Executive Summary

Purpose: The purpose of this report is to provide comments and suggestions based on audits and investigations by the
Office of Inspector General's (OIG) of the Federal crop insurance programs, as administered by the Risk
Management Agency (RMA) and delivered by private reinsured companies in partnership with RMA. Congress and the Administration are developing initiatives to expand Federal crop insurance coverage
with emphasis on market price protection. As part of the ongoing efforts, the Department is proposing to increase the Government's subsidization of premiums while holding losses steady. Because OIG
has already found RMA policies concerning market protection and premium subsidization subject to abuse, we are offering this report as a guide to those areas in the program where we believe constructive
changes are needed to improve risk management, keep premiums affordable, and make the program a more effective safety net for the Nation's farmers and producers.

Results in Brief: Over the past few years, RMA has tried to meet Congress' intent to expand the crop insurance
program and make insurance available to more producers. Within these years the amount of
insurance acreage has doubled, rising to 60 percent of the Nation's insurable acres. However, our reviews have also shown that some RMA policies, particularly those related to risk-sharing with the reinsured companies, have had the effect of increasing premium costs to producers. The increased premiums have resulted in reduced effectiveness of the Federal crop insurance program as a safety net for all producers, and especially for small and limited-resource producers.
In addition, the cost to reimburse reinsured companies for the delivery of the program appears high in comparison to the benefits provided to insured producers. For example, the Catastrophic Risk Protection (CAT) program has resulted in about $2 in administrative payments to reinsured companies for every $1 paid to insured producers in the form
of insurance indemnities.

RMA's current policy of underwriting most of the risk for crop losses has led to problems in program management by both RMA and the reinsured companies. By assigning low overall risk to the companies, the Government has given company managers little incentive to administer the insurance policies in accordance with the Government's best interests. Because the reinsured companies incur minimal costs from reinsured losses, they have little reason to effectively monitor risky
policyholders, little reason to deny claims of questionable losses, and no cause to find fault with their own practices.

As a result of RMA's current risk-sharing policies, more Federal dollars are going to the reinsured companies than are helping producers recover from insurable losses. From 1995 to 1998, producers received a total of $5.4 billion in indemnities, but because only $3.4 billion of this was covered by producers' premiums, the Government paid the remaining $2 billion. At the same time, however, the Government paid reinsured companies a total of $2.8 billion for delivering the program,
$800 million more than it paid in producers' subsidies.

Of the $2.8 billion paid to reinsured companies from 1995 to 1998 to deliver the program, about $510 million covered administration of the CAT program. Of the indemnities paid to producers during the same
period, about $268 million represented CAT indemnities, most of which were paid by the Government.

Our nationwide reviews of the crop insurance program identified several types of abuses by reinsured companies that could be
eliminated by greater risk-sharing by the companies.

- Conflicts of interest persist. Sales agents, loss adjustors, and others have been financially involved with the producers to whom they sold policies or for whom they verified claims. In one case, a sales agent wrote a policy for his employer, a tomato producer, and received about $284,000 in commissions from premiums totaling $1 million while, at the same time, receiving a $60,000-a-year salary from his employer. The employer's subsequent loss claims resulted in the employer receiving about $2.4 million in indemnities.

- Pressure on loss adjustors to rubberstamp policyholders' loss claims. Loss adjustment is a critical step in processing claims.
Adjustors are responsible for verifying losses reported by producers and determining the indemnity amounts due. In the current system, loss adjustors are encouraged to approve questionable claims. For example, in our audit of raisin claims, we found that adjustors used unsupported yield figures to arrive at predetermined loss amounts. Insured raisin producers were able to inflate insured production in loss years to maximize indemnity payments, while their reported production in non-loss years served to minimize premiums.

- Quality control reviews lack objectivity. Reinsured companies' quality control (QC) reviews were found to be superficial and did not provide independent verification of proper claims activities. For example, in numerous audits, indemnities were found to have been improper and/or incorrect. However, the reinsured companies' QC reviews found no problems.

We concluded that reinsured companies do not have an adequate incentive to manage the crop insurance program in an actuarially sound manner. RMA needs to redesign its Standard Reinsurance Agreement to assign greater risk to the reinsured companies. By increasing the companies' risk of loss, we feel that loss adjustors would take greater care in verifying losses and companies would have a vested interest in ensuring compliance by producers and loss adjustors. Under these conditions, reinsured companies' revenue may become more reasonable, and producers' premiums may be more affordable and at
less cost to the Government. In addition to evaluating risk sharing by the reinsured companies, RMA may need to evaluate the cost effectiveness of the current crop insurance program delivery system, including the possibility of a  government-administered delivery system (particularly with respect to the CAT Program).

An alternative to risk sharing is to consider returning the crop insurance program to a Government-administered delivery system. Such a change could be used to control costs. While reinsured companies received an estimated $759 million in 1998 to deliver and administer the Federal crop insurance program, the 1998 estimated budget for FSA (including its entire field office structure) was $721 million. We did not perform an in-depth analysis of this alternative to return to a Government-administered delivery system. Before this alternative is considered, RMA needs to assess these costs and determine the potential economy of a Government-administered delivery system.

While these more macro issues are being considered, RMA needs to take interim measures to strengthen its oversight by increasing its involvement in program activities. These interim measures are necessary and would include random spotchecks of adjustors' loss verifications (emphasizing large claims) and close monitoring of sales agents' and adjustors' compliance with conflict-of-interest requirements.

