Crop Insurance: Continuing Efforts Are Needed to Improve Program Integrity and Ensure Program Costs Are Reasonable
Published: 2007-05-03T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: The U.S. Dept. of Agriculture's (USDA) Risk Management Agency (RMA) administers the federal crop insurance program in partnership with private insurers. In 2006, the program cost $3.5 billion, including millions in losses from fraud, waste, and abuse, according to USDA. The Agricultural Risk Protection Act of 2000 granted RMA authority to renegotiate the terms of RMA's standard reinsurance agreement with companies once over 5 years. This testimony is based on GAO's 2005 report, Crop Insurance: Actions Needed to Reduce Program's Vulnerability to Fraud, Waste, and Abuse, as well as new analyses this Committee requested on underwriting gains and administrative and operating expenses USDA paid companies. GAO discusses (1) USDA's processes to address fraud, waste, and abuse; (2) extent the program's design makes it vulnerable to abuse; and (3) reasonableness of underwriting gains and other expenses. USDA agreed with most of GAO's 2005 recommendations to improve program integrity. RMA agreed that GAO's new analyses were technically accurate.
section_title: What GAO Found
paragraphs: GAO reported that RMA did not use all available tools to reduce the crop insurance program's vulnerability to fraud, waste, and abuse. RMA has since taken some steps to improve its procedures. In particular, USDA's Farm Service Agency (FSA) inspections during the growing season were not being used to maximum effect. Between 2001 and 2004, FSA conducted only 64 percent of the inspections RMA requested. Without inspections, farmers may falsely claim crop losses. However, FSA said it could not conduct all requested inspections, as GAO recommended, because of insufficient resources. RMA now provides information more frequently so FSA can conduct timelier inspections. RMA's data analysis of the largest farming operations was incomplete. In 2003, about 21,000 of the largest farming operations did not report all of the individuals or entities with an ownership interest in these operations, as required. Therefore, RMA was unaware of ownership interests that could help it prevent potential program abuse. FSA and RMA now share information to identify such individuals or entities. USDA should be able to recover up to $74 million in improper payments made during 2003. RMA was not effectively overseeing insurance companies' efforts to control program abuse. According to GAO's review of 120 cases, companies did not complete all the required quality assurance reviews of claims, and those that were conducted were largely paper exercises. RMA agreed to improve oversight of their reviews, but GAO has not followed up to examine its implementation. RMA's regulations to implement the crop insurance program, as well as some statutory requirements, create design problems that hinder its efforts to reduce abuse. For example, the regulations allow farmers to insure fields individually rather than together. As such, farmers can "switch" reporting of yield among fields to make false claims or build up a higher yield history on a field to increase its eligibility for higher insurance guarantees. RMA did not agree with GAO's recommendation to address the problems associated with insuring individual fields. Statutorily high premium subsidies may also limit RMA's ability to control program abuse: the subsidies shield farmers from the full effect of paying higher premiums associated with frequent claims. From 2002 through 2006, USDA paid the insurance companies underwriting gains of $2.8 billion, which represents an average annual rate of return of 17.8 percent. In contrast, according to insurance industry statistics, the benchmark rate of return for companies selling property and casualty insurance was 6.4 percent. USDA renegotiated the financial terms of its standard reinsurance agreement with the companies in 2005, but their rate of return was 30.1 percent in 2005, and 24.3 percent in 2006. It also paid the companies a cost allowance of $4 billion to cover administrative and operating costs for 2002 through 2006. USDA recommended that Congress provide RMA with authority to renegotiate the financial terms and conditions of its standard reinsurance agreement once every 3 years.

section_title: Letter
paragraphs: I am pleased to be here today to discuss the U.S. Department of  Agriculture’s (USDA) efforts to address fraud, waste, and abuse in the  federal crop insurance program. As you know, federal crop insurance is  part of the overall safety net of programs for American farmers. It provides  protection against financial losses caused by droughts, floods, or other  natural disasters. USDA’s Risk Management Agency (RMA) supervises the  Federal Crop Insurance Corporation’s (FCIC) operations and has overall  responsibility for administering the crop insurance program, including  controlling costs and protecting against fraud, waste, and abuse. RMA also  partners with private insurance companies that sell and service the  insurance policies and share a percentage of the risk of loss and  opportunity for gain associated with each policy.
In November 2006, we identified the federal crop insurance program as a  program in need of better oversight to ensure program funds are spent as  economically, efficiently, and effectively as possible. In 2006, the crop  insurance program provided $50 billion in insurance coverage for 242  million acres of farmland, at a cost of $3.5 billion to the federal  government, of which a total of $1.8 billion was paid to insurance  companies for their participation in the crop insurance program. USDA  reports that an estimated $62 million in indemnity payments were made in  2006 as a result of waste, such as incorrect payments or payments based  on incomplete or missing paperwork.
