oversight

Financial Audit: Federal Crop Insurance Corporation's Financial Statements for 1989 and 1988

Published by the Government Accountability Office on 1990-09-28.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

                   United   States   General    Accounting   Office

GAO                Report to         the       Congress




September   1990
                   FINANCIAL AUDIT
                   Federal Crop
                   Insurance
                   Corporation’s
                   Financial Statements
                   for 1989 and 1988
United States
General Accounting  Office
Washington, D.C. 20548

Comptroller   General
of the United States

B-114834

September 28, 1990

To the President of the Senate and the
Speaker of the House of Representatives

This report presents the results of our audits of the Federal Crop Insur-
ance Corporation’s financial statements for the fiscal years ended Sep-
tember 30,1989 and 1988. Reports on the Corporation’s internal control
structure and on its compliance with laws and regulations are also
provided.

The Corporation continues to suffer losses, due to claims and adminis-
trative costs exceeding premiums, which will result in the need for addi-
tional government capital to sustain operations. Claims have exceeded
premiums every year since enactment of the Federal Crop Insurance Act
of 1980, with 1989 losses amounting to $548 million. The Corporation’s
 1989 accumulated deficit amounts to $2.6 billion, which has been
financed primarily by transfers of $2.3 billion from the Commodity
Credit Corporation.

Without significant changes in its insurance program operations, the
Corporation’s ability to meet its obligations will depend on continuing
government assistance. The administration’s 1991 budget proposal rec-
ommended the termination of Federal Crop Insurance Program effective
with the 1991 crop year. The Congress is currently debating this issue.

As discussed in more detail later in our report, the 1989 audit disclosed
three reportable conditions regarding (1) the Corporation’s oversight of
reinsured companies, (2) controls over processing and payment of
administrative expenses, and (3) financial reporting systems and
procedures.


The Federal Crop Insurance Corporation is a wholly-owned government
corporation within the Department of Agriculture (USDA). The Corpora-
tion manages a multi-peril crop insurance program intended to stabilize
and protect U.S. farm producers. The program was expanded by the
Federal Crop Insurance Act of 1980 from a localized program covering
only a few crops to a national program covering over 50 different crops
in over 3,000 counties. The 1980 act also authorizes the Corporation to
develop an actuarially sound system of insurance so that the premiums
will cover claims plus build a reserve to provide for large or unusual
claims in the future.


page1
                            B-114834




                            fairly its financial position as of September 30, 1989, and the results of
                            its operations and its cash flows for the fiscal year then ended, in con-
                            formity with generally accepted accounting principles.


                            Arthur Andersen’s report on internal control structure, with which we
Material Internal           concur, discusses three reportable conditions, two of which were consid-
Control Weaknesses          ered to be material weaknesses which could result in additional losses to
Persist                     the Federal Crop Insurance Corporation. These conditions were consid-
                            ered during the audit and do not affect the opinion expressed on the fair
                            presentation of the Corporation’s financial statements.


Oversight of Reinsured      Although a continuing material weakness, the Corporation’s oversight of
Companies                   reinsured companies’ loss adjustment activities has improved. As dis-
                            cussed later in this report, the percent of claims involving overpayments
                            has been declining, according to our reports and one by the USDA Office
                            of Inspector General. The Compliance Division, which was established in
                            1986, contributed to the reduced overpayment rates by monitoring rein-
                            sured companies’ compliance with Corporation standards, particularly
                            those pertaining to loss adjustments. However, Arthur Andersen
                            reported that frequent and more timely reviews of reinsured companies
                            by the Compliance Division would increase its effectiveness. The over-
                            sight issue was identified as a material weakness in our 1988 report on
                            internal controls.

                            The Compliance Division is scheduling additional resources to conduct a
                            review of all reinsured companies every 15 to 18 months and is
                            expanding its areas of coverage to correct this weakness.


Processing and Payment of   During 1989, the Corporation did not have effective internal controls
Administrative Expenses     over the processing and payment of $61 million of certain administra-
                            tive expenses. As discussed later in this report, the Corporation had not
                            established internal accounting control procedures to ensure that all
                            transactions sent to the Department of Agriculture’s National Finance
                            Center (NFC) in New Orleans were accurately processed and recorded.
                            This issue was also identified as a material weakness in our 1988 report
                            on internal accounting controls.

                            Arthur Andersen was able to verify that transactions were properly
                            supported and that the related amounts were accurately reported in the
                            financial statements by (1) obtaining computer tapes from NFC showing


                            Page3
                                           B-114834




The Deficit Has Grown                      Since 1984, the Corporation’s accumulated deficit has increased over
                                           3 times from $766 million to $2.6 billion in 1989. (See figure 1.)
Steadily Since 1984

Flgure 1: Accumulated Deficit for Fiscal
Years 1984 Through 1999
                                           3ooo Dollars In millions


                                           2soo



                                           2ooo




                                                      1994          1965   1966   1967      1968     1999
                                                      Fiscal year




                                           This increasing deficit was caused by a significant shortfall of crop
                                           insurance premiums needed to fund insurance claims and administrative
                                           expenses. The deficit primarily has been financed by $2.3 billion in
                                           funding for insurance losses provided by the Commodity Credit Corpo-
                                           ration. The remaining $0.3 billion was funded from capital stock and
                                           U.S. Treasury borrowings. The program’s worst financial performance
                                           was in 1988, when the program paid out almost 2-l/2 times more in
                                           claims than it collected in premiums. (See figure 2.) During the period
                                            1984 through 1989, program losses added $1.8 billion to the Corpora-
                                           tion’s cumulative deficit.




                                            Page 6                                       GAO/-W107          Federal   Crop Inmmnce   Corporation
                     El14834




                     50 percent by 1985. The amount of eligible acres enrolled in crop insur-
                     ance rose from 9.6 percent in 1980 to 24.5 percent in 1988. Participation
                     rates rose to about 40 percent in 1989 in response to the severity of the
                     1988 drought and requirements that some disaster assistance recipients
                     must purchase crop insurance.


Continued Disaster   The Congress passed the 1980 act anticipating that the insurance pro-
                     gram would eventually replace disaster payments to farmers. However,
Payments Decrease    disaster assistance continues through direct payments and emergency
Participation        loan programs because producers believe that in times of widespread
                     crop failures the Congress will approve disaster relief payments.

                     In response to concerns about the plight of the Corporation, the Con-
                     gress established the Commission for the Improvement of the Federal
                     Crop Insurance Program in 1988. The Commission’s objective was to
                     find ways to lessen, if not eliminate, the need for disaster payments,
                     while providing producers more equitable, efficient, and predictable
                     protection from natural disasters. The Commission completed its study
                     in 1989 and recommended broadening farmer participation, improving
                     responsiveness to farmers’ needs, simplifying the program, and
                     improving program administration.

                     In its 1990 farm bill proposal, the administration recommended
                     replacing crop insurance with disaster payments. These activities by the
                     Congress and the administration reflect the conflict over how best to
                     provide disaster assistance because the promise of disaster payments is
                     viewed as incompatible with a viable crop insurance program requiring
                     producers to pay premiums.

                     In September 19891 and March 1990: we took the position that a well-
                     designed and well-managed crop insurance program can provide disaster
                     assistance more equitably and efficiently than the emergency loan and
                     direct payment disaster programs.




                     ‘Disaster Assistance: Crop Insurance Can Provide Assistance More Effectively     Than Other Programs
                     (GAO/RCED89-211,       September 20,1989).

                      %les, Cost, and Criteria for Assess@ A@iculhm      Disaster Asiitance    Pro@ams Between 1980 and
                      1988 (GAO/T-RCED-90-37,      March 6,lOOO).




                      Page 7                                   GAO/AFMMKl-107        Federal   Crop Intnuance   Carpomtion
                      B-114834




                      administrative costs based upon a fixed percentage of the premium,
                      which includes the reinsured companies’ actual administrative and
                      claims adjustment costs, plus profit.

                      Higher reinsurance costs have also resulted from overpayments of
                      claims by reinsured companies which have cost the Corporation millions
                      of dollars. This was caused by (1) reinsured companies having the
                      authority to settle claims on policies they had sold and (2) a lack of ade-
                      quate monitoring of reinsurance activities by the Corporation.

