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4,200 | ances in grant accounts that have reached their end date and are eligible for closeout. Based on this understanding of the guidance, NASA reported in its 2011 PAR that in 2009 there were about 1,650 expired grants with $18 million in undisbursed balances. In comparison, when reporting on amounts in expired appropriations in their previous year’s PAR, NASA reported over 2,100 expired grants with $58 million in undisbursed balances for 2009. In its 2011 PAR, NSF reported on neither the amount of grants funded |
4,201 | with expired appropriations nor on the amount of undisbursed balances in grant accounts that have reached their end date and are eligible for closeout. Instead, NSF reported the amount of funding that was deobligated as a result of successfully closing out grants. For example, NSF reported that in fiscal year 2011, the agency closed out a total of 18,648 grants. As a result, $35,204,328 in undisbursed balances were deobligated and retained for adjustments to existing obligations and an additional $5,610,54 |
4,202 | 6 was deobligated and returned to Treasury.illustrates how closing out grants allows an agency to redirect unspent funds or return the funds to Treasury as appropriate. It does not, however, provide information on the number of grants past their grant end date or the balances remaining in these grant accounts. In our review of CFO Act agencies’ annual performance reports for fiscal years 2009 to 2011, we found that systematic, agencywide information on undisbursed balances in grant accounts eligible for clo |
4,203 | seout is largely lacking in part because OMB guidance does not provide explicit instructions to agencies to track undisbursed balances for grants that are eligible for close out. Other than the four agencies receiving explicit instructions from OMB and the information reported by independent auditors, we found only one federal agency—the Environmental Protection Agency (EPA)—reported agencywide information on the timeliness of grant closeout. EPA developed an agencywide performance metric—the percentage of |
4,204 | eligible grants closed out—in part as a response to our prior findings that the agency had a large backlog of grants in need of closeout.out 99.5 percent of eligible grants from 2009 and earlier and 93.4 percent In its 2011 AFR, EPA reported that it closed of grants that expired in the prior fiscal year. As part of our prior work we concluded that while EPA’s performance measure did not assess compliance since it did not reflect the 180-day closeout standard, the measure was a valuable tool for determining |
4,205 | if grants were ultimately closed. EPA does not provide information in its AFR on the amount of undisbursed funds that remain in expired grants. While we have noted progress in EPA’s recovery of funds from expired grants in our prior work, we have also observed that EPA’s budget justification documents do not describe the amount of deobligated funding available for new obligations; such information could be useful to Congress because the availability of these funds could partially offset the need for new fun |
4,206 | ding. We found that information on timely grant close out in other agencies’ performance reports was limited to sections of the performance reports prepared by independent auditors, where two agencies’ auditors raised concerns related to timely grant closeout. Our analysis shows that there has been an improvement in closing out expired grant accounts with undisbursed balances in PMS since our 2008 report. Undisbursed balances in these accounts declined from roughly $1 billion at the end December 2006 to a l |
4,207 | ittle more than $794 million at the end of September 2011, despite a significant increase in annual grant disbursements through PMS during this time. However, more work needs to be done to further improve the timeliness of grant closeout and reduce undisbursed balances. In our 2008 report, we found that agencies can improve their grant closeout process when they direct their attention to the issue and make timely grant closeout a high priority. Since this time, HHS has increased attention on grant closeout, |
4,208 | and both the agency and its independent auditor have reported that progress has been made toward addressing the agency’s existing backlog of grant accounts in PMS eligible for closeout. The dormant account report developed by Treasury offers further encouragement by raising agencies’ awareness of undisbursed balances in inactive grant accounts in the ASAP system. We have found that agencies can raise the internal and external visibility of the issue of undisbursed balances and improve performance by report |
4,209 | ing on undisbursed balances in grants that are eligible for closeout in agencies annual performance reports. However, the number of agencies that have voluntarily provided this information in their performance reports is limited. We therefore reiterate our previous recommendation, not yet implemented, that OMB should instruct all executive departments and independent agencies to report on the status and resolution of the undisbursed funding in grants that have reached the grant end date in their annual perf |
4,210 | ormance reports, the actions taken to resolve the undisbursed funding, and the outcomes associated with these actions. OMB’s implementation of Section 537 of the Commerce, Justice, Science, and Related Agencies Appropriations Act of 2010 and subsequent legislation creates a framework for such reporting. However, interviews with agency officials and variations in agencies’ responses to OMB’s instructions indicate that additional clarification is needed, particularly to the definition of “expired grant accoun |