To improve the integrity of the crop insurance program, among other  things, Congress enacted the Agricultural Risk Protection Act of 2000  (known as ARPA). ARPA provided RMA and USDA’s Farm Service Agency  (FSA) with new tools for monitoring and controlling program abuses.  ARPA required the Secretary of Agriculture to develop and implement a  coordinated plan for FSA to assist RMA in the ongoing monitoring of the  crop insurance program and to use information technologies, such as data  mining—the analysis of data to establish relationships and identify  patterns—to administer and enforce the program. Furthermore, ARPA  provided USDA with the authority to renegotiate the financial terms of its  contractual agreement—known as the standard reinsurance agreement  (SRA)—with the private insurance companies once during 2001 through  2005. USDA renegotiated the terms of the SRA in 2004 and implemented  the new agreement in 2005. In its recent Farm Bill proposal, USDA  recommended that Congress provide the agency with authority to  renegotiate the financial terms and conditions once every 3 years. RMA  officials also told us they sought legislative remedies to address excessive  underwriting gains in their budget proposals for fiscal years 2006 and 2007.  The SRA between USDA and the insurance companies includes (1) a cost  allowance that is tied to the value of the policy and that is intended to  cover administrative and operating expenses incurred by the companies  for program delivery, and (2) risk-sharing formulas that establish  underwriting gains and losses.
GAO has issued reports on the federal crop insurance program that have  raised a number of concerns. (See Related GAO Products.) Most recently,  in June 2006, we reported that some farmers may have abused the crop  insurance program by allowing crops to fail through neglect or deliberate  actions in order to collect insurance, and some insurance companies have  not exercised due diligence in investigating losses and paying claims. In  addition, the effects of climate change, including rising temperatures and  increasingly frequent and intense droughts, storms, and flooding, may be  potentially significant in coming decades and affect the program’s  financial costs to the government. As we recently reported, major private  and federal insurers are both exposed to the effects of climate change over  the coming decades, but are responding differently. Many large private  insurers are incorporating climate change into their annual risk  management practices, and some are addressing it strategically by  assessing its potential long-term, industrywide impacts. However, the  major federal insurance programs, including the crop insurance program,  have done little to develop comparable information.
My testimony today focuses on the (1) effectiveness of USDA’s procedures  to prevent and detect fraud, waste, and abuse in selling and servicing crop  insurance policies; (2) extent to which program design issues may make  the program more vulnerable to fraud, waste, and abuse; and (3)  reasonableness of underwriting gains and administrative and operating  expenses USDA pays to the companies for program delivery. My testimony  is primarily based on published GAO products. In addition, at the request  of this Committee, we analyzed underwriting gains and losses and  administrative and operating expenses. RMA reviewed these analyses and  told us they were technically accurate. We performed our work in  accordance with generally accepted government auditing standards.
In summary, since the enactment of ARPA, RMA has taken a number of  steps to improve its procedures to prevent and detect fraud, waste, and  abuse in the crop insurance program. Most notably, RMA reports that data  mining analyses and subsequent communication to farmers resulted in a  decline of at least $300 million in questionable claims payments from 2001  to 2004. However, we found that, at the time our review, RMA was not  effectively using all of the tools it had available and that some farmers and  others continued to abuse the program. We identified weaknesses in four  key areas: (1) field inspections, (2) data mining processes that exclude  many large farming operations when farmers do not report their interest in  them, (3) quality assurance reviews conducted by insurance companies,  and (4) imposition of sanctions. Weaknesses in these areas left the  program vulnerable to questionable claims, and the insurance companies  and RMA could not always determine the validity of a claim to minimize  fraud, waste, and abuse. RMA has taken steps on some of the  recommendations we made. For example, RMA amended its crop  insurance policy manual to provide information more frequently to FSA on  suspect claims so that FSA is able to conduct timelier field inspections to  detect potential abuse. In another case, we recommended that RMA  promulgate regulations needed to fully utilize its expanded sanction  authority provided under ARPA. In response, RMA developed draft  regulations that, when final, will allow the agency to fully use this  authority to sanction program violators.