                      In 1987, we reported that in a sample of selected claims for the 1984 and
                      1985 crop years, about 31 percent of the claims amount was overpaid by
                      reinsured companies.3 This compared to a 1 percent overpayment rate
                      on a sample of direct business claims settled by the Corporation. Subse-
                      quent reviews by us and one by the USDA Office of Inspector General
                      focused on claims adjusted by reinsured companies for crop years 1987
                      and 1988 and found that some improvements had been made. For crop
                      year 1987, we reported that the reinsured companies’ overpayment rate
                      was about 16 percent.4 The Inspector General reviewed crop year 1988
                      claims and found that the overpayment rate was about 13 percent.6
                      Despite these improvements in overpayment rates, the Inspector Gen-
                      eral estimated that nationwide overpayments on corn, soybeans, and
                      wheat reinsured claims amounted to about $80 million in 1988. As dis-
                      cussed in this year’s report on internal control structure, the Corpora-
                      tion’s Compliance Division is making efforts to strengthen its monitoring
                      of reinsured companies to help reduce claims overpayment.


                      We provided a draft of this report to responsible Corporation officials
Comments of           for comment. They concurred with the contents and indicated their com-
Cognizant Officials   mitment to correct the problems noted.

                      During the course of its audit, Arthur Andersen also identified several
                      matters which, although not material to the financial statements, are
                      being communicated for the Corporation’s consideration in a separate
                      management letter.

                      %op Insurance: Overpayment of Claims by Private Companies Costs the Government         Millions
                      (GAO/RCED-88-7,  November 20,19&X7).

                      %ropl                                                       , but Overpayment   Still High (GAO/
                      Rm     90 _32, November 7,1989).

                      SFederal Crop Insurance Corporation Crop Year 1988 Insurance Contracts With Claims, USDA Office
                      of Inspector General, Audit Number 06600-l-Te, September 1989.




                      Page 9                                  GAO/AFB5MMO7        Federal   Crop Insurance     Corporation
Page 11   GAO/AFMD9O-107   Federal   Crop Insurance   Corporation
Page 13   GAO/AFMD-30.107   Federal   Crop Insurance   Corporation
                                             -2-


this budget proposal     includes    only carryover      obligations      from the prior crop
year and a small amount of 1991 administrative              obligations.      The proposed
budget for fiscal    year 1991 also includes        alternative       amounts reflecting
funding under the current       law.     Until Congress adopts, and the President
signs, the Agriculture      appropriations     bill   for fiscal      year 1991, Federal Crop
Insurance Corporation's       Board of Directors      is conducting       normal operations.




Kansas City, Missouri,
  April 13, 1990




                         Page 16                               GAO/AFMD-CM.%107 Federal   Crop Insurance   Corporation
                             Auditors’ Report    on Internal
                             Control structure




                                                     -2-


For all of the internal  control   structure   categories               listed  above,      we obtain
an understanding  of the design of relevant     policies               and procedures       and whether
they have been placed in operation,      and we assessed               control  risk.

We noted certain       matters involving       the Internal    control     structure       and its
operation   that we consider to be reportable             conditions      under standards
established    by the American Institute          of Certified      Public Accountants.
Reportable    conditions      involve   matters coming to our attention             relating      to
significant    deficiencies       in the design or operation         of the internal         control
structure   that,    in our judgment,       could adversely      affect    the entity's        ability
to record,    process,     summarize and report financial           data consistent         with the
assertions    of management in the financial           statements.

We consider     the following       matters      noted during   the course     of our audit      to be
reportable     conditions:

       1.     OVERSIGHT OF REINSURED COMPANIES

              Observations      and FindinsS-

              Federal Crop Insurance Corporation             Compliance Division    performs
              periodic    reviews of reinsured        companies,    sales and service
              contractors     and the Corporation's         Field Service offices     to evaluate
              compliance with contract         provislons.       The Comptroller   Division
              performs periodic      financial     reviews of reinsured       company activity.
              In general,     the Corporation's       reviews have historically       been
              infrequent    and not always completed on a timely basis.              As such,
              the effectiveness     of the reviews are diminished.

              We suggest financial  and compliance   reviews of reinsured    companies
              be performed on a regular,   frequent basis.   These reviews should be
              comprehensive,  and should be completed and results     communicated on a
              timely basis.   Also, all corrective  actlons  required   of the reviewed
              party should be monitored  to ensure implementation     In a timely
              manner.



              Agree.    The Compliance Division   enhanced its review scheduling
              process during fiscal     year 1989 to include a review of each
              reinsured   company, sales and service    contractor   and Corporation
              Field Service office     every 15-18 months.     The Compliance Division
              revlew procedures    were also expanded to cover additional        areas of
              the review entities'    operations,   among other things.      Staffing
              changes were made to provide resources       for implementation      of these
              Compliance Dlvlslon    changes.

              The Comptroller    Division is in the process of revising     the
              scheduling   and format for financial    reviews of reinsured    companies
              to improve coverage of reinsured      company business and timeliness
              of the reviews.




                             Page 17                                   GAO/APMB9&107         Federal     Crop Irw.wance   Cmporation
                           Auditors  Report    on Internal
                           Control structure




Our consideration        of the internal     control     structure     would not necessarily
disclose    all matters In the internal          control     structure     that might be
reportable     conditions,      and accordingly,     would not necessarily         disclose   all
reportable     conditions     that are also considered           to be material    weaknesses
as defined above.          In our opinion,     we believe      the following    reportable
conditions,     which were also identified          by the General Accounting          Office
(GAO) in their      1988 audit of the Corporation,             to be material    weaknesses:

       1.    The Corporatlon       needs to strengthen         its oversight    of reinsured
             companies.      The Corporation        has made improvements as indicated          by
             the establishment         of the Compliance Division          to monitor reinsured
             company activities.          However, the 1989 and 1988 analyses performed
             by GAO and U.S. Department of Agriculture                Office of Inspector
             General,    respectively,       indicated     that the Compliance Division
             reviews did not provide a reliable               basis for conclusions     about
             the overall     quality     and acceptability        of reinsured   company loss
             adjustment     practices.

             This weakness was identified         In previous  audit reports    based on the
             special   studies described      above, which were performed apart from the
             audit process.      Although the Comptroller      and Compliance Divisions
             implemented     changes to address this weakness, these changes were not
             In place throughout       fiscal  year 1989. and no further     studies have
             been performed which would permlt us to assess the effectiveness              of
             the changes and, therefore,        the current   status of reinsured    company
             loss adjustment     practices.     As a result,   we did not note sufficient
             improvement in the Corporation         oversight  durlng the period under
             audit to allow us to remove this item from material            weakness status.

      2.     The Corporation   does not have sufficient        internal    controls     over the
             processing   and payment of administrative        expenses.      Specifically,
             the Corporation   has not established      internal     accounting     control
             procedures   to ensure that all transactions         sent to the U.S.
             Department of Agriculture    National    Finance Center in New Orleans
             were accurately   processed and recorded.

These matters were considered   by us durlng our audit and do not modify                      the
opinion expressed in our auditors'   report dated April 13, 1990.

We also noted other matters involving       the internal control structure and its
operation   that we have reported    to the management of Federal Crop Insurance
Corporation    in a separate letter.

This report is intended for the information        of the board of directors,
management and Congress.      This restriction   Is not intended to limit     the
distribution  of this report,     which is a matter of public   record.


Kansas City, Missouri,
  April 13, 1990




                            Page 19                                   GAO/AFMB90-107       Federal   Crop Insumnce   Corpomtkm
Fhancid Statements


Statements of Financial Position
                                                                             AS OF SEPTEMBER                        30.         1989 AND          1988
                                                                                 (in thousands                             of    dollars)




                                                                                                                                                         1989                          988
                                                                                                                                                                            (Rest:ted               and
                                                                                                                                                                            Reclassified)
                              CURRENT ASSETS:
                                Cash     (Note    4)-
                                   Administrative                    Fund                                                                     t            68,074               t          88,165
                                   Insurance        Fund                                                                                                 995,470                      1.360,482

                                                                                                                                                    1,063.544                         1.448.647

                                   Accounts         receivable-
                                      Reinsured          companies                                                                                       469.417                         231.853
                                      Producers,           net   of allowance     for uncollectible
                                          accounts         of $8.000      in 1989 and $11,000
                                         in IQRR ..“_                                                                                                     49,090                           32,397
                                      Administrative             and other                                                                                  1,838                              504

                                                                                                                                                         520,345                         270.754

                                                  Total      current           assets                                                               1,583.889                         1.719.401

                              FURNITURE      AND EQUIPMENT.                      net of accumulated
                                depreciation       of $2,258                     in 1989 and $1.977                              in
                                1988 (Nate      2)                                                                                                              118
                                                                                                                                             _-----_----
                                                 Total       as*ets                                                                          $ 1.584.667
                                                                                                                                             mm*s.smmmlm




