Farming is an inherently risky enterprise. In conducting their operations, farmers are exposed to financial losses because of production risks— droughts, floods, hurricanes, and other natural disasters—as well as price risks. For decades, the federal government has played an active role in helping to mitigate the effects of these risks on farm income by promoting the use of crop insurance. Through the federal crop insurance program, farmers insure against losses on more than 100 crops. The federal government encourages farmers’ participation by subsidizing their insurance premiums and acting as the primary reinsurer for the private insurance companies that take on the risk of covering, or “underwriting,” losses to insured farmers. These companies achieve underwriting gains when insurance premiums exceed the claims they must pay farmers for crop losses, and they incur underwriting losses if claims paid on the policies exceed the premiums. To cover the expenses of selling and servicing crop insurance policies, the federal government pays companies an A&O allowance. In turn, insurance companies use this money to cover their overhead expenses, such as payroll and rent, and to pay commissions to insurance agencies and agents. Companies also incur expenses associated with verifying—adjusting—the amount of loss claimed. These loss adjustment expenses include, for example, travel expenses to farmers’ fields. The relationships among the federal government, private insurance companies, agencies, agents, and farmers are illustrated in figure 1. To encourage widespread participation in the crop insurance program, the federal government pays the costs of selling and servicing crop insurance policies through the A&O allowance. As designed, this allowance increases when companies sell policies to more farmers, insure additional acreage, or sell a higher level of insurance coverage on acres that are already insured. However, A&O allowances can also increase as a result of higher crop prices without corresponding changes in the number of policies sold to farmers, insured acreage, or levels of coverage. Such increases in A&O allowances—when decoupled from the federal crop insurance program’s interest in promoting more insured acreage and higher levels of coverage—can create additional incentives for insurance companies to expand their market share by raising commission rates. In 2008, RMA provided about $2.0 billion in A&O allowances and an estimated $1.5 billion in underwriting gains to crop insurance companies. Figure 2 shows the A&O allowances and underwriting gains or losses paid to companies for 2000 through 2008. Taking into account all payments, the crop insurance program cost taxpayers about $31 billion for 2000 through 2008, according to the most recent available estimate from the Center for Agricultural and Rural Development at Iowa State University. According to our analysis, RMA paid about $1.93 for every $1.00 in payments to farmers, with the other $0.93 going to insurance companies over the period. Since 2006, when crop prices began to rise sharply, RMA has paid about $2.29 for every $1.00 that reached the farmer, with the balance going to insurance companies. The policies that insurance companies underwrite and service are sold by more than 12,000 insurance agents. Some insurance agencies sell only crop insurance, while others also sell other lines of property and casualty insurance, such as automobile insurance and homeowner’s insurance. These agencies, which are generally independent contractors and receive sales commissions for selling the policies, can sell policies on behalf of multiple crop insurance companies. Farmers must purchase policies by certain “sales closing” dates. These dates correspond to a time before planting season for a given crop in a certain region of the nation. RMA is responsible for administering the federal crop insurance program through a cooperative financial agreement called the standard reinsurance agreement (SRA), which can be renegotiated once during a 5-year period, or as directed by Congress. The SRA incorporates the terms and conditions by which the private insurance companies that sell and service crop insurance policies are to abide. Under the 2008 Farm Bill, RMA may renegotiate the financial terms and conditions of the SRA, effective for the 2011 reinsurance year, beginning July 1, 2010. According to RMA officials, this effort will begin in the spring of 2009. For 2008 and 2009, RMA approved 16 insurance companies to provide federal crop insurance. Premiums for the policies are set by RMA and depend, in part, on the price of the insured crop, although premiums also vary according to the type of insurance plan and the coverage levels that farmers select. A&O allowances are calculated as a fixed percentage of the premium, and they vary depending upon the plan and coverage levels, as shown in table 1. For most policies, the 2008 Farm Bill reduced the A&O allowance rate by 2.3 percentage points beginning in 2009. However, the bill provides an exception to cover higher loss adjustment expenses when needed. Specifically, if a state’s losses are 20 percent higher than the total premiums for that