We also found that the program’s design, as laid out in RMA’s regulations  or as required by statute, can impede the efforts of RMA officials to  prevent and detect fraud, waste, and abuse in a number of ways. In terms  of RMA’s regulations, farmers can insure their fields individually instead of  insuring all fields combined, which makes it easier for them to switch  production among fields, either to make false insurance claims or to build  up a higher yield history on a particular field in order to increase its  eligibility for higher future insurance guarantees. RMA disagreed with our  recommendation to reduce the insurance guarantee or eliminate optional  unit coverage for producers who consistently have claims that are  irregular in comparison with other producers growing the same crop in the  same location. RMA stated that our recommendation represents a  disproportionate response, considering the small number of producers  who switch the yield on a field each year. Nevertheless, we continue to  believe that RMA could tailor an underwriting rule to target those  relatively few farmers who file anomalous claims related to yield  switching. In terms of statutory requirements, RMA is obligated by law to  offer farmers “prevented planting” coverage—coverage that allows for  insurance claims if an insured crop is prevented from being planted  because of weather conditions, but it is often difficult to determine  whether farmers had the opportunity to plant a crop. In our 2006  testimony, we stated that Congress may wish to consider allowing RMA to  reduce premium subsidies—and hence raise the insurance premiums—for  farmers who consistently have claims, such as prevented planting claims,  that are irregular in comparison with other farmers growing the same crop  in the same location. To date, Congress has not granted RMA the authority  to make such reductions.
Finally, USDA paid the insurance companies underwriting gains of $2.8  billion, in total, from 2002 through 2006. The underwriting gains represent  an average annual rate of return of 17.8 percent over this 5-year period.  This rate of return is considerably higher than the insurance industry  average. According to insurance industry statistics, the benchmark rate of  return for U.S. insurance companies selling private property and casualty  insurance was 6.4 percent during this period. RMA officials told us that  this benchmark rate can be considered a starting point for measuring the  appropriateness of the underwriting gains in the crop insurance program.  As previously noted, USDA renegotiated the financial terms of its SRA  with the companies beginning with the 2005 planting season. Nonetheless,  in 2005, USDA still paid insurance companies underwriting gains of $916  million—a rate of return of 30.1 percent. In 2006, USDA paid underwriting  gains of $886 million—a rate of return of 24.3 percent. The companies  received these underwriting gains despite drought conditions in parts of  the country in 2005 and 2006 that would normally suggest they would earn  lower profits. In addition to underwriting gains, USDA paid the insurance  companies $4 billion in cost allowances to cover administrative and  operating expenses incurred for program delivery from 2002 through 2006.  USDA expects the cost allowance paid per policy to increase by about 25  percent by 2008 because of higher crop prices, particularly for corn and  soybeans. These higher crop prices increase the value of the policy.  However, the companies and their affiliated sales agents will receive this  substantially higher cost allowance without any corresponding increase in  expenses for selling and servicing the policies. Congress has an  opportunity in its reauthorization of the Farm Bill to provide USDA with  the authority to periodically renegotiate the financial terms of the standard  reinsurance agreement with the insurance companies so that the  companies’ rate of return is more in line with private insurance markets.  USDA has requested the authority to renegotiate the SRA in its proposals  for the Farm Bill.
subsections: section_title: Background
paragraphs: FCIC was established in 1938 to temper the economic impact of the Great  Depression, and was significantly expanded in 1980 to protect farmers  from the financial losses brought about by drought, flood, or other natural  disasters. RMA administers the program in partnership with private  insurance companies, which share a percentage of the risk of loss and the  opportunity for gain associated with each insurance policy written. RMA  acts as a reinsurer—reinsurance is sometimes referred to as insurance for  the insurance companies—for a portion of all policies the federal crop  insurance program covers. In addition, RMA pays companies a percentage  of the premium on policies sold to cover the administrative costs of selling  and servicing these policies. In turn, insurance companies use this money  to pay commissions to their agents, who sell the policies, and fees to  adjusters when claims are filed.
FCIC insures agricultural commodities on a crop-by-crop and county-by- county basis, considering farmer demand and the level of risk associated  with the crop in a given region. Major crops, such as grains, are covered in  almost every county where they are grown, while specialty crops such as  fruit are covered in only some areas. Participating farmers can purchase  different types of crop insurance and at different levels.
RMA establishes the terms and conditions that the private insurance  companies selling and servicing crop insurance policies are to use through  the SRA. The SRA provides for the cost allowance intended to cover  administrative and operating expenses the companies incur for the  policies they write, among other things. The SRA also establishes the  minimum training, quality control review procedures, and performance  standards required of all insurance providers in delivering any policy  insured or reinsured under the Federal Crop Insurance Act, as amended.
Under the crop insurance program, participating farmers are assigned (1)  a “normal” crop yield based on their actual production history and (2) a  price for their commodity based on estimated market conditions. Farmers  can then select a percentage of their normal yield to be insured and a  percentage of the price they wish to receive if crop losses exceed the  selected loss threshold. In addition, under the crop insurance program’s  “prevented planting” provision, insurance companies pay farmers who  were unable to plant the insured crop because of an insured cause of loss  that was general to their surrounding area, such as weather conditions  causing wet fields, and that had prevented other farmers in that area from  planting fields with similar characteristics. These farmers are entitled to  claims payments that generally range from 50 to 70 percent, and can reach  as high as 85 percent, of the coverage they purchased, depending on the  crop.