                              CURRENT LIABILITIES:
                                Claims     payable      (Note     2)                                                                         t           788,083                I        831,789
                                Reinsured       companies       (Note                   2)                                                               128,554                          60,388
                                Sales     and service        contractors'                                comnissionr
                                      lNote      2,                                                                                                          9.761                          7,956
                                   A&rued         Eiaims      adjustment       contractors'           WS~S
                                      (Note       2)                                                                                                        4.580                           4,402
                                   Un&rwritjng            gains      due reinsured          companies
                                      (Note       2)                                                                                                      28,000
                                   Administrative             and other _ (Notes          2 and 11)                                                        15,927                          14.028
                                   unearnecl        premnum       (Now    ,,                                                                             130.896                           71.074
                                   Unearned         premium       subsidy    appropriation            (Note                             3)                81.142                        181,080
                                                                                                                                                                                _-_-_--___-
                                                 Total       current          liabilities                                                          1.193.543                        1.176,717

                              LOAN      PAYABLE          TO U.S.           TREASURY              (Note         5,                                        113,000                         113,000

                              RESERVE         FOR LITIGATION                 (Note          6)                                                               1,000                         6,100
                                                                                                                                                                                __---______
                                                 Total       liabilities                                                                           1.307.543                        1,295.817

                              EQUITY:
                                Capital     stock       (Note      7)                                                                                  500,000                           500.000
                                Paid-in     capital         (Note     7)                                                                                37,918                            37,978
                                Donated     capital         (Note     8)                                                                            2,300,OOO                        1.900.000
                                Invested      capital         (Note     2)                                                                                   778                                 703
                                Accumulated         deficit                                                                                       (2.56;J;E;)                       "~Ol~,~~~'
                                Unexpended        appropriations
                                                                                                                                             _-__---____
                                                 Total      equity                                                                                 277,124                              424.281
                                                                                                                                             __-_--____-
                                                 Total      liabilities                and          equity                                   $ 1.584.667                        $ 1.720.104



                                           The     accompanying               notes          are          an

                                                                                                                    -1
                                                                                                                integral              part   of      these         statements




                                                             Page 21                                                                                     GAO/~9@107                               Federal   Crop Insurance   corporation
                                                              Financial Statements




Statements of Cash Flows

                                                        FOR FISCAL             YEARS              ENDED           SEPTEMBER                30.    1989      AND        1988

                                                                                Increase                   (Decrease)                          Cash
                                                                                    (in       thousands                    of    do;;ars)


                                                                                                                                                          1989                        966
                                                                                                                                                                              (Reclassified)

                           CASH FLOW FROM OPERATING   ACTIVITIES:
                             Net loss transferred   to accumulated                                                 deficit                            $ (547.771)                I   (626,124)


                              Adjustments             to reconcile               net       loss      transferred
                                  to accumulated                deficit          to net          cash      inflow
                                  (outflow)           from       operations-
                                      Depreciation               expense                                                                                        268                              249
                                      Net additions               of furniture                 and equipment                                                   (343)                             (32)
                                     Allowance             for    uncollectible                  accounts                                                   (3,000)                      (9.0001
                                      Increase           in receivable               from        reinsured           companies                           (231,564)                     ‘yz~’
                                      (Increase)             decrease          in receivable                 from      producers                           (13,693)
                                      (Increase)             decrease          in administrative                     and
                                          other       receivables                                                                                           (1.334)                          972
                                      Increase           (decrease)           in claims              payable                                              (49.706)                     544,317
                                      Increase           in accrued           claims           adjustment
                                          contractors'              costs        and sales             and
                                          service          contractors'              comissions                                                               1,983                       5,321
                                      Increase           in payable           to reinsured                 companies                                        68,166                       16,703
                                      Increase           (decrease)           in administrative                      and other
                                          liabilities                                                                                                          1,699                   (17,275)
                                     Increase           (decrease)            in underwriting                    gains
                                          due reinsured               companies                                                                            28.000
                                     Increase           in unearned              premium                                                                   59.822
                                     Increase (decrease)                      in unearned                premium         subsidy
                                          appropriation                                                                                                   (93,336)
                                     Decrease           in reserve           for       litigation
                                     Increase           in unexpended                appropriations

                                              Total        adjustments                 to     net          loss                                         (237,407)                     641,319

                                              Net      cash       inflow         (outflow)                     from        operations                   (785.178)                       15,195


                           CASH FLOW FROM INVESTING              ACTIVITIES:
                             Cash    inflows   (outflows)-
                                Net investment         in (retirement                                    of)      contributed
                                   furniture     and equipment                                                                                                        75                       (217)

                                              Net       cash      inflow         (outflow)                     from
                                                    investing           activities                                                                                   75                        (217)


                           CASH FLOW FROM FINANCING         ACTIVITIES:
                              Cash inflovs-
                                 Receipts     of donated  capital      from    the
                                    Commodity    Credit  Corporation        (Note                                          8)                            400,000                      900,000

                                              Net      cash       inflow        from         financing                     activities                    400,000                      900,000

                                              Net      increase            (decrease)                 in        cash                                   (385,103)                      914,978

                                 Cash      balance,             beginning              of    fiscal               year                                1.448.647                       533,669
                                 Cash      balance,             end    of     fiscal              year                                                                           $1.448.647



                                        The    accompanying                 notes           are       an        integral                part     of    these       statements.




                                                                Page 23                                                                                   GAO/AFMD-O-107                          Federal   Crop Inswee   Ckqmation
Notes to Financial Statements

                                                    SEPTEMBER 30. 1969 AND 1968


                     1. ORGANIZATION

                    The Federal Crop Insurance Corporation           (FCIC) was established       with the Federal
                    Crop Insurance      Act (the Act), which was enacted as Title          V of the Agricultural
                    Adjustment    Act of 1938 (52 Statute       72).   FCIC manages a multiple-peril       crop
                    insurance    program to assist    In stabilizing      and protecting     the farm sector of
                    the nation's     economy.    The program was restricted       until   the Federal Crop
                    Insurance Act of 1980 (Public        Law 96-365) expanded the program nationwide             to
                    eventually     phase out the disaster    payment program which was authorized          by the
                    Agriculture     Act of 1949. as amended. Crop insurance            under this program is
                    available    in over 3,000 counties     with policies     covering    50 different
                    commodities.

                    FCIC is a wholly-owned      government corporation     within    the United States
                    Department of Agriculture       (USDA), under the direction        and control of a board
                    of directors.      The board of directors    is appointed     by the Secretary   of
                    Agriculture.     The accompanying financial      statements    include only those
                    operations    under the control    of the board of directors.

                    2. SUMMARYOF SIGNIFICANT ACCOUNTING POLICIES

                    Basis   of Accounting

                    FCIC maintains       separate accounts for the insurance    program and for
                    administrative       support.   However, for financial  statement  presentation
                    purposes.      the two sets of accounts are combined and are presented        on the
                    accrual     basis of accounting    following generally  accepted accounting     principles.

                    Revenue Recoonition      Includino   Federal   Premium Subsidy

                    Premiums (including         premium subsidies)      are recognized   as earned during a
                    fiscal     year based on a pro rata amount with respect to each crop's growing
                    season.       The portion    of premium not recognized        during the fiscal   year is
                    classified      as unearned.       FCIC's risk of loss commences when the crop is
                    planted     and continues     through the respective       growing season until    the crop is
                    harvested,      destroyed    or otherwise    removed from the field.       Premiums are
                    generally      collected    at the end of the growing season when the crops are
                    harvested.       A provision     is made for federal     premium amounts expected to be
                    uncollectible        based on historical     experience.     Under the standard reinsurance
                    agreement,      collection    of premiums on reinsured        company business is the
                    responsibility        of the reinsured    company.




                                             Page 26                                GAO/AFMD-90107     Federal   Crop hsuranee   Corpmdm
                            Financial   Statements




                                                     -3-


Reinsurance      Administrative
ExDenSeS      and Pavables

Section 508(e) of the Act, as amended, authorizes        FCIC to enter into
reinsurance   agreements with private    insurance   companies.  Under these
agreements,    FCIC assumes the majority    of the risk of loss on crop insurance
written   by the reinsured  companies.

The 1989 and 1988 standard reinsurance       agreements provided   for both
proportional     and nonproportional  means by which the reinsured    may cede
business to FCIC. The reinsured       company elects   the methods by which it
intends    to transfer  risk to FCIC through its plan of operation.      The plan
of operation     becomes a part of the reinsurance    agreement for each reinsurance
year (July 1 through June 30).

Proportional       reinsurance      provides   for a one-to-one      percentage      exchange of
losses and premium between the reinsured              company and FCIC. A reinsured
company may not cede to FCIC, under the proportional                   methods, premium that
exceeds 70 percent of its total              book of business for the 1989 reinsurance
contract     year and 57 percent for the 1988 contract              year.     Nonproportional
reinsurance      refers    to mandatory stop loss provisions           which apply to the
reinsured's      entire    retained     book of business after the cessions made under
proportional      methods.       Stop loss reinsurance      may be applied on both a state
and national       level based upon the ratio of the reinsured's                retained    ultimate
net losses to its retained             net book premium.     Limitations      under stop loss
reinsurance      are dependent upon the business retained              and the ratio of losses
to premium.

