $3,581.9 45.0 $114.9 40.8 3.2

Operating 4,380.7 55.0 165.4 58.7 3.8

Otherb4.5 0.1 1.5 0.5 34.2

Total $7,967.1 100.0 $281.9 100.0 3.5

Note: percentages are based on whole numbers. Also, totals may not add because of rounding.

a

Other direct loans are economic emergency and recreation loans, which FSA no longer makes, and

soil and water loans.

b

Other guaranteed loans are economic emergency loans, which FSA no longer guarantees.

Source: GAO’s analysis of information in FSA’s farm loan automated databases.

 3

Natural disaster emergency loans are inherently riskier than the other types of farm loans

that FSA makes because they are made to help farmers recover from losses rather than to

generate new income.
Page 5 GAO-01-732T Farm Loan Programs

In January 2001, we removed the farm loan program from our high-risk list

because (1) the financial condition of the program had improved and

(2) there had been improvements in lending and servicing policies that

were intended to reduce the risks associated with the farm loan programs.

A decade earlier, in 1990, we had identified FSA’s farm loan programs as

high-risk because of significant program problems primarily with the

direct loans. As we had reported in the 1980s, the farm loan programs had

experienced a high rate of defaults on repayments: billions of dollars of

losses had occurred and were likely to occur, and the Department had

evolved into a continuous source of subsidized credit for thousands of

borrowers. These problems occurred because of program policies—some

of which were congressionally directed—that contributed to financial

risks and because the Department’s field office officials failed to comply

with existing loan and property management standards. For example, the

program’s policies allowed borrowers who defaulted and caused losses on

past farm loans to obtain new loans and allowed borrowers to obtain new

direct loans for operating expenses without demonstrating their ability to

pay their existing debt. Also, field offices lending officials approved loans

on the basis of unrealistic estimates of production, income, and expenses

and often failed to verify borrowers’ existing debts.

Since the mid-1990s, USDA has addressed management problems, such as

the quality controls over loan-making and servicing, and various pieces of

legislation have had a significant impact on the operation of FSA’s farm

loan programs. Specifically, the 1996 Farm Bill made a variety of changes

to the lending and servicing policies of FSA that were intended to reduce

the risks associated with the farm loan programs. In particular, the 1996

Farm Bill included provisions that (1) prohibit borrowers who are

delinquent on FSA direct or guaranteed farm loans from obtaining

additional direct farm operating loans, (2) generally prohibit borrowers

whose past defaults resulted in loan losses from obtaining new direct or

guaranteed farm loans (although an exception provides that a direct or

guaranteed farm operating loan for paying annual farm or ranch operating

expenses may be made to a borrower whose restructuring resulted in

forgiving debt), and (3) limit borrowers to one instance of debt forgiveness

on direct loans.

The 1996 Farm Bill also requires borrowers to have or agree to obtain

hazard insurance on the property that they acquire with farm ownership

and operating loans, and requires applicants, as a condition for getting an

emergency disaster loan, to have had hazard insurance on property that

was damaged or destroyed. In addition, the 1996 Farm Bill provided

direction for many other aspects of FSA’s basic lending mission. For

Farm Loan Programs

Remain Vulnerable to

Loss, but High-Risk

Status Is No Longer

Merited
Page 6 GAO-01-732T Farm Loan Programs

example, the 1996 Farm Bill limited the length of time that FSA loan

assistance is available by providing that borrowers can receive direct farm

ownership loans during a 10-year period that starts when they first obtain

farm ownership loans and that borrowers can obtain direct farm operating

loans during a total of 7 years, which may be consecutive or

nonconsecutive years. The 1996 Farm Bill also enhanced the potential for

direct loan borrowers to obtain conventional credit by allowing a

95-percent guarantee on loans made by commercial lenders to refinance

the existing direct loans that the borrowers have, up from the previous

limit of 90 percent.

We concluded that these actions have helped generate continued

improvements in the portfolio in recent years. As of September 30, 2000,

delinquent borrowers held more that $1.8 billion (about 21 percent) of the

outstanding principal on direct loans. This compares with about

$2.1 billion (23.5 percent) in September 1999, $2.4 billion (over 26 percent)

in September 1998, and, $4.6 billion (about 41 percent) in September 1995.