RMA is responsible for protecting against fraud, waste, and abuse in the  federal crop insurance program. In this regard, RMA uses a broad range of  tools, including RMA’s compliance reviews of companies’ procedures,  companies’ quality assurance reviews of claims, data mining, and FSA’s  inspections of farmers’ fields. For example, insurance companies must  conduct quality assurance reviews of claims that RMA has identified as  anomalous or of those claims that are $100,000 or more to determine  whether the claims the companies paid comply with policy provisions.
Congress enacted ARPA, amending the Federal Crop Insurance Act, in  part, to improve compliance with, and the integrity of, the crop insurance  program. Among other things, ARPA provided RMA authority to impose  sanctions against producers, agents, loss adjusters, and insurance  companies that willfully and intentionally provide false or inaccurate  information to FCIC or to an insurance company—previously, RMA had  authority to impose sanctions only on individuals who willfully and  intentionally provided false information. It also provided RMA with  authority to impose sanctions against producers, agents, loss adjusters,  and insurance companies for willfully and intentionally failing to comply  with any other FCIC requirement. In addition, it increased the percentage  share of the premium the government pays for most coverage levels of  crop insurance, beginning with the 2001 crop year. The percentage of the  premium the government pays declines as farmers select higher levels of  coverage. However, ARPA raised the percentage of federal subsidy for all  levels of coverage, particularly for the highest levels of coverage. For  example, the government now pays more than one-half of the premium for  farmers who choose to insure their crop at 75-percent coverage.
section_title: RMA Has Strengthened Procedures for Preventing Questionable Claims, but the Program Remains Vulnerable to Potential Abuse
paragraphs: RMA has taken a number of steps to improve its procedures to prevent  and detect fraud, waste, and abuse, such as data mining, expanded field  inspections and quality assurance reviews. In particular, RMA now  develops a list of farmers each year whose operations warrant an on-site  inspection during the growing season because data mining uncovered  patterns in their past claims that are consistent with the potential for fraud  and abuse. The list includes, for example:  farmers, agents, and adjusters linked in irregular behavior that suggests  collusion; farmers who for several consecutive years received most of their crop  insurance payments from prevented planting indemnity payments; farmers who appear to have claimed the production amounts for multiple  fields as only one field’s yield, thereby creating an artificial loss on their  other field(s); and farmers who, in comparison with their peers, file unusually high claims for  lost crops over many years.
Since RMA began performing this data mining in 2001, it has identified  about 3,000 farmers annually who warrant an on-site inspection because of  anomalous claims patterns. In addition, RMA annually performs about 100  special analyses to identify areas of potential vulnerability and trends in  the program.
RMA also provides the names of farmers from its list of suspect claims for  inspection to the appropriate FSA state office for distribution to FSA  county offices, as well as to the insurance companies selling the policies to  farmers. As a result of these inspections and other information, RMA  reported total cost savings of $312 million from 2001 to 2004, primarily in  the form of estimated payments avoided. For example, according to RMA,  claims payments to farmers identified for an inspection decreased  nationwide from $234 million in 2001 to $122 million in 2002. According to  RMA, some of the farmers on the list for filing suspect claims bought less  insurance and a few dropped crop insurance entirely, but most simply  changed their behavior regarding loss claims.
However, as we testified in 2006, RMA was not effectively using all of the  tools it had available and that some farmers and others continued to abuse  the program, as the following discussion indicates.
Inspections during the growing season were not being used to  maximum effect. FSA was not providing RMA with inspection assistance  in accordance with USDA guidance. For example, between 2001 and 2004,  farmers filed claims on about 380,000 policies annually, and RMA’s data  mining identified about 1 percent of these claims as questionable and  needing FSA’s inspection. Under USDA guidance, FSA should have  conducted all of the 11,966 requested inspections, but instead conducted  only 64 percent of them; FSA inspectors said that they did not conduct all  requested inspections primarily because they did not have sufficient  resources. Moreover, between 2001 and 2004, FSA offices in nine states  did not conduct any of the field inspections RMA had requested in one or  more of the years. Until we brought this matter to their attention in  September 2004, FSA headquarters officials were unaware that the  requested inspections in these nine states had not been conducted.  Furthermore, FSA might not have been as effective as possible in  conducting field inspections because RMA did not provide it with  information on the nature of the suspected abusive behavior or the results  of follow-up investigations. Finally, these inspections did not always occur  in a timely fashion during the growing season. Because of these problems,  the insurance companies and RMA could not always determine the validity  of a claim.