Premiums and losses are reported             monthly under the standard reinsurance
agreement and an annual settlement              is calculated    whereby the results          of
the business written         by the reinsured       companies are determined        and an
experience-rated        underwriting     gain or loss is computed.           Underwriting       gains
are paid to the reinsured            companies by FCIC at the annual settlement               date,
while underwriting        losses are paid by reinsured          companies to FCIC with the
monthly accounting        reports.      In fiscal    year 1989, the computation           resulted
in a net underwriting          gain of $28 million,       which was reflected       by FCIC as a
liability     as of September 30, 1989. Additional              underwriting      gains of $3.7
million    related    to 1988 and prior years were recorded and paid during fiscal
year 1989, resulting         in total    underwriting     gains to reinsured       companies of
$31.7 million      for fiscal      year 1989.

The standard reinsurance     agreements provided       for reinsurance     administrative
expenses totaling     36.5 percent of reinsurance       premium in 1989 and 37.0 percent
in 1988. The 1989 and 1988 reinsurance          agreements included       an expense
reimbursement    equal to 34 percent of premium plus expense reimbursement                  for
premium taxes (about 2 percent of premium) on policies             reinsured    under
the agreement.     The agreements also provided additional           reimbursements       for
claim expenses,    ranging from .02 percent of premium to 1 percent of premium,
depending on the severity      of the aggregate     loss ratio.     This provision




                              Page 27                                 GAO/AFMD9&107        Federal   Crop Insurance   Corporation
                          Flnanclal Stat4?menta




                                              -5-


3. PREMIUM AND FEDERAL PREMIUM SUBSIDY

There was a substantial     increase    in FCIC's direct   and reinsured    gross premium
volume from $423 million      in fiscal   year 1988 to $760 million      in fiscal     year
1989. The increase      was predominately     attributable  to the following       factors:

      0     Price elections    (guaranteed      crop prices)    for crop year 1989
            increased   by approximately      20 percent,    primarily  due to the effect
            of the drought experienced        in 1988. Producer premiums are based in
            part on price elections.

      0     The Disaster    Assistance    Act of 1988 required uninsured  producers              to
            purchase all-risk      crop insurance  for the 1989 crop year in order               to
            receive  disaster     payments.

      0     Additional  producers purchased all-risk    crop insurance,   largely   due
            to the cumulative    effect of recent drought conditions    and continuing
            drought forecasts.

Section 508(b)(3)     of the Act, as amended, requires         FCIC to pay up to
30 percent of each producers'         premium on coverage elections      up to 65 percent
of recorded or appraised       average yield and a reduced subsidy on elections            in
excess of 65 percent of the applicable          average yield.     The coverage elections
made by producers     resulted    in an overall   average subsidy rate of approximately
25 percent of total      premium for 1989 and 1988.        FCIC receives   a premium
subsidy appropriation       to provide funds for this subsidy.         The premium subsidy
Is recognized   as revenue in the same manner as premium paid by the producer.
Premium subsidy included       in the statement     of loss was $191 million     in fiscal
year 1989 and $104 million        in 1988.

A summary of earned and unearned premium, showing both producer                premium and
the premium subsidy, is shown in the following  table for fiscal               years 1989 and
1988 (in thousands of dollars):

                                                                        Fiscal Year
                                                                  ------------______
                                                                  19891988
      Earned Premium:
        Producer                                                  $538,094     $318.910
        Subsidy                                                    190.545      104,131
                                                                  --------     -_______
            Total                                                 $728.639     $423,041
                                                                  -P---DII     IIIPsseE

      Unearned Premium:
        Producer                                                  $ 97,790     $ 53.300
        Subsidy                                                       33,106       17.774
                                                                  --------     ------__
            Total                                                 $130,896     0 71.074
                                                                  -LI-==P-     IIIPPzmx




                          Page 29                               GAO/AFMD9O-107         Federal   Crop Insurance   Corporation
                                                  -7-


6. RESERVE FOR LITIGATION

FCIC is a defendant     in various   litigation arising    in the normal course of
business.   Damages claimed in such litigation        exceed $80 million.     However,
management does not believe       the impact of settlement      of these cases to be
material.   A $1 million    reserve for settlement      of litigation   has been provided
as of September 30, 1989.

Potential    overpayments    to reinsured       companies of approximately        $8.8 million
in fiscal    year 1989 and $6 million         in 1988 have been identified         by the Office
of Inspector     General,  the General Accounting          Office and the FCIC Compliance
Division.     These overpayments       represent    potential    revenue if collection       is
ultimately    made. However, these claims are subject               to rebuttal    and appeal
by the reinsured      companies, and collections         subsequent to September 30, 1989,
have been immaterial.        Realization      of this revenue is subject        to considerable
uncertainty     and, accordingly,      no receivables      have been included      in the
financial    statements   for fiscal      years 1989 or 1988.

7. CAPITAL STOCK AND PAID-IN            CAPITAL

Section 504(a) of the Act, as amended, directs      and authorizes     capital   stock of
$500 million  subscribed   by the United States of America.       There has been no
change In capital    stock issued since August 15. 1985. As of September 30,
1989, FCIC has issued all authorized     capital stock as follows      (in millions   of
dollars):

                   Public     Law            Issued           Anl!m!a
                        97-103          December 23. 1981       $250
                        97-370          December 18, 1982         150
                        98-396          August 22, 1984             50
                        99-088          August 15. 1985             50
                                                                ----
                                                                $500
                                                                --mm

Unexpended    Balance     of Oriainal     Stock   Issue

The Federal Crop Insurance Act of 1980 directed             the Secretary     of the Treasury
to cancel the original         $200 million  of outstanding     capital   stock of the
Corporation.       Cumulative    expenses of $162 million      were written    off against  the
original     amount of capital     stock leaving  $38 million     which was transferred     to
paid-in    capital   in fiscal    year 1981.

8. DONATED CAPITAL

Restatement of Transfers    From the
Commodity Credit Corporation    (CCC)_

Section    110 of the Federal Crop Insurance Act of 1980 authorized    the Secretary
of Agriculture    to use the funds of the CCC, a government corporation    within

                                                          -




                             page 31                              GAO/AFMD-S&107     Federal   Crop Inemmme   corporation
                                                   -9-


plan, an employee may contribute         (tax deferred)   up to 10 percent of salary to
an investment    fund.    The government then matches this amount up to 5 percent.
Those employees electing       to remain under CSRS will     receive   benefits   now in
place, and may also contribute        (tax deferred)    up to 5 percent of their      salary
to the thrift    plan, with no matching amount contributed          by the government.
FCIC also pays a portion       of the cost of employee life and health insurance.
FCIC contributed     a total   of $4.6 million    for employee benefits     in fiscal   year
1989 and $3.9 million       in fiscal  year 1988.

The value of vested and nonvested benefits,           assets available      for benefits,    and
unfunded pension cost related         to FCIC employees cannot be determined         as this
is a multiemployer      plan.   Although FCIC funds a portion        of pension benefits
under the CSRS relating       to its employees and makes the necessary payroll
withholdings,      it does not disclose     the assets of the CSRS, nor does it
disclose    actuarial   data with respect to accumulated        plan benefits    or the
unfunded pension liability       relative     to its employees.     Reporting   of such
amounts is the responsibility         of the U.S. Office of Personnel Management.

10. LEASE COMMITMENTS

FCIC has entered into operating          lease agreements for certain   of its office
facilities.        Total rent expense amounted to $730,000 in fiscal       year 1989 and
$545,000 in fiscal        year 1988. In addition,     the USDA incurred   rents on behalf
of FCIC totaling        $943.000 In fiscal    year 1989 and $1,300,000  in fiscal   year
1988.       These rental   costs were absorbed by USDA and, therefore,      are not
reflected       in the accompanying   statements.

11. COMMISSION FOR THE IMPROVEMENTOF THE FEDERAL CROP INSURANCE PROGRAM

During 1988. the United States Congress enacted the Federal Crop Insurance
Commission Act of 1988, which established           an advisory    panel to study the
Federal Crop Insurance    program.      Under the statute,      the commission was
specifically  charged with the responsibility          of studying     the program and
recommending improvements.      At September 30, 1989. the Commission had received
$600,000 of the $1.5 million     made available       under this statute.       The remaining
$900.000 is included    in administrative      and other liabilities       on the
accompanying  statement   of financial     position.

