OMAHA (DTN) -- Although the crop insurance industry has been negotiating for weeks with USDA on a new contract for expenses and underwriting gains, it wasn't until President Barack Obama released his budget that crop insurers knew USDA was looking to move $8 billion out of the industry's government payments over 10 years.

"That basically confirms to us what had been depicted to us on the Hill," said Keith Collins, a consultant for the National Crop Insurance Services and former USDA chief economist.

The crop insurance industry finds itself on the chopping block as the Obama administration tries to cut programs and shift money to other administration priorities. The president's proposed budget renegotiating the standard reinsurance agreement, or SRA, with insurers would save $800 million a year, just as the administration is seeking to boost spending on child nutrition programs by $1 billion a year.

When describing crop insurance cuts Monday in the president's budget proposal, the administration stated, "Crop insurance companies currently benefit from huge windfall profits due to the structure and terms of the government's contract with the companies called the Standard Reinsurance Agreement (SRA). Through the SRA renegotiation process, which will occur in 2010, USDA will pursue reforms in the financial terms in the SRA that will allow the department to offer the same program benefits to farmers and ranchers with significantly reduced costs -- saving $8 billion over 10 years."

Last year, the Obama administration proposed that Congress cut the premium subsidy for crop insurance by $500 million a year. But farmers would have had to make up as much as 70 percent of those cuts in higher premiums. That proposal moved nowhere in Congress.

The insurance industry points out that insurers took a $3.1 billion cut in the farm bill over 10 years in the projected growth of both underwriting gains and administrative and operating (A&O) expenses. The legislation also delayed $3.3 billion in payments to insurers by as much as nine months in 2012-13. Companies may have to rely on credit to manage costs while waiting for government payments.

"People look at those savings and say they are really not that meaningful because those are delayed payments that you are going to get," Collins said. "But in fact they are going to turn out to be quite meaningful for companies because there will be a long period of time companies will not be able to pay their expenses and they will have to go to credit markets. Credit has been harder to get over the past couple of years. Credit interest has been higher, so that is going to impose a financial burden on companies as well."

Insurance officials say cutting as much as $800 million will affect the services farmers receive and will hurt the smaller crop insurance companies more than larger ones. USDA officials have stated that even with the proposed cuts, crop insurers will continue to receive strong underwriting gains and increases in what USDA pays for administrative and operating costs to the industry.

Industry officials also dispute the claims that crop insurers are generating windfall profits. When it comes to administrative and operating costs, Bob Parkerson, president of the National Crop Insurance Services, said the industry "starts $200 million in the hole" when it comes to the overall costs. Not factored into the A&O, Parkerson said, are costs such as maintaining the software and data needed to implement policies and claims and costs on inspections and investigations or quality control. The industry also issued its own report in response to the Government Accountability Office.

"We somewhat disagreed with that report when it came out," Parkerson said.

A GAO report on crop insurance last April said from 2000 to 2009 A&O allowances "nearly tripled, primarily because USDA's calculation method for A&O allowances considers the value of the crop, rather than the crop insurance industry's actual expenses for setting and servicing policies, which generally remained stable."

Over the past 10 years, agent commissions have increased an average of 16 percent per year. From 2006 to 2009, A&O expenses per policy increased from $836 to $1,417. Still, the A&O reimbursement per policy dropped in 2009 from an average of $1,715 per policy in 2008 when prices were higher.

The industry report makes the case that crop insurance is not more profitable than other lines of property and casualty insurance. Further, crop insurers are required to maintain much higher levels of reserve surpluses than other insurance sectors. From 2000 to 2007, the GAO reported, the crop insurance industry collected $5.6 billion in underwriting gains across the country.

The GAO found that last year companies were prone to listing profit-sharing bonuses as expenses as well as other expenses related to business expansion rather than delivery of services to farmers.

The farm bill also directed Risk Management Agency to look at alternative methods for determining A&O payment rates, taking into account current financial conditions to ensure the viability of the program.

Crop insurance companies told RMA in 2007 that despite increases in A&O allowances, the increased expenses outpace those payments. When new RMA regulations and policies are added, companies must update computer programs, train people and add to their workload. Yet the GAO states that expenses rising above allowances "was largely due to increased spending on commissions, as well as to the reporting of expenses that was inconsistent with RMA guidance, rather than to greater administrative burdens." A&O expenses rose 39 percent from 2006 to 2007 -- from $960 million to $1.3 billion. But the GAO cited that agent commissions increased that same year from $711 million to about $1.1 billion.

Collins argues that the projected growth in A&O expenses in the farm bill is misleading because 2007-08 saw the spike in commodity prices that boosted crop insurance premiums and agent commissions. A&O expenses, which hit $2.1 billion in 2008, have dropped to $1.64 billion for 2009 and are projected at $1.54 billion for 2010 as crop prices have come down.

"You can argue, if you will, the problem is self-correcting," Collins said.

Parkerson added that one of the challenges in negotiating the SRA is that USDA officials have not provided the industry with baseline numbers for the conclusions the Risk Management Agency is making to substantiate the cuts. Parkerson said the industry met with RMA officials about two weeks ago and asked for more transparency in how the agency arrived at its cuts.

"What we sincerely hope is they can give us some type of understanding of how they are arriving at these numbers," Parkerson said. "We really don't know what numbers they're using."

The GAO report stated, "RMA does not know how much an individual company spends on commissions to each of the agencies with which it does business." Instead, RMA requires companies to report their total commissions for each state. The GAO stated, "RMA would be better able to set the A&O allowance rate when it negotiates the SRA with insurance companies if it had more detailed information on commissions provided to individual agencies, such as commission data at the policy level."

Parkerson said USDA officials plan to provide the industry with a second draft of the SRA proposal by mid-February. The crop insurance industry meets next week in San Diego for an annual convention.

Since USDA offered its first proposal in December, USDA officials have met with a variety of people within the industry to discuss the impacts and suggestions. "They said they are taking into consideration everything that they have heard," Parkerson said. "We will want to see the progress in this second draft."

For information from the crop insurance industry about the impact cuts could have, go to http://www.cropinsuranceinamerica.org/…

The Government Accountability Office report on crop insurance can be found at http://www.gao.gov/…

Chris Clayton can be reached at chris.clayton@telventdtn.com

(AG/KM)

© Copyright 2010 DTN/The Progressive Farmer, A Telvent Brand. All rights reserved.