USDA has implemented some of our recommendations to improve  inspection practices. For example, we recommended that RMA more  consistently inform FSA of the suspect claim patterns that it should  investigate. RMA amended its crop insurance policy manual to provide  information more frequently to FSA on suspect claims, as we  recommended, so that FSA can conduct timelier field inspections to detect  potential abuse. Specifically, RMA now provides a list twice a year—in the  fall for crops such as wheat, and in the spring for crops such as corn and  soybeans. However, FSA disagreed with our recommendation that it  conduct all inspections called for under agency guidance, citing  insufficient resources as the reason. Nevertheless, we believe that  conducting these inspections would achieve potentially substantial savings  for the crop insurance program by identifying cases of fraudulent claims.
RMA’s data analysis of the largest farming operations was incomplete.  RMA’s data mining analysis excluded comparisons of the largest farming  operations—including those organized as partnerships and joint ventures.  These entities may include individuals who are also members of one or  more other entities. Because it did not know the ownership interests in the  largest farming operations, RMA could not readily identify potential fraud.  For example, farmers who are members of more than one farming  operation could move production from one operation to another to file  unwarranted claims, without RMA’s knowledge that these farmers  participate in more than one farming operation. RMA could not make  these comparisons because it had not been given access to similar data  that FSA maintains. However, ARPA required the Secretary of Agriculture  to develop and implement a coordinated plan for RMA and FSA to  reconcile all relevant information received by either agency from a farmer  who obtains crop insurance coverage.
Using FSA data, we examined the extent to which (1) farming operations  report all members who have a substantial beneficial interest in the  operation, (2) these farming operations file questionable crop insurance  claims, and (3) agents or claims adjusters had financial interests in the  claim. By comparing RMA’s and FSA’s databases, we found that 21,310  farming entities, or about 31 percent of all farming entities, did not report  one or more members who held a beneficial interest of 10 percent or more  in the farming operation holding the policy. RMA should be able to recover  a portion of these payments because, according to RMA regulations, if the  policyholder fails to disclose an ownership interest in the farming  operation, the policyholder must repay the amount of the claims payment  that is proportionate to the interest of the person who was not disclosed.  According to our analysis, RMA should be able to recover up to $74 million  in claims payments for 2003. USDA has since implemented our  recommendation that FSA and RMA share information on policyholders to  better identify fraud, waste, and abuse. In addition, of the 21,310 entities  failing to disclose ownership interest in 2003, we found 210 entities with  suspicious insurance claims totaling $11.1 million. Finally, we identified 24  crop insurance agents who sold policies to farming entities in which the  agents held a substantial beneficial interest but failed to report their  ownership interest to RMA as required. USDA has since implemented our  recommendation that FSA and RMA share information on policyholders to  better identify fraud, waste, and abuse. RMA, however, has not  implemented our recommendation to recover claims payments to  ineligible farmers or to entities that failed to fully disclose ownership  interest.
RMA was not effectively overseeing insurance companies’ quality  assurance programs. RMA guidance requires insurance companies to  provide oversight to properly underwrite the federal crop insurance  program, including implementing a quality control program, conducting  quality control reviews, and submitting an annual report to FCIC.  However, RMA was not effectively overseeing insurance companies’  quality assurance programs, and for the claims we reviewed, it did not  appear that most companies were rigorously carrying out their quality  assurance functions. For example, 80 of the 120 insurance files we  reviewed claimed more than $100,000 in crop losses or met some other  significant criteria; RMA’s guidance states that the insurance provider  must conduct a quality assurance review for such claims. However, the  insurance companies conducted reviews on only 59 of these claims, and  the reviews were largely paper exercises, such as computational  verifications, rather than comprehensive analysis of the claim. RMA did  not ensure that companies conducted all reviews called for under its  guidance and did not examine the quality of the companies’ reviews. RMA  agreed with our recommendation to improve oversight of companies’  quality assurance programs, but we have not yet followed up with the  agency to examine its implementation.
RMA has infrequently used its new sanction authority to address  program abuses. RMA had only used its expanded sanction authority  granted under ARPA on a limited basis. It had identified about 3,000  farmers with suspicious claims payments—notable policy irregularities  compared with other farmers growing the same crop in the same county— each year since the enactment of ARPA. While not all of these policies  with suspicious claims were necessarily sanctionable, RMA imposed only  114 sanctions from 2001 through 2004. According to RMA officials, RMA  requested and imposed few sanctions because it had not issued  regulations to implement its expanded authority under ARPA. Without  regulations, RMA had not established what constitutes an “FCIC  requirement” and not explained how it would determine that a violation  had occurred or what procedural process it would follow before imposing  sanctions. RMA agreed with our recommendation that it promulgate  regulations to implement its expanded authority, and has developed draft  regulations. Once final, these regulations will allow the agency to fully use  this authority to sanction program violators.
section_title: RMA’s Regulations and Some Statutory Requirements Hinder Efforts to Reduce Abuse in the Crop Insurance Program
paragraphs: While RMA can improve its day-to-day oversight of the federal crop  insurance program in a number of ways, the program’s design, as laid out  in RMA’s regulations or as required by statute, hinders the agency’s efforts  to administer certain program provisions in order to prevent fraud, waste,  and abuse, as the following discussion indicates.