12. PROGRAMCONTINUANCE

Since the enactment of the Federal Crop Insurance Act of 1980, the FCIC has
incurred     significant        losses from operations,         due primarily     to the inadequacy
of premiums to cover policyholders'                losses,     and has an accumulated deficit          of
approximately         $2.6 billion      at September 30, 1989. The FCIC has relied                on
additional       funding from CCC and U.S. Treasury borrowings                  to meet its
obligations.          Without significant       changes in insurance         program operations,       the
FCIC will      likely     continue    to suffer    significant     losses and require       additional
assistance       from CCC or other sources of Congressional                funding.




                             Page 33                                    GAO/AlWB~lO7         Federal   Crop -ce   Corpomtion
                ,,.-.,. ., ,-. ,,,   .,-   .-   _
    4
”




                                     Ordering   Information

                                     The first five copies of each GAO report are free. Additional  <II+&
                                     are $2 each. Orders should be sent to the following address,’ :W<II I
                                     panied by a check or money order made out to the .%I-
                                     of Documents, when necessary. Orders for 100 or more w I&C= m 7
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                                     U.S. General Accounting Office
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                                     Orders may also be placed by calling   (202) W3;Y-E


        i




            ‘
                                                              -lO-


           On January 30, 1990, the Administration                 released   its 1991 budget proposal
           which, among other things,         proposed termination           of funding for the Federal
           Crop Insurance    program effective         with the 1991 crop year.              Funding for 1991
           under this budget proposal          includes     only carryover       obligatlons      from the prior
           crop year and a small amount for 1991 administrative                     obligations.         The
           proposed budget for 1991 also includes                alternative     amounts reflecting          funding
           under the current     law.     Until Congress adopts, and the President                   signs, the
           1991 Agriculture     appropriations        bill,    the FCIC Board of Directors             is
           conducting    normal operations.




(B16079)                                Page 34                                    GAO/AFMD-WlO7        Federal   Crop Insurance   Corporation
                                                                                                                                -
                             Financial   statements




                                                        -B-


the USDA, to pay FCIC losses if funds available             to FCIC for that purpose were
insufficient.        Under this authority    $250 million    of CCC funds were transferred
to FCIC during fiscal       year 1981 to pay losses.       This transfer   of funds was
originally      recorded as income during fiscal       year 1981. To more appropriately
reflect      the nature of this transfer    and to be consistent      with the treatment      of
subsequent CCC transfers,        the balances of donated capital       and retained   deficit
as of September 30, 1987, in the accompanying statements              have been restated      to
reflect      the 1981 CCC transfers    as donated capital.

Transfers      of Funds From CCC

At September 30. 1986. FCIC owed CCC $450 million         for funds advanced.      In
September 1987. the $450 million         was designated by USDA as nonreimbursable,
and consequently     has been classified     as donated capital.   Total donated
capital  has been received    from CCC as shown in the following       summary (in
millions  of dollars):

                            Summarv of Donated Capital                                    &Qg,it

       September      30,   1981         CCC transfer                                     $    250
       September      30,   1986         CCC transfer                                          450
       September      30,   1987         CCC transfer                                          300
       September      30.   1988         CCC transfer                                          900
                                                                                          ------
            Balance   September     30. 1988                                                1.900

       September      30. 1989           CCC transfer                                          400
                                                                                          ------
            Balance   September     30, 1989                                              $2,300
                                                                                          =====r

9. EMPLOYEE BENEFITS

 The majority       of FCIC's employees are covered by the Civil                 Service Retirement
 System (CSRS), which is currently               two-tiered.       For employees hired prior to
 January 1, 1984, FCIC withholds              approximately       7 percent of their gross
 earnings,      which is matched by FCIC. The amount withheld                  from employees is
 then remitted        to the Civil     Service Retirement         Fund.    For employees hired on
.or after     January 1. 1984. FCIC withholds,               in addition    to Social Security
 withholdings,        approximately      1.3 percent of their         gross earnings,    but matches
 such withholdings         with a 7 percent contribution.              This second employee group
 will   receive     retirement      benefits   from the CSRS along with the Social Security
 System to which they currently              contribute.       By December 31, 1987, each
 employee covered by the CSRS made a decision                   to remain under the CSRS or
 transfer     to the new Federal Employees Retirement                 System (FERS).

Under FERS, employees will      receive  retirement     benefits   from Social Security,  a
government retirement   benefit     of 1 to 1.1 percent of "high-3"       salary base and
benefits  from a defined contribution       plan (thrift).       Under the contribution




                              Page 32                                GAO/AFMD-30-107     Federal     Crop Insurance   Corporation
                             Financial     Statement5




                                                         -6

A reconciliation        of the unearned             premium subsidy appropriation      is shown in the
following     table    for fiscal years             1989 and 1988 (In thousands      of dollars):

                                                                                   Fiscal Year
                                                                          ----------------------
                                                                                1989             1980

      Beginning     balance,    October         1                         $ 181,080        0    59,936
      Appropriation      received                                             112,000         228,523
                                                                          ---------        ---------
                      Subtotal                                                293,080         288.459

       Fiscal year earned subsidy income                                   (190.5451           (104.131)
       Net increase   in subsidy transferred                  to
          unearned premium                                                    (14.793)           (3,248)
                                                                          ---------        ---------
       Ending   balance,         September    30                          S 87,742         0 181,080
                                                                          -======I=        -wIcPI==I

Since 1981, FCIC has received a total                    of $978 million   in appropriations  for
premium subsidy, of which $890 million                    has been recognized   as of September 30.
1989.

4. CASH IN UNITED STATES TREASURY

FCIC maintains    separate accounts for administrative        support and for
the Insurance   Fund. The administrative        account can only be used to pay
administrative    and operating  costs of FCIC as well as program expenses, and
cannot be used to pay losses.       The Insurance     Fund is used to pay losses and
can also be used to pay certain      administrative     expenses if the operating
appropriation   is not adequate to cover these costs.          The Corporation  does
not earn interest    on cash maintained    in these Treasury accounts.

5. LOAN PAYABLE TO UNITED STATES TREASURY

On August 19, 1985. a promissory       note              was executed between the Secretary       of
Agriculture    and the Secretary   of the               Treasury under the borrowing   authority
granted by section     516(d) of the Act.                  The note allowed the advance of no more
than $113 million,     with the outstanding                 balance originally due January     1,
1988.     In October 1987. the due date                 of the note was extended to January 1,
1990, and further     extended to January                1. 1992 on December 20, 1989.

Interest     on the unpaid principal         balance outstanding    is payable semiannually
on January 1 and July 1 at a rate equal to the current                  average market yield on
outstanding      obligations     of the United States of comparable maturities               during
the month preceding          the issuance of such notes or obligations.            Interest,
however, does not accrue unless FCIC's cash balance in the Insurance                      Fund
falls    below $113 million.         When this occurs,     interest   is calculated      on a daily
basis on the difference          between $113 million     and FCIC's cash balance.            No
interest     expense was incurred        during fiscal   years 1989 and 1988 as FCIC's cash
balance with Treasury did not fall             below $113 million.




                                 Page 30
                                                  -4-


resulted    in an additional     reimbursement     of .5 percent of premium in 1989
and 1 percent in 1988. Total reinsurance             administrative  expenses were
$266 million    and $155 million      for fiscal    years 1989 and 1988, respectively,
of which $129 million        and $60 million     was shown as a payable to reinsured
companies at September 30, 1989 and 1988, respectively.

QDeratinq        ADDrODriatiOnS

In addition     to the annual appropriation    for premium subsidy,    FCIC also
receives     an annual appropriation    for administrative, operating,    reinsurance
administrative      and other program expenses, except for uncollectible       accounts
and interest      expense.

The administrative      appropriation       is intended to cover substantially            all
expenses other than losses incurred,             the provision     for uncollectible        accounts
and interest     expense.    When the administrative         appropriation       is sufficient     to
cover applicable      expenses,     the Corporation's      accounting     policy    is to prorate
the appropriation      between fiscal      years as premiums are earned.              However, in
fiscal   years 1989 and 1988, the administrative             appropriation       was not adequate
to cover actual obligations.            Excess expenses of $147 million            and $14 million
not covered by appropriation           have been reported      in the statements        of loss for
the fiscal    years ended September 30, 1989 and 1988, respectively.                     These
expenses have been paid out of the Insurance               Fund. All administrative            and
program expenses have been reported            in the fiscal     years incurred        as a result
of the premium deficiencies          which existed.