4,211 | ts,” if this information is to be effectively used by agency management, OMB, and Congress to address the backlog of grants in need of closeout. The definition included in guidance issued by OMB equates “expired grant accounts” with grants funded with expired appropriations and therefore includes active grant agreements still in the implementation phase for which the agency would have valid reasons to make future disbursements. By instead focusing on undisbursed balances obligated to grant agreements that h |
4,212 | ave reached the end of their period of performance and are eligible for closeout, OMB could better direct agency management focus toward a subset of grants in need of more immediate attention. OMB could also better direct agency management’s focus by putting an emphasis on grants that have not been closed out several years past their expiration date. As time passes, these funds become more susceptible to improper spending or accounting as monitoring diminishes over time. OMB’s guidance currently does not ad |
4,213 | dress grants with no undisbursed balances remaining. The presence of tens of thousands of expired grant accounts in PMS with no undisbursed funds remaining raises concerns that these accounts are not receiving sufficient attention. Reducing the number of accounts with zero balances remaining would help ensure that administrative and financial closeout—the final point of accountability for these grants—is being completed. It would also minimize the amount agencies pay in potential fees for maintaining these |
4,214 | accounts, which can accumulate over time. In addition to the previous recommendation reiterated above, we recommend that the Director, OMB, take the following three actions: Revise the definition of “undisbursed balances in expired grant accounts” in future guidance issued to agencies, including those required to report under Section 536 of the Commerce, Justice, Science, and Related Agencies Consolidated Appropriations Act, 2012, to focus on undisbursed balances obligated to grant agreements that have reac |
4,215 | hed the grant end date and are eligible for closeout, as described in this report. Instruct agencies with undisbursed balances still obligated to grants several years past their grant end date to develop and implement strategies to quickly and efficiently take action to close out these grants and return unspent funds to the Treasury when appropriate. Instruct agencies with expired grant accounts in federal payment systems with no undisbursed balances remaining to develop and implement procedures to annually |
4,216 | identify and close out these accounts to ensure that all closeout requirements have been met and to minimize any potential fees for accounts with no balances. We provided a draft of this report to the Administrator of the National Aeronautics and Space Administration; the Attorney General; the Director of the National Science Foundation; the Acting Director of the Office of Management and Budget; and the Secretaries of Commerce, Health and Human Services, and Treasury. OMB staff provided the following comm |
4,217 | ents via e-mail: “OMB is in general agreement with GAO’s recommendation in regards to providing better guidance for agencies in the management and closeout of expired grants with undisbursed balances. We are in the process of reviewing and streamlining our grant policy guidance to the agencies and will consider these recommendations.” The Chief Financial Officer and Assistant Secretary for Administration at DOC and the Assistant Secretary for Legislation at HHS responded with written comments, which we have |
4,218 | reprinted in appendixes IV and V. Staff at the other agencies provided technical or clarifying comments, which we incorporated as appropriate, or had no comments. As agreed with your offices, unless you publicly announce the contents of this report earlier, we plan no further distribution until 30 days from the report date. At that time, we will send copies to the Administrator of the National Aeronautics and Space Administration; the Attorney General; the Director of the National Science Foundation; the A |
4,219 | cting Director of the Office of Management and Budget; and the Secretaries of Commerce, Health and Human Services, and Treasury. We will also make copies available to others upon request. In addition, the report will be available at no charge on the GAO website at http://www.gao.gov. If you have any questions about this report, please contact Stanley J. Czerwinski at (202) 512-6806 or [email protected] or Beryl H. Davis at (202) 512-2623 or [email protected]. Contact points for our Offices of Congressional |
4,220 | Relations and Public Affairs may be found on the last page of this report. Key contributors to this report are listed in appendix VI. Our objectives for this report were to evaluate: (1) the amount of undisbursed funding remaining in expired grant accounts including the amounts that have remained unspent for 5 years or more and for 10 years or more, (2) issues raised by GAO and federal inspectors general (IG) related to timely grant closeout by federal agencies, and (3) what actions the Office of Management |
4,221 | and Budget (OMB) and agencies have taken to track undisbursed balances in grants eligible for closeout. To address the first objective, we analyzed data from two federal payment systems: the Payment Management System (PMS) administered by Department of Health and Human Services’ (HHS) Program Support Center (PSC) and the Automated Standard Application for Payments (ASAP) system administered jointly by the Department of the Treasury (Treasury) and the Federal Reserve Bank of Richmond. Federal payment system |
4,222 | s facilitate the transfer of cash payments from federal awarding agencies to grantees. Some agencies make grant payments directly to grantees using their own proprietary payment systems, while others enter into arrangements with payment systems that serve multiple agencies to make payments on their behalf. The PMS and ASAP systems were selected for review based on the following criteria: 1. These payment systems provide payment services to other federal departments and entities. In 2011, offices from 13 fed |