state, only one-half of the 2.3 percentage-point reduction would apply. In addition, the reduction in the A&O allowance rate was larger for area insurance plans than for other plans. The 2008 Farm Bill also repeals a provision of the Federal Crop Insurance Reform and Department of Agriculture Reorganization Act of 1994 that allowed providers to implement “premium reduction plans” with RMA approval. Through these plans, companies could offer a premium discount to farmers that is equal to the amount that the companies’ A&O expenses fell below their A&O allowances for a given year. Thus, these plans offered an incentive for companies to reduce A&O expenses, because they allowed companies to compete for more business by, in effect, reducing the premiums they charged farmers for crop insurance. RMA established guidelines for the submission of the plans in a final interim rule in the Federal Register on July 20, 2005. In commenting on this rule, state insurance regulators expressed concerns that the plans would result in industry consolidation, reducing competition in the long run, and that the plans could create pressure for insurance companies to reduce essential operating expenses, thereby disadvantaging newer companies compared with larger, established companies. State insurance regulators also expressed concerns that the plans constituted a legal form of rebating, the practice of offering something of monetary value to farmers to attract their business. Rebating is generally prohibited by the SRA and by most states, and the 2008 Farm Bill limits the compensation an individual can receive for selling or servicing a crop insurance policy in which he or she has a substantial beneficial interest. Companies’ A&O allowances nearly tripled from 2000 to 2009, primarily because the method that RMA uses to calculate A&O allowances considers the value of the crop and not the crop insurance industry’s actual expenses for selling and servicing policies. Companies spent a large share of their higher A&O allowances on commission payments, in part in an effort to compete for business from insurance agencies. They also reported expenses that are not clearly related to selling and servicing policies, such as legal fees. A&O allowances nearly tripled—from $552 million in 2000 to an estimated $1.6 billion in 2009, according to our analysis of RMA data. The change from 2006 to 2009 was particularly large, rising from an average of $836 per policy to an expected $1,417 per policy. These increases occurred primarily because RMA calculates the allowance as a percentage of the premiums on crop insurance policies, rather than the crop insurance industry’s actual expenses to sell and service policies. Crop insurance premiums change when crop prices change. Thus, the allowance increased sharply from 2006 through 2009, when the prices of major crops increased. Figure 3 shows the prices for these crops—corn, soybeans, and wheat— that RMA used in calculating A&O allowances for 2000 through 2009. These three crops represented about 71 percent of the crop insurance premiums in 2008. According to RMA, A&O allowances will decrease in 2009 because crop prices are expected to decrease and because of the reduction in the A&O allowance rate for most crop insurance policies, as mandated in the 2008 Farm Bill. However, the prices for corn, soybeans, and wheat—the top three crops in the crop insurance program, by premium—are expected to remain relatively high. Thus, using RMA’s estimate of premiums and the current allowance rate, we estimated that allowances in 2009 will be $1,417 per policy, 69 percent higher than in 2006, although down from $1,751 per policy in 2008. The current method for calculating A&O allowances has caused allowance payments to increase along with crop prices, but without a proportional increase in the number of policies, acres, or coverage levels. For 2000 through 2008, A&O allowances increased sharply despite a 13 percent decrease in the number of crop insurance policies—the principal factor affecting companies’ workloads and costs. This increase in A&O allowances has also been substantially greater than the increase in the number of acres covered by the program. Since 2000, the number of acres insured has increased slightly—by 7 percent—excluding insurance for pasture and rangeland. These types of insurance tend to cover large acreages in a single policy and, therefore, add many acres to the program without a proportional increase in the number of policies or in companies’ workloads. With the addition of pasture and rangeland insurance, the number of acres insured has increased by 32 percent since 2000, but these policies represent only about 1 percent of all crop insurance policies. Nor are coverage levels—which have increased from an average of about 61 percent of crop value in 2000 to an average of 67 percent of crop value in 2008—a major factor in the rapid increase in A&O allowances. Because crop prices are a principal factor in the method for calculating A&O allowances, the allowance fluctuates as crop prices rise and fall. Fluctuations make it more difficult for insurance companies to budget and operate effectively over the long term.