RMA’s regulations allow farmers the option of insuring their fields  individually rather than combined as one unit. Farmers can insure  production of a crop on an individual field (optional units) or all their  fields as one unit. Farmers may want to insure fields separately out of  concern that they could experience losses in a certain field because of  local weather conditions, such as hail or flooding. If farmers instead insure  their entire crop in a single basic insurance unit, the hail losses might not  cause the production yield of all units combined to be below the level  guaranteed by the insurance and, therefore, would not warrant an  indemnity payment. Although insurance on individual fields provides  farmers added protection against loss, this optional unit coverage  increases the potential for fraud and abuse in the crop insurance program.
Insuring fields separately enables farmers to “switch” production among  fields—reporting production of a crop from one field that is actually  produced on another field—either to make false insurance claims based  on low production or to build up a higher yield history on a particular field  in order to increase that field’s eligibility for higher future insurance  guarantees. We reported that of the 2,371 farmers identified as having  irregular claims in 2003, 12 percent were suspected of switching  production among their fields.
According to a 2002 RMA study, losses per unit (e.g., a field) increase as  the number of separately insured optional units increases. However,  according to an RMA official, gathering the evidence to support a yield- switching fraud case requires considerable resources, especially for large  farming operations. RMA disagreed with our recommendation to reduce  the insurance guarantee or eliminate optional unit coverage for farmers  who consistently have claims that are irregular in comparison with other  farmers growing the same crop in the same location. It stated that our  recommendation represents a disproportionate response, considering the  small number of producers who engage in yield switching each year, and  that the adoption of our recommendation would not be cost effective.  Nevertheless, we continue to believe that RMA could tailor an  underwriting rule so that it would target only a few producers each year  and would entail few resources. Such a tool would provide RMA another  means to discourage producers from abusing the program.
Minimal risk sharing on some policies, as set by statute, may not  provide insurance companies with a strong incentive to carry out their  responsibilities under the program. In some cases, insurance companies  have little incentive to rigorously challenge questionable claims. Insurance  companies participating in the crop insurance program share a percentage  of the risk of loss or opportunity for gain on each insurance policy they  write, but the federal government ultimately bears a high share of the risk.  Under the SRA, insurance companies are allowed to assign policies to one  of three risk funds—assigned risk, developmental, or commercial. The  SRA provides criteria for assigning policies to these funds. For the  assigned risk fund, the companies cede up to 85 percent of the premium  and associated liability for claims payments to the government and share a  limited portion of the gains or losses on the policies they retain. For the  developmental and commercial funds, the companies cede a smaller  percent of the premium and associated liability for claims payments to the  government.
Economic incentives to control program costs associated with fraud,  waste, and abuse are commensurate with financial exposure. Therefore,  for policies placed in the assigned risk fund, companies have far less  financial incentive to investigate suspect claims. For example, in one claim  file we reviewed, an insurance company official characterized the farmer  as filing frequent, questionable claims; however, the company paid a claim  of over $500,000. The official indicated that if the company had vigorously  challenged the claim, the farmer would have defended his claim just as  vigorously, and the company would have potentially incurred significant  litigation expenses, which RMA does not specifically reimburse. With this  cost and reimbursement structure, in the company’s opinion, it was less  costly to pay the claim.
RMA and insurance companies have difficulty determining potential  abuse associated with statutory coverage for prevented planting. Under  the Federal Crop Insurance Act, as amended, RMA must offer prevented  planting coverage. RMA allows claims for prevented planting if farmers  cannot plant owing to an insured cause of loss that is general in the  surrounding area and that prevents other farmers from planting acreage  with similar characteristics. Claims for prevented planting are paid at a  reduced level, recognizing that farmers do not incur all production costs  associated with planting and harvesting a crop. However, determining  whether farmers can plant their crop may be difficult. Annually, RMA pays  about $300 million in claims for prevented planting.
