Whenever a customer writes a premium check for an auto or home insurance product, part of that payment is allocated to servicing the policy.
That is, insurance companies include an expense load in the premium for each policy beyond anticipated losses to offset overhead costs, such as staff salaries, agent commissions, adjusting losses, employee training, computer systems, customer support, office space, marketing, etc. The expense piece also includes a profit component for the insurer.
Unlike other types of insurance, crop insurance policies are not loaded for expenses. Why? Because Congress wanted to make crop insurance policies more affordable so farmers would purchase protection with their own money and leave taxpayers less vulnerable to agricultural risk and ad hoc disaster payments.
Prior to crop insurance’s rise to prominence, Congress was routinely called upon to pass expensive, unbudgeted disaster legislation after extreme weather struck. In fact, from 1989 to 2012, 42 emergency agricultural bills cost taxpayers $70 billion, according to the Congressional Research Service – none of which was funded by farmers.
Congress’ plan to promote private-sector delivered crop insurance as a popular alternative worked. Today, farmers collectively spend almost $4 billion out of their own pockets annually to purchase 1.2 million policies, which cover 290 million acres – or 90 percent of America’s planted cropland.
Of course, private-sector insurance companies cannot afford to deliver and service 1.2 million policies for free. So, the government pays part of the delivery costs to insurance companies on farmers’ behalf.
This is known as an Administrative and Operating (A&O) payment. Unfortunately for crop insurers, A&O payments do not cover all of the costs they incur, which continue to climb as more and more Federal requirements and paperwork are piled on insurance providers.
In fact, A&O payments have fallen short of actual company delivery expenses, with an average shortfall of 6.4 percent from 1998 to 2014. The shortfall in 2014 alone totaled $782 million.
To offset such losses, providers of typical property and casualty insurance lines would simply increase expense loads in the premiums they set. But, crop insurers don’t set premiums – the Federal government does, and those premium rates have been on the decline.
This has made for a challenging business climate in recent years, where some insurance providers have exited the crop insurance business altogether or consolidated their operations. To stop this negative trend, it will be important to ensure that crop insurance remains affordable, widely available, and economically viable.