As figure 1 shows, the outstanding principal and the amounts owed by

delinquent borrowers on direct farm loans have declined each year since

the end of fiscal year 1995 and the enactment of the 1996 Farm Bill.
Page 7 GAO-01-732T Farm Loan Programs

Figure 1: Outstanding Principal and Amount Owed by Borrowers Who Were

Delinquent on Direct Farm Loans, End of Fiscal Years 1995 Through 2000

Note: The percentage of outstanding principal owed by delinquent borrowers was as follows:

40.7 percent in 1995, 34.2 percent in 1996, 28.2 percent in 1997, 26.4 percent in 1998, 23.5 percent

in 1999, and 20.9 percent in 2000.

Source: GAO’s analysis of information in FSA’s farm loan automated databases.

In addition, as figure 2 shows, while the total outstanding principal owed

on guaranteed farm loans has risen since 1995, the amount owed by

borrowers who were delinquent on guaranteed farm loans has remained

relatively steady.
Page 8 GAO-01-732T Farm Loan Programs

Figure 2: Outstanding Principal and Amount Owed by Borrowers Who Were

Delinquent on Guaranteed Farm Loans, End of Fiscal Years 1995 Through 2000

Note: The amount and percentage of outstanding principal owed by delinquent borrowers were as

follows: $218 million, or 3.7 percent, in 1995; $280 million, or 4.4 percent, in 1996; $300 million, or

4.6 percent, in 1997; $325 million, or 5.0 percent, in 1998; $363 million, or 5.0 percent, in 1999; and

$282 million, or 3.5 percent, in 2000.

Source: GAO’s analysis of information in FSA’s farm loan automated databases.

We believe that the improvements in part reflect actions that the Congress

and USDA have taken to address the underlying causes of the programs’

past weaknesses.

Although the programs’ high-risk designation has been removed, we

believe that USDA and the Congress need to continue monitoring the loan

portfolio and the effects of the lending and servicing reforms, as well as

any future legislation, to ensure that improvements in the financial

integrity of the farm loan programs continue. This is particularly important

since more recent legislation has eased some lending restrictions that had

been put in place by the 1996 Farm Bill. First, Public Law 105-277 (Oct. 21,

1998) provides additional exceptions to the 1996 Farm Bill’s general
Page 9 GAO-01-732T Farm Loan Programs

prohibition of new loans to borrowers who caused FSA to incur loan

losses. Specifically, this act provides that a guarantee is only prohibited on

a loan to a borrower who caused loan losses (1) after April 4, 1996, the

date of the 1996 Farm Bill or (2) on more than three occasions on or

before the date of the 1996 Farm Bill. The act continued allowing direct

and guaranteed farm operating loans to restructured borrowers and also

allows such loans to borrowers who are current on payments under

confirmed bankruptcy reorganization plans. In addition, the act allows an

emergency disaster loan to be made to a borrower who (1) caused not

more than one loan loss on or before the date of the 1996 Farm Bill and

(2) has not caused a loss after the date of the 1996 Farm Bill. Furthermore,

the act specifies that an emergency disaster loan cannot be denied to a

borrower who does not have sufficient collateral to secure the loan if the

borrower can show the ability to repay the loan. Second, Public Law

106-31 (May 21, 1999) removed a loan-making provision that said that

applicants for guaranteed loans needed to show that their expected

income would be sufficient to repay their loans and also provide a margin

to fund the replacement of capital items, such as a tractor, should that

become necessary. Third, Public Law 106-224 specified that the limitation

on the number of years in which borrowers can receive farm operating

loans—7 years for direct loans and a total of 15 years for direct and

guaranteed loans—would not be in effect from the date of enactment

(June 22, 2000) and until January 2003. Fourth, under Public Law 106-387

(Oct. 28, 2000) an emergency disaster loan can be made to a poultry

farmer to cover the loss of a chicken house on which the farmer did not

have hazard insurance at the time of the loss if certain conditions are met.

Since these provisions increase the risk of losses, their effects will need

close monitoring so that adjustments can be made if the integrity of the

loan programs comes under pressure.

Mr. Chairman, this concludes our formal statement. If you or other

Members of the Committee have any questions, we will be pleased to

respond to them.
Page 10 GAO-01-732T Farm Loan Programs

Contact and Acknowledgment

For future contacts regarding this testimony, please contact Lawrence J.

Dyckman on (202) 512-3841. Individuals making key contributions to this

testimony and/or to the reports on which it was based include Charles M.

Adams and Patrick J. Sweeney.

(360087)