Statutorily high premium subsidies may inhibit RMA’s ability to  control program abuse. ARPA increased premium subsidies—the share of  the premium paid by the government—but this increase may hamper  RMA’s ability to control program fraud, waste, and abuse. Premium  subsidies are calculated as a percentage of the total premium, and farmers  pay only between 33 to 62 percent of the policy premium, depending on  coverage level. High premium subsidies shield farmers from the full effect  of paying higher premiums. Because premium rates are higher in riskier  areas and for riskier crops, the subsidy structure transfers more federal  dollars to those who farm in riskier areas or produce riskier crops.
In addition, by regulation, premium rates are higher for farmers who  choose to insure their fields separately under optional units, rather than all  fields combined, because the frequency of claims payments is higher on  the separately insured units. Again, however, because of high premium  subsidies, farmers pay only a fraction of the higher premium. Thus, the  subsidy structure creates a disincentive for farmers to insure all fields  combined. Over one-half (56 percent) of the crop insurance agents  responding to the survey conducted for our 2005 report believed that  charging higher premiums for farmers with a pattern of high or frequent  claims would discourage fraud, waste, and abuse in the crop insurance  program. In our 2006 testimony, we stated that Congress may wish to  consider allowing RMA to reduce premium subsidies—and hence raise the  insurance premiums—for farmers who consistently have claims that are  irregular in comparison with other farmers growing the same crop in the  same location. To date, no action has been taken.
section_title: Compensation to Insurance Companies Has Been Excessive
paragraphs: From 1997 through 2006, USDA paid over $10.9 billion to companies that  participate in the federal crop insurance program in cost allowances and  underwriting gains, as table 1 shows. The $10.9 billion in total payments to  the companies represents 42 percent of the government’s cost of the crop  insurance program—about $26 billion—over this period. That is, more  than 40 cents of every dollar the government spent on the federal crop  insurance program went to the companies that deliver the program, while  less than 60 cents went to farmers. While we provide 10 years of data to  offer a broad perspective and to even out annual losses and gains, the  most recent 5 years of data—2002 to 2006—show similar results.
As discussed earlier, USDA pays both underwriting gains and cost  allowances, as negotiated in the SRA. Since the crop insurance program  was revised under ARPA—that is, from 2002 through 2006—USDA has  paid the insurance companies a total of $2.8 billion in underwriting gains.  In terms of profitability, these underwriting gains represent an average  annual rate of return of 17.8 percent over this 5-year period. According to  industry statistics, the benchmark rate of return for U.S. insurance  companies selling private property and casualty insurance was 6.4 percent  during this period. RMA officials told us that this benchmark rate can be  considered a starting point for measuring the appropriateness of the  underwriting gains in the crop insurance program. However, they stated  that this program should have a somewhat higher rate of return because of  the (1) high volatility of underwriting gains for this program compared  with the relatively steady gains associated with the property and casualty  insurance industry, and (2) lack of investment opportunities when  participating in the program because premiums are paid to the companies  at harvest, not when farmers purchase a policy. But these officials also  said that current rates of return are excessive. USDA renegotiated the  financial terms of its SRA with the companies beginning with the 2005  planting season. In 2005, USDA paid the insurance companies  underwriting gains of $916 million—a rate of return of 30.1 percent. In  2006, USDA paid them underwriting gains of $886 million—a rate of return  of 24.3 percent. The companies received these underwriting gains despite  drought conditions in parts of the country in 2005 and 2006. Adverse  weather conditions, such as drought, normally suggest that insurance  companies would earn lower profits because of greater producer losses.
In addition to underwriting gains, RMA pays companies a cost allowance  to cover program delivery expenses. The allowance is calculated as a  percentage of total premiums on the insurance policies that they sell.  Because the cost allowance is not tied to specific expenses, the companies  can use the payments in any way they choose. From 2002 through 2006,  USDA paid the insurance companies over $4 billion in cost allowances.  Because the cost allowance is a percentage of the premiums, it also  increases when the value of policies companies sell increases, as it does  when crop prices rise. For example, USDA expects the value of policies,  and thereby the cost allowances paid to companies, to increase by about  25 percent from 2006 through 2008. USDA expects these higher policy  values, and ultimately higher cost allowances, because of external factors,  including higher crop prices, particularly for corn and soybeans.  Consequently, the companies and their affiliated sales agents will receive  substantially higher cost allowances without any corresponding increase  in expenses for selling and servicing the policies. Substantially higher cost  allowances provide these companies and their agents with a kind of  windfall. Greater insurance coverage results in higher premiums and  ultimately higher cost allowances; yet, the purpose of this allowance is to  reimburse program delivery expenses.