Depreciation of Furniture    and
EaUiDment and Invested    Capital

Depreciation    expense of $268,000 and $249,000 was recorded in fiscal                years
1989 and 1988. respectively.          Furniture      and equipment is stated at cost and
depreciated    using the straight-line        method over the estimated       useful lives
of the related     assets, ranging from five to nine years.            Invested    capital   is
recorded at the cost of furniture           and equipment acquired,      as all furniture      and
equipment purchases are paid for through the annual operating                 appropriation
at the time of purchase.       Invested      capital    is decreased by the amount of
depreciation    and asset retirements        during a fiscal     year.

Administrative        and Other

The liability  for administrative           and other expenses includes       $2.2 million    for
accrued annual leave for fiscal           year 1989 and $2.1 million       for 1988.     This
amount is not administratively           funded by current   appropriation      from Congress.

Reclassification        of Prior   Year Amounts

Certain    reclassifications        have been made to the fiscal  year 1988 financial
statements     to conform      to the classification  used in fiscal  year 1989.




                               Page 28                                GAO/AFMD9&107       Federal   Crop Insurance   Corporation
                           Financial   statements




                                                    -2-


Claims    Recoqnition

Liabilities  for claims payable and related      claims adjustment       expenses are
established  using estimates   of incurred    but unpaid claims based on historical
experience,  adjusted  for changes in crop growing conditions.            Since the
calculations  of claims payable and claims adjustment           expenses payable are
necessarily  based on estimates,    the ultimate    liabilities      may be more or less
than the estimates.

Sales and service        contractors'       commissions,   claims adjustment      expenses and
reinsurance      administrative       expenses are usually      covered by operating
appropriations:       however, these expenses may be paid in part from insurance
program funds if appropriated             funds are not sufficient        to pay these expenses.
Indemnity     losses are paid from premium proceeds,             including    premium subsidy,
and Commodity Credit Corporation              (CCC) transfers.

In fiscal     years 1989 and 1988, because claims incurred          exceeded the premium
earned, a premium deficiency        existed  as defined in the Statement of Financial
Accounting     Standards No. 60 "Accounting       and Reporting   by Insurance
Enterprises"      (SFAS 601. The aggregate      loss ratio    for 1989 was approximately
1.5 ($1.50 of claims for every $1.00 of premium, approximately               25 percent of
which is a federal       subsidy and 75 percent of which is paid by the producer)
and approximately       2.5 for 1988. Accordingly,      all anticipated     claims,   claims
adjustment     expenses and acquisition     costs in excess of unearned premiums to
which they relate       at September 30. 1989 and 1966, were recognized          in the
fiscal    year incurred.

Acauisition     Costs

FCIC includes      only sales and service         contractors'     commissions and reinsurance
administrative       expenses as acquisition         costs since they are the only expenses
that vary with, and are directly            related    to, acquiring    new and renewal
business.      SFAS 60 requires     insurance       companies to capitalize      and amortize
acquisition      costs in proportion      to premium revenue recognized.           However, as a
result    of the premium deficiencies          which existed     in fiscal   years 1989 and
1988, all acquisition        costs related       to contracts    sold during those years were
recognized     in the year sold and no costs were deferred               to subsequent periods.

Sales    and Service    Contractors'      Commissions

The standard sales and service       contractor  agreements for 1989 and 1988
provided   for a commission rate of 20 percent of premiums.            The Disaster
Assistance    Act of 1988 provided    for a reduction     of commissions paid on
contracts    sold in 1989 as a result     of the mandatory insurance       requirement of
the Act.     FCIC determined   the amount of this reduction       should equal 3 percent
of premiums.     This resulted    in an overall  effective    rate of approximately    19.8
percent of premium for 1989 crop year sales and service            contractors'
commissions.




                            Page 26                               GAO/AFMD40-107      Federal   Crop Insurance   Corpcmtion
Statements of Equity

                                                                            FOR FISCAL    YEARS ENDED SEPTEMBER 30,            1989 ANO 1988
                                                                                            (In thousands of dollars)



                                                                                         capita1         Paid-In       Donated           Invested     Accumulated            Unexpended         Total
                                                                                          Stock         C:~;:i;d,     ,C$+;;,,           Capital        D;:i:i;             Appropriations      Equity


  BALANCE, September               30,     1987                                          $500,000        $37,978      s      750,000       6 920      $(1,142,911)               $2,584      S 148.571

    Restatement     to reflect                1981 Commodity
      Credit    Corporation                transfer  (Note 81                                                               250,000         -                 (250,000)
                                                                                         ________ _____-_             ----------           __-__
  BALANCE AS RESTATED,                   September     30,       1987                      500,000         37,978       1,000,000             920          l1,392.911)             2,584        148.571

    Net loss       for    fiscal         year                                                                                    -          _                 (626.3731                       1626.373)

    Transfer       of invested             capital      for      depreciation                                                               (249)                    249

    Net capital          additions                                                                                                              32                                                        32
    Net   increase        in   unexpended            appropriations                                                                                                                2.057            2,057

    Transfers      from Commodity                 Credit
       Corporation      (Note 8)                                                                                           900,000          -                                                    900,000
                                                                                                                      ---_--_-_-           _____      --_________                 ---_-_     - - - - - - _- _
  BALANCE. September               30,     1988                                                                         1,900,000             703          (2,019,035)             4,641         424,287

    Net   loss     for    fiscal          year                                                                                   -          _                 (548,039)                        (548,039)

    Transfer       of invested             capital         for   depreciation                                                               (2681                    268

    Net capital          additions                                                                                                              343                                                      343
    Net increase          in   unexpended            appropriations                                                                                                                   533                533
    Transfers      from Commodity                 Credit
       Corporation      (Note 8)                                                                                           400,000           -                                                   400,000
                                                                                          ----_-_-        ---_-__     -__-----__           _____          -___I______             -_-___     - - - - - - __ _
  BALANCE,       September         30,     1989                                           $500,000        $37,978     $2,300,000           S 778          6(2.566,806)            $5,174     $277,124
                                                                                                                      __________           ii===          illli=ill=i                        ________ -



                                                                  The accompanying        notes     are an integral   part      of these    statements.




                                                                                Page 24                                                GAO/AFMB9@1W               Federal   Crop Insurance   Corporation
                                                Finamid    Statements




Statements of Loss

                                          FOR FISCAL YEARS ENDEDSEPTE BER 30.               989 AND 1986
                                                       (in thousands ofMdollars:

                                                                                                1989                  986
                                                                                                              (Reclksified)
                     REVENUES:
                       Premium (Notes 2 and 3)-
                         Direct premium                                                     f      90,588       $      61.963
                         Reinsurance premium                                                     669,701              361,078
                         Underwriting  gains to reinsured               companies                (31,650)
                                                                                            ----------          ----------
                                                                                                 728.639             423,041
                       Interest    income                                                            4,352               4,750
                       Other                                                                         5.162               2.661
                                                                                            ---------_          ----------
                                  Total     revenues                                             738,173             430.472
                                                                                            ----------          ----------
                     EXPENSES:
                       Insurance claims (Note 2)-
                          Direct claims                                                          156.946             151,263
                          Reinsurance claims                                                     980.929             tlt35.816
                                                                                            ----------          ----------
                                                                                              1.137.875           1,037,061
                                                                                            ----------          ----------
                       Administrative      expenses-
                         Reinsurance administrative      (Note 2)                               265.890               154,663
                         Sales and service contractors'       cormaissions
                             (Note 2)                                                              18.632              13,616
                         Claims adjustment contractors'       costs (Note 2)                         7.059              7,441
                         Provision     for uncollectible  accounts                                   1.256              1,629
                         Claims litigation                                                              321             2,795
                         Interest     expense                                                           264
                         Salaries     and other expenses (Notes 9. 10 and 11)                      60.867              55,2:::
                                                                                            ----------          ----------
                                                                                                 354,291             235,439
                                                                                            ----------          ----------
                                  Total     expenses                                          1.492.166           1,272,520
                                                                                            --_----___          ----------
                                  Loss from operations                                          (753.993)           (842.048)
                                                                                            ----------          --------_-
                     OTHER FINANCING SOURCES:
                       Operating appropriations           (Note 2)                               205.954             215,675
                                                                                            ----------          --------_-
                                  Net loss for fiscal        year                               (548,039)           (626,373)

                       Credit arising    from transfer   of invested           capital
                         for depreciation    on contributed    assets          (Note 2)                266                 249
                                                                                            ----------          ----------
                                  Loss transferred        to accumulated      deficit       $ (547,771)         $ (626,124)
                                                                                            -I..=====*          ====I=====


                               The accompanying        notes are an integral        part   of these     statements.




