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Crop Insurance Primer

Overview

Producers have two basic options to participate in the federal crop insurance program. They can elect to secure an insurance policy that compensates them if they experience a loss in crop yields or if they experience a decline in revenue. The insurance policies are sold and serviced entirely through 16 private insurance companies-independent insurance agents are paid sales commissions by the companies.

The U.S. Department of Agriculture (USDA) decides which crops in which regions are eligible for crop insurance. USDA makes that decision on a crop-by-crop and county-by-county basis depending on producers' interest in crop insurance and the level of risk associated with a particular crop in a particular region. Policies are available for more than 100 crops, but four crops-corn, cotton, soybeans, and wheat-account for more than two-thirds of all the acres enrolled in crop insurance programs according to the Congressional Research Service. 1

Cost to Taxpayers

Taxpayers subsidize much of the cost of yield-based or revenue-based insurance policies. Taxpayers pick up most of the cost of insurance premiums that producers would otherwise have to pay in an actuarially sound insurance program. According to the Congressional Research Service, taxpayers, on average, cover 60 percent of the premiums across all of the multiple crop insurance options available to producers. In addition, the federal government reimburses private crop insurance companies for their "administrative and operating" cost at between 22 and 24 percent of total premiums, again according the Congressional Research Service. Finally, taxpayers are liable for a significant share of the payments that go to producers in the event of a yield or revenue loss. The amount of administrative and operating expense reimbursements and of losses covered by taxpayers are determined in "Standard Reinsurance Agreements" negotiating between the U.S Department of Agriculture and private crop insurance companies. These agreements are currently being renegotiated.

The cost to taxpayers of supporting the crop insurance program has increased significantly recently according to the U.S. Department of Agriculture, Risk Management Agency.

Cost of Crop Insurance Program, 2001-2009.

Fiscal Year Cost($ Millions)
2001$3,162
2002$3,466
2003$3,588
2004$3,125
2005$2,699
2006$3,571
2007$3,940
2008$5,737
2009$7,271

Source: USDA Risk Management Agency. 2

Subsidies to reduce the cost of crop insurance premiums that producers pay have been the largest source of increases in cost to taxpayers. Premium subsidies have increased from $1.7 billion in 2001 to $5.2 billion in 2009. Premium subsidies more than doubled between 2006 and 2009, from $2.5 billion to $5.2 billion according to USDA Risk Management Agency. The cost of administrative and operation expense reimbursements increased from $648 million to $1.6 billion in 2009. Overall, taxpayers provide about 80 percent of the revenue to the private crop insurance companies that offer policies to producers according to Dr. Bruce Babcock, Director of the Center for Agricultural and Rural Development at Iowa State University. 3

How Crop Insurance Works

The basic structure of crop insurance is the same, whether a producer chooses a yield-based or revenue-based policy. The producer chooses a certain level of insurance covering different levels of yield or revenue loss. The amount a producer pays in premiums increases with the level of coverage. The cost to taxpayers in premium subsidies and administrative and operation reimbursement also increases with the level of coverage chosen by a producer. For more detailed information of the variety of yield-based and revenue-based insurance options, see the USDA Risk Management Agency at http://www.rma.usda.gov/policies/

Yield-Based Crop Insurance

When electing to participate in the crop insurance program, the producer selects both the percentage of yield loss of the crop covered by the crop insurance policy and the percentage of the market price of the covered crop based on estimated market conditions.

The most basic level of coverage is so-called catastrophic coverage. Under this policy the producer receives a payment for losses greater than 50 percent of "normal" yield and 55 percent of the estimated market price of the crop. Taxpayers pick the total cost of the premium for catastrophic coverage. Producers can select or "buy-up" higher levels of insurance coverage. Producers can buy-up policies that cover 50 percent of yield losses and 100 percent of estimated market price of the covered crop or up to 75 percent of yield losses and 100 percent of estimated market price for that crop. Taxpayers subsidize a lower percentage of the premium as the level of coverage goes up, but the costs to taxpayers go up as the coverage level increases but the premium costs also go up.

So-called "Actual Production History" (APH) crop insurance policies account for over 90 percent of the yield-based policies sold, according to the Congressional Research Service. APH policies insure producers against yield losses from "natural" causes such as drought, flood, frost, insects and disease. The amount of the payment a producer receives depends on the level of yield loss and price protection the producer has elected.

Revenue-Based Crop Insurance

Revenue-based insurance policies operate in much the same way as yield-based policies except that producers insure a target level of revenue based on the market prices of the covered crop and the producer's yield history. As with yield-based policies, the producer can select higher levels of revenue insurance. The percentage of the total premium paid by a producer increases as the amount of revenue covered by insurance increases. The cost total cost of premiums goes up as coverage goes up, which means the cost to taxpayers also goes up with higher levels of production even as the share of the premium covered by taxpayers goes down. The producer receives a payment when his or her actual revenue falls below the insured target level of revenue if the producers experience a loss of yield, a decline in prices, or some combination of both.

Revenue-based insurance policies were first introduced as a pilot program in 1997. By 2003, revenue-based policies covered more acres than those covered by APH policies, according to the Congressional Research Service.

Geographic Concentration of Crop Insurance Payments

Crop insurance policy payouts are highly concentrated geographically. Because only four crops-corn, cotton, soybeans, and wheat-account for over two-thirds of the acres insured, crop insurance payouts tend to go to counties that produce a lot of those four crops.

Historically, crop insurance payouts, based on yield loss, have gone to counties vulnerable to extreme weather. With the introduction of revenue-based policy, payouts have also been concentrated on counties that have experienced swings in commodity prices, or some combination of yield losses and price declines.

2009 RMA Crops' Indemnities

Source: USDA Risk Management Agency. 4

References

1 Shield, Dennis A. Federal Crop Insurance: Background and Issues. Congressional Research Service, R40532. April 17, 2009.

2 U.S. Department of Agriculture, Risk Management Agency. Costs and Outlays of Crop Insurance Program http://www.rma.usda.gov/aboutrma/budget/costsoutlays.html

3 Babcock, Bruce A. Examining the Health of the U.S. Crop Insurance Industry. Iowa Ag Review, Volume 15, Number 4. Fall 2009. http://www.card.iastate.edu/iowa_ag_review/fall_09/article1.aspx

4 U.S. Department of Agriculture, Risk Management Agency. Crop Indemnities Maps. http://www.rma.usda.gov/data/indemnity/index.html