In this context, USDA has requested the authority to renegotiate the SRA  in its proposals for the Farm Bill. Specifically, USDA recommends  renegotiating the SRA financial terms and conditions once every 3 years.  According to USDA, the crop insurance program’s participation has grown  significantly since the implementation of ARPA. Because higher  participation rates have resulted in more stable program performance, the  reinsured companies have enjoyed historically large underwriting gains in  the last 2 years of the program. Granting USDA authority to renegotiate  periodically would also permit USDA to renegotiate the SRA if the  reinsured companies experience an unexpected adverse impact.
section_title: Conclusion
paragraphs: In conclusion, Mr. Chairman, federal crop insurance plays an invaluable  role in protecting farmers from losses due to natural disasters, and the  private insurance companies that participate in the program are integral to  the program’s success. Nonetheless, as we mentioned before, we identified  crop insurance as an area for oversight to ensure that program funds are  spent as economically, efficiently, and effectively as possible.  Furthermore, a key reason that we identified crop insurance, as well as  other farm programs, for oversight is that we cannot afford to continue  business as usual, given the nation’s current deficit and growing long-term  fiscal challenges.
RMA has made progress in addressing fraud, waste, and abuse, but the  weaknesses we identified in program management and design continue to  leave the crop insurance program vulnerable to potential abuse.  Furthermore, as our work on underwriting gains and losses has shown,  RMA’s effort to limit cost allowances and underwriting gains by  renegotiating the SRA has had minimal effect. In fact, it offers insurance  companies and their agents a windfall. We believe that the crop insurance  program should be delivered to farmers at a reasonable cost that does not  over-compensate insurance companies participating in the program. A  reduced cost allowance for administrative and operating expenses and a  decreased opportunity for underwriting gains would potentially save  hundreds of millions of dollars annually, yet still provide sufficient funds  for the companies to continue delivering high-quality service while  receiving a rate of return that is closer to the industry benchmark.
Congress has an opportunity in its reauthorization of the Farm Bill to  provide USDA with the authority to periodically renegotiate the financial  terms of the SRA with the insurance companies so that the companies’  rate of return is more in line with private insurance markets. Such a step  can help position the nation to meet its fiscal responsibilities.
Mr. Chairman, this concludes my prepared statement. I would be happy to  respond to any questions that you or other Members of the Committee  may have.
section_title: Contact and Staff Acknowledgments
paragraphs: Contact points for our Offices of Congressional Relations and Public  Affairs may be found on the last page of this testimony. For further  information about this testimony, please contact Lisa Shames, Acting  Director, Natural Resources and Environment, (202) 512-3841 or  shamesl@gao.gov. Key contributors to this testimony were James R. Jones,  Jr., Assistant Director; Thomas M. Cook; and Carol Herrnstadt Shulman.
section_title: Related GAO Products
paragraphs: Climate Change: Financial Risks to Federal and Private Insurers in  Coming Decades Are Potentially Significant. GAO-07-760T. Washington,  D.C.: April 19, 2007.
Climate Change: Financial Risks to Federal and Private Insurers in  Coming Decades Are Potentially Significant. GAO-07-285. Washington,  D.C.: March 16, 2007.
Suggested Areas for Oversight for the 110th Congress. GAO-07-235R.  Washington, D.C.: November 17, 2006.
Crop Insurance: More Needs to Be Done to Reduce Program’s  Vulnerability to Fraud, Waste, and Abuse. GAO-06-878T. Washington,  D.C.: June 15, 2006.
Crop Insurance: Actions Needed to Reduce Program’s Vulnerability to  Fraud, Waste, and Abuse. GAO-05-528. Washington, D.C.: September 30,  2005.
Crop Insurance: USDA Needs to Improve Oversight of Insurance  Companies and Develop a Policy to Address Any Future Insolvencies.  GAO-04-517. Washington, D.C.: June 1, 2004.
Crop Insurance: USDA Needs a Better Estimate of Improper Payments to  Strengthen Controls Over Claims. GAO/RCED-99-266. Washington, D.C.:  September 22, 1999.
Crop Insurance: USDA’s Progress in Expanding Insurance for Specialty  Crops. GAO/RCED-99-67. Washington, D.C.: April 16, 1999.
Crop Insurance: Opportunities Exist to Reduce Government Costs for  Private-Sector Delivery. GAO/RCED-97-70. Washington, D.C.: April 17,  1997.
Crop Insurance: Federal Program Faces Insurability and Design  Programs. GAO/RCED-93-98. Washington, D.C.: May 24, 1993.
Crop Insurance: Program Has Not Fostered Significant Risk Sharing by  Insurance Companies. GAO/RCED-92-25. Washington, D.C.: January 13,  1992.
This is a work of the U.S. government and is not subject to copyright protection in the  United States. It may be reproduced and distributed in its entirety without further  permission from GAO. However, because this work may contain copyrighted images or  other material, permission from the copyright holder may be necessary if you wish to  reproduce this material separately.