                                                 Page 22
Auditors’ Report on Compliance With Laws
and Regulations

                                          ARTHUR           ANDERSEN          &    Co
                                                  KANSAS CITY, M,ssor.~r



                            REPORT ON COMPLIANCE WITH LAWS AND REGULATIONS


      To the Comptroller   General of the United               States   and
      the Board of Directors   of the
      Federal Crop Insurance Corporation:

      We have audited the financial       statements    of Federal Crop Insurance Corporation
      as of and for the year ended September 30, 1989. and have issued our report
      thereon dated April    13. 1990. We conducted our audit in accordance with
      generally    accepted auditing   standards and Government Auditins       Standards,
      issued by the Comptroller      General of the United States.        Those standards
      require   that we plan and perform the audit to obtain reasonable           assurance
      about whether the financial      statements    are free of material    misstatement.

      Compliance with laws and regulations            applicable    to Federal Crop Insurance
      Corporation     is the responsibility        of the Corporation's      management.    As part of
      obtaining    reasonable      assurance about whether the financial         statements   are free
      of material     misstatement,      we performed tests of the Corporation's          compliance
      with certain      provisions    of laws and regulations,       as listed   below.    However,
      our objective      was not to provide an opinion on overall            compliance with such
      provisions.

            0     Federal    Crop Insurance         Act,   as amended (7 U.S.C.           1501-1520).     and
                  related    regulations;

            0     Anti-Deficiency         Act (31 U.S.C.       1341-15191;

            0     Debt Collection         Act of 1982 (31 U.S.C.            3711-3719);

            0     Prompt Payment Act (31 U.S.C.               3901-3906);        and

            0     Government        Corporation     Control    Act of 1945 (31 U.S.C.          9105).

      The results    of our tests indicate    that, with respect to the                   items tested,
      Federal Crop Insurance Corporation        complied,    in all material                respects,     with
      the provisions     referred to in the preceding       paragraph.   With               respect to items
      not tested,    nothing came to our attention       that caused us to                believe     that the
      Corporation    had not complied,   in all material      respects,  with               those provisions.

      This report  is intended for the information        of the board of directors,
      management and Congress.       This restriction   is not intended to limit     the
      distribution   of this report,     which is a matter of public   record.




      Kansas City, Missouri,
        April 13, 1990




                                      Page 20                                      GAO/AFMD9@-107       Federal   Crop Insurance   Corporation
                            Auditors'   Report on Internal
                            Conti1sh?lcture




                                                    -3-


      2.    CONTROLOVER ADMINISTRATIVE EXPENSES PROCESSED
              BY THE U.S. DEPARTMENTOF AGRICULTURE
              NATIQBAL FINANCE CENTER (NFC)

            Qbservatlons        and Flndincy-

            The Corporation     has not established  procedures   to ensure all
            transactions    sent to NFC for processing    are accurately   processed                  and
            recorded.

            We suggest documents sent to NFC for processing   be reconciled   to
            administrative expense reports generated  to ensure all transactions
            were processed and recorded.



            Agree.     NFC has designed an on-line      Fund Control which will have the
            capability    of following   an individual    obligation through the payment
            process.     The Corporation   is currently    working to provide data base
            access for all cost centers.

      3.    FINANCIAL REPORTING SYSTEMS


            Observations-
            The Corporation        experiences     long delays between the end of its
            fiscal    year and the completion          of the financial         reporting     process.
            The delays result        from a number of problems,            including:       substantial
            manual manipulation         required     to finalize     system-generated         financial
            information;      lack of timely and reliable            financial      information
            regarding     premiums and losses;         incomplete      documentation      of year-end
            closing    and financial       statement     preparation     procedures;      and a
            shortage of personnel          resources dedicated         to the accounting         and
            financial     reporting     function.

            We suggest the Corporation       investigate alternatives     for improving
            its financial     reporting  systems and procedures      to minimize or
            eliminate     the delays caused by the problems noted above.



            Agree.     The Corporation's    management will   examine its year-end
            closing    process and Identify    improvements necessary to expedite
            preparation     of the annual financial    statements.

A material  weakness is a reportable          condition     in which the design or operation
of the specific    internal    control    structure     elements does not reduce to a
relatively   low level the risk that errors or irregularities               in amounts that
would be material     in relation      to the financial       statements being audited may
occur and not be detected within          a timely period by employees in the normal
course of performlng      their assigned functions.




                             Page 18                                   GAO/AFMDS@1O7Federal           CropInawanceCorporation
Auditors’ Report on Internal Control Structure


                                              ARTHUR         ANDERSEN            &   Co
                                                    KANSAS (.ITY.      >~ISSOI:RT




                                      REPORT ON INTERNAL CONTROL STRUCTURE



        To the Comptroller   General of the United                 States    and
        the Board of Directors   of the
        Federal Crop Insurance Corporation:

        We have audited the financial       statements    of Federal Crop Insurance Corporation
        as of and for the year ended September 30. 1989, and have issued our report
        thereon dated April    13, 1990. We conducted our audit in accordance with
        generally    accepted auditing   standards and Government Auditine       Standa ds
        issued by the Comptroller      General of the United States.        Those standird;
        require   that we plan and perform the audit to obtain reasonable           assurance
        about whether the financial      statements    are free of material    misstatement.

       In planning    and performing    our audit of the financial   statements   of Federal
       Crop Insurance Corporation,        for the year ended September 30. 1989, we
       considered   its internal     control  structure  in order to determine our auditing
       procedures   for the purpose of expressing       our opinion on the financial
       statements   and not to provide assurance on the internal        control  structure.

        The management of Federal Crop Insurance               Corporation        is responsible          for
        establishing      and maintaining      an internal     control      structure.         In fulfilling
        this responsibility,        estimates    and judgments by management are required                      to
        assess the expected benefits           and related     costs of internal           control      structure
        policies     and procedures.       The objectives      of an internal          control     structure      are
        to provide management with reasonable,              but not absolute,           assurance that assets
        are safeguarded      against    loss from unauthorized          use or disposition.             and that
        transactions      are executed in accordance with management's authorization                           and
        recorded properly       to permit the preparation            of financial       statements        in
        accordance with generally          accepted accounting         principles.         Because of inherent
        limitations     in any internal      control    structure,      errors or irregularities               may
        nevertheless     occur and not be detected.            Also, projection          of any evaluation           of
       the structure       to future periods is subject            to the risk that procedures may
        become inadequate      because of changes in conditions                or that the effectiveness
        of the design and operation          of policies     and procedures may deteriorate.

       For the purpose of this report,  we have classified    the significant       internal
       control structure policies  and procedures  in the following     categories:

              0      Reinsured Company Premiums and Claims
              0      Direct   Insurance Premiums and Claims
              0      Treasury
              0      Purchasing
              0      Payroll




                                    Page 16                                        GA0/AFMD.90.107      Federal   Crop I, lwrance   corpolntlon
Auditors’ Opinion


                                           ARTHURANDERSEN                &   Co.
                                                KANSAS CITY. M~ssorr~r




       To the Comptroller   General of the United            States   and
       the Board of Directors   of
       Federal Crop Insurance Corporation:

       We have audited the accompanying statement of financial               position  of
       Federal Crop Insurance Corporation          as of September 30, 1989. and the related
       statements   of loss, cash flows and equity for the fiscal             year then ended.
       These financial     statements     are the responsibility      of the Corporation's
       management.     Our responsibility       is to express an opinion on these financial
       statements   based on our audit.         The financial    statements   of Federal Crop
       Insurance Corporation      as of September 30. 1988, were audited by other auditors
       whose report dated September 15. 1989, emphasized the Corporation's                 continued
       losses from operations       and the need for additional        government funding to
       sustain operations.

       We conducted our audit in accordance with generally                 accepted auditing
       standards and Government Auditina           Sta da ds issued by the Comptroller              General
       of the United States.          Those standard!     r:quire    that we plan and perform the
       audit to obtain reasonable          assurance about whether the financial            statements
       are free of material        misstatement.     An audit includes       examining,     on a test
       basis,   evidence supporting        the amounts and disclosures         in the financial
       statements.      An audit also includes        assessing    the accounting     principles      used
       and significant      estimates     made by management, as well as evaluating              the
       overall   financial     statement presentation.          We believe   that our audit provides
       a reasonable     basis for our opinion.

       In our opinion,     the financial     statements   referred   to above present fairly,
       in all material     respects,     the financial   position   of Federal Crop Insurance
       Corporation    as of September 30, 1989, and the results          of its operations,   cash
       flows and changes in equity for the fiscal            year then ended in conformity    with
       generally   accepted accounting       principles.