RMA also needs to change policies and procedures that have had an unacceptable impact on the program. Some policies actually encourage abuse. This impact will be even greater as Congress expands the program (particularly crop revenue or income protection coverage policies), and it will be felt especially in the area of "specialty" crops, like fruits, vegetables, and nursery stock, which often result in a greater per-acre loss value than program crops, like corn and wheat.

(We observed nursery crops indemnified at over $1 million per acre.)  Under current congressional initiatives, more specialty crops are being  added to the program.

- RMA needs to properly research and develop crop insurance policies before implementing them. RMA has approved new
programs or expanded existing programs without fully exploring the new proposals for all potential effects. As a result of RMA's incomplete research, producers have had incentives to plant crops based upon the potential for increased insurance indemnities rather than expected market conditions. In some cases, allegations have emerged that crops will be overplanted, reducing both domestic and international market prices and bringing international criticism of USDA's insurance policies.

For example, RMA approved a new durum wheat policy (effective for the 1999 crop year) which was intended to compensate durum wheat producers for the expected premium in price for durum over other spring wheats. To arrive at this premium price, RMA approved using a 5-year average; however, we feel that 5 years does not provide adequate history for actuarial purposes. RMA ultimately approved a price guarantee that exceeded the actual futures market price for durum wheat by a significant amount. The price resulted in strong producer interest in the durum policy, insofar as the potential per-acre indemnities it could provide could exceed the incomes from other crops. This has led to speculation that more acres of durum will be planted than actual market conditions would encourage. This could give rise to international concerns of overproduction that will result in decreased world prices. RMA has instructed reinsured companies to reduce the price guarantee for
1999 in the northern durum wheat-producing regions (i.e., North Dakota and Montana).

- RMA should avoid policies that result in a moral hazard risk.  Producers who abuse the program represent a moral hazard risk to RMA, and some policies encourage abuse. RMA's optional unit production policy, for example, allows a producer to subdivide his acreage into smaller units and later declare a disaster on some of the units, even though overall production was normal. The policy essentially allows the producer to isolate a "disaster" on a very small unit of land. It also encourages producers to dishonestly "shift" production from one unit to another to create a qualifying loss and to manipulate yields to create a false production history on some units for future claims of losses.

- RMA needs to ensure companies do not aim their sales activities at a select clientele. Because the Government uses reinsured
companies to deliver the crop insurance program, the program becomes financially driven. Reinsured companies are paid
administrative fees based on a percentage of premiums, and they are therefore motivated financially to promote insurance types that have a larger premium (e.g., Crop Revenue Coverage (CRC) policies) or seek out larger producers. There is less incentive for the reinsured companies to serve small producers.

This lack of incentive especially surfaces in the CAT program since "imputed" premiums (that is, what the Government's premium would have been for coverage at that level) are used to determine gains. Underwriting gains are the primary source of revenue to the reinsured companies and their agents for the sale of CAT policies. Therefore, producers with large acreage would result in larger "imputed" premiums and in potentially higher underwriting gains for reinsured companies. By focusing their sales and servicing on large producers, the reinsured companies have marginalized participation in crop coverage by producers at the lower income end of the farm community, thereby reducing the safety net of these programs for small and limited resource producers.

- RMA needs to provide better guidance and instructions to the reinsured companies. Better guidance was especially needed on servicing limited-resource producers. Reinsured companies did not market and sell CAT policies aggressively to limited resource producers. In respect to this, RMA only agreed to implement an outreach program. Participation by these CAT producers in the insurance program fell by 78 percent from 1997 to 1998, the time period when the reinsured companies assumed full responsibility for delivering the CAT Program.

Generally, RMA needs to establish a system for the sharing of both crop losses and underwriting gains that will induce the reinsured companies to establish good business practices in the delivery of the Federal Crop Insurance Corporation (FCIC) programs. This needs to include a system of distribution of underwriting gains that will encourage insurance agents to service small and low-income producers on an equal basis with larger producers. Also RMA needs to strengthen its oversight of the crop insurance program. Although RMA's compliance staff has identified and prevented some of the problems in the program, RMA needs to take a more proactive role in identifying and reporting weaknesses. Additionally, RMA should hold its staff and the reinsured companies accountable for ensuring integrity in the crop insurance program.

Suggested Corrective Actions:  We suggest that RMA revise its Standard Reinsurance Agreement to increase the amount of risk assigned to the reinsured companies on crop insurance program policies. This would encourage economical and
efficient management of programs by the companies and improve their quality control. Alternatively, RMA should evaluate options available for a more cost effective program delivery system, including the possibility of a Government-administered delivery system for the entire program or limited to a portion of the program, such as for the CAT Program.

While these more macro issues are being considered, RMA should strengthen its controls to preclude abuses by reinsured companies and producers. This would include greater monitoring of reinsured companies, sales agents, and loss adjustors. If the reinsured companies were to become full partners with RMA in program risk-sharing, we feel that the reinsured companies would implement the needed controls in their own program management.

Concurrently, RMA needs to assert a larger oversight and monitoring presence in the program by providing greater guidance to the reinsured companies, expanding RMA compliance oversight, and taking measures to improve the companies' quality control.

Additional suggestions for improving the crop insurance program are shown for each of the issues that follow.