       As discussed        in Note 12. the Federal Crop Insurance Corporation               has
       experienced       recurring      losses from operations        and has an accumulated deficit     of
       approximately         $2.6 billion     at September 30. 1969. Without significant           changes
       in insurance       program operations,         the Corporation     will   likely continue to
       suffer    significant       losses and require      additional     government funding.    In
       addition,     the Administration         released its 1991 budget proposal on January 30,
       1990, which, among other things,              would terminate      funding for the Federal Crop
       Insurance program effective             with the 1991 crop year.         Funding for 1991 under




                                  Page14
Contents


Letter                                                                                                      1

Auditors’ Opinion                                                                                       14

Auditors’ Report on                                                                                     16
Internal Control
Structure
Auditors’ Report on                                                                                     20
Compliance With
Laws and Regulations
Financial Statements                                                                                    21
                       Statements of Financial Position                                                 21
                       Statements of Loss                                                               22
                       Statements of Cash Flows                                                         23
                       Statements of Equity                                                             24
                       Notes to Financial Statements                                                    25

Figures                Figure 1: Accumulated Deficit for Fiscal Years 1984                                  5
                            Through 1989
                       Figure 2: Premiums and Claim Losses for Fiscal Years                                 6
                            1984 Through 1989
                       Figure 3: Direct and Reinsured Coverage                                              8




                       Abbreviations

                       NFC       National Finance Center
                       USDA      United States Department of Agriculture


                       page 12                       GAO/AFMBW107   Federal   Crop Jnswance   Corporation
E-114834




We are sending copies of this report to the Director of the Office of Man-
agement and Budget, the Secretary of the Treasury, the Secretary of
Agriculture, and the Board of Directors of the Federal Crop Insurance
Corporation.




Charles A. Bowsher
Comptroller General
of the United States




Page 10                        GAO/AFMD-OS107   Federal   Crop hwumce   Corporation
                                          B114a4




Reinsurance Program Has                   The 1980 act mandated that the Corporation offer a program of reinsur-
                                          ante to the private sector. Prior to the act, crop insurance was sold and
Resulted in Higher Costs                  serviced primarily by Corporation employees. Since passage of the act,
                                          however, the Corporation has steadily increased the amount of insur-
                                          ance written by private companies, which it reinsures. As shown in
                                          figure 3, reinsured business has increased from 55 percent in 1984 to
                                          88 percent in 1989.


Figure 3: Direct and Reinsured Coverage
                                          PWZd




                                          Administrative costs for the reinsurance program have been higher than
                                          the administrative costs for the direct insurance program over the
                                          6 years ended September 30, 1989. These administrative costs do not
                                          include the cost of Corporation support salaries and other costs allo-
                                          cable to both the direct and reinsurance service delivery systems.
                                          Expressed as a ratio of costs to premiums, direct insurance administra-
                                          tive costs averaged 24 percent during the period 1984 through 1989,
                                          while reinsurance administrative costs for those same years averaged
                                          37 percent. Standard reinsurance agreements provide for payment of



                                           Page 8                        GAO/AFMLHO-107   Federal   Crop Jnsurance   corpOmtion
                                          B-114834




Figure 2: Premiums and Claim Losses for
Fiscal Years 1994 Through 1999            1ZW    Dothm   In milllans
                                                                                                                                       e
                                          1100                                                                                ..*--
                                                                                                                     ,*I---

                                          1009                                                                   l
                                           909                                                               /
                                           099                                                           z




                                                                        1688            1957                     1990                 1989



                                                 -         Premiums
                                                 -1-g      Ckimlmsea



                                           Premiums have not kept pace with claims due to a reluctance by the
                                           Corporation to raise rates and thereby risk reducing program
                                           participation.

Expansion Has Resul.ted in                 Although crop insurance has been available to producers since 1938,
                                           growth in the program was slow because of restrictions on operations in
Increased Losses                           high-risk areas as well as budget limitations. Prior to 1981, the crop
                                           insurance program covered selected crops in certain counties and pro-
                                           ducers paid the full cost of the premium. Claims have exceeded pre-
                                           miums every year since the 1980 act expanded the insurance program
                                           nationwide, as discussed previously. However, the Corporation has not
                                           established premium rates that adequately cover losses on insured crops
                                           and that would enable it to build a reasonable reserve against losses, as
                                           authorized by the act. The Corporation is concerned that higher pre-
                                           mium rates would reduce producer participation in the crop insurance
                                           program.

                                            A cornerstone of a financially sound insurance program is sufficient
                                            participation to spread losses. An actuarial analysis of the 1980 act’s
                                            provisions indicated that participation by producers would reach


                                            Page 8                         GAO/-W-107          Federal   Crop Insurance       Corporation
                         B114t334




                         how Corporation expenses were processed, (2) comparing the tapes to
                         detailed transaction registers to verify transactions processed, and
                         (3) tracing a sample of transactions from registers to source documenta-
                         tion. To correct this weakness, the National Finance Center has designed
                         an on-line fund control system for obligations and is working to provide
                         this data base to the individual Corporation cost centers that input the
                         data.


Financial Reporting      Although not a material weakness that could result in additional losses,
                         the Corporation’s ability to prepare and compile financial information,
Systems and Procedures   including financial statements, was considered to be a reportable condi-
                         tion. Arthur Andersen found a number of problems that contributed to
                         long delays in the completion of accounting functions, particularly at
                         year-end. These included the inability of financial systems to generate
                         needed data, incomplete documentation of closing procedures, and a
                         shortage of financial personnel.

                         The Corporation is examining its year-end closing procedures to identify
                         areas for improvement in order to expedite preparation of its future
                         annual financial statements,


                         Arthur Andersen’s report on compliance with laws and regulations, with
Compliance With          which we concur, disclosed nothing to indicate that the Federal Crop
Laws and Regulations     Insurance Corporation had not complied with such applicable laws and
                         regulations that could have a material effect on the financial statements.

                                            -
                         This section of our report provides additional information on the Fed-
The Corporation’s        era1 Crop Insurance Corporation’s financial condition. The Corporation’s
Financial Condition      accumulated deficit is growing, and its premium revenues are insuffi-
Is Bleak                 cient to cover insurance claims and expenses. Contributing factors to the
                         Corporation’s large losses include the expansion of the program as
                         required by the Federal Crop Insurance Act of 1980; low producer par-
                         ticipation; adverse weather conditions, particularly the 1988 drought;
                         and competition with the disaster payments program. The shift from
                         direct insurance to third-party private reinsurance has also resulted in
                         more claim overpayments and higher administrative costs.




                          Page 4                        GAO/AFMIMW107   Federal   Crop Insurance   Corporation
                       5114834




                       Crop insurance covers unavoidable production losses due to any adverse
                       weather conditions including drought, excessive rain, hail, wind, hurri-
                       canes, tornadoes, and lightning. It also covers losses due to insects, plant
                       disease, floods, fire, and earthquakes. Crop insurance does not cover
                       losses due to neglect, poor farming practices, or theft. Producers can
                       insure for 50,65, or 75 percent of expected crop yield. The Corporation,
                       through appropriated funds, subsidizes the premium up to a maximum
                       of 30 percent for coverage at 65 percent of expected crop yield.

                       The 1980 act expanded the program in anticipation of phasing out the
                       Disaster Payment Program which was authorized by the Agriculture Act
                       of 1949. The 1980 act also encouraged the sale of crop insurance
                       through privately licensed agents and brokers. Private insurers now
                       write 88 percent of the crop insurance, which is reinsured by the Corpo-
                       ration against extraordinary operational and actuarial losses. Reinsured
                       companies sell and service crop insurance policies under their own
                       names and are responsible for making claim adjustments.

                       The remaining 12 percent of the crop insurance is written by the Corpo-
                       ration through private agents for crops and geographic areas not cov-
                       ered by private insurers, or in cases where farmers prefer to buy
                       insurance through private agents who also handle their other insurance
                       needs. Also, some farmers prefer to buy their insurance directly from
                       the Corporation instead of through reinsured companies. The Corpora-
                       tion is directly responsible for all losses and for adjusting claims on the
                       policies it writes.


                        We are required to conduct an audit of the Corporation at least once
Opinion on Financial    every 3 years under the provisions of 31 U.S.C. 9105. To fulfill our
Statements              responsibility, we contracted with the independent certified public
                        accounting firm of Arthur Andersen to conduct a financial audit of the
                        Corporation for the year ended September 30,1989. We determined the
                        scope of the audit work, monitored its progress at key points, reviewed
                        the working papers of the certified public accountants, and performed
                        other procedures as we deemed necessary. The 1989 audit was con-
                        ducted in accordance with generally accepted government auditing stan-
                        dards. The prior financial audit of the Corporation for the year ended
                        September 30, 1988, was conducted by us (GAO/AFMD90-43, April 18,
                         1990).

                        In our opinion, and consistent with the opinion of Arthur Andersen, the
                        Federal Crop Insurance Corporation’s financial statements present


                        Page 2                         GAO/AFMIHW-107   Federal   Cmp Insurance   Corporation