4,223 | eral departments and other federal entities used PMS for making grant disbursements, and offices from 9 federal departments and other federal entities used ASAP for grant disbursements. See appendixes II and III for a full list of federal entities that use PMS and ASAP for payment services. 2. These payment systems account for a significant percentage of civilian federal grant disbursements. Based on fiscal year 2010 data, the most recently available at the time of our selection, PMS made about $411 billion |
4,224 | in grant disbursements, or 68 percent of all civilian federal grants disbursements in fiscal year 2010, and ASAP made payments of an additional $45 billion in grant disbursements, or 7 percent of all civilian federal grant disbursements in that year. In 2011, PMS and ASAP disbursed $415 billion and $62 billion in federal grant funding, respectively, or 79 percent of all civilian federal grant disbursements in fiscal year 2011. PMS is a centralized grant payment and cash management system, operated by HHS’s |
4,225 | Program Support Center (PSC) in the Division of Payment Management (DPM). According to DPM, the main purpose of PMS is to serve as the fiscal intermediary between awarding agencies and the recipients of grants and contracts. Its main objectives are to expedite the flow of cash between the federal government and recipients, transmit recipient disbursement data back to the awarding agencies, and manage cash flow advances to grant recipients. PSC personnel operate PMS, making payments to grant recipients, mai |
4,226 | ntaining user/recipient liaison, and reporting disbursement data to awarding agencies. Awarding agencies’ responsibilities include entry of authorization data into PMS, program and grant monitoring, grant closeout, and reconciliation of their accounting records to PMS information. Awarding agencies pay PSC a service fee for maintaining accounts and executing payments through PMS. PMS continues to charge agency customers a servicing fee until an account is closed. To update our previous analysis of undisburs |
4,227 | ed balances in expired grant accounts and provide a degree of comparability, we replicated the methodology used in our 2008 report. Namely, to determine the amount of undisbursed balances in expired grant accounts, we analyzed PMS data from closeout reports PSC makes available to PMS customers each quarter. These closeout reports list all expired grant accounts that, according to the data system, have not completed all of their closeout procedures. An account is considered expired in PMS if (1) the grant en |
4,228 | d date is more than 3 months old and (2) the latest date of disbursement was at least 9 months old. PMS does not close a grant account until instructed to do so by the awarding agency. For each grant account, the report includes such information as the identification number, the amount of funding authorized for the grant, the amount disbursed, and the beginning and end dates for the grant. The grant end date is a mandatory field completed by the awarding agency. PSC provided us with the PMS quarterly closeo |
4,229 | ut report for the end of fiscal year 2011 (September 30, 2011). PSC appended to the closeout data an additional field showing the applicable number from the Catalog of Federal Domestic Assistance (CFDA) for each grant account. We used the CFDA number provided by PSC to help determine which accounts to exclude from our analysis. The purpose of these exclusions was to avoid including accounts that would distort the calculation of undisbursed funds in expired PMS grant accounts and to provide comparability wit |
4,230 | h our previous findings. Our criteria for excluding accounts were consistent with We excluded a total of 115 the methodology we used in our 2008 report.grant programs—both HHS and non-HHS—based on the following: We excluded accounts from our analysis that did not have a defined end date. The purpose of the PMS closeout report is to alert awarding agencies of accounts in PMS that remain open after their posted end date. If a grant does not have a defined end date, such as the Temporary Assistance for Needy F |
4,231 | amilies, then HHS staff consider the PMS closeout report merely as a reminder to the awarding agency of the open account and that PMS continues to charge fees on this open account. We excluded expired accounts associated with the following HHS block grant programs: Community Mental Health Services Block Grant, Preventive Health and Health Services Block Grant, Substance Abuse and Preventive Treatment Block Grant, Maternal and Child Health Services Block Grant, Social Services Block Grant, Low Income Housing |
4,232 | Energy Assistance Block Grant, and Community Services Block Grant. An independent audit of PMS stated that (1) the funds for these block grants continued to be available to the grantees until the obligation/expenditure period expired, and (2) traditional financial reporting requirements do not apply to these programs. We excluded grant accounts with a negative undisbursed balance, meaning that total payments to the grantee exceed the authorized amount. According to PSC officials, an overadvancement on a PM |
4,233 | S account can occur if the awarding agency reduces a grant’s authorization limit below the amount already paid to the grantee because the awarding agency determines that the grant recipient is entitled to a lesser amount than the agency originally authorized. Agencies use their accounting systems to send authorization transactions to PMS. If an agency’s authorization transaction will create an overadvanced account in PMS, the transaction is sent to an exception file for review. The agency must override the |
4,234 | exception to transmit an authorization transaction that causes an overadvanced account. According to officials from PSC, agencies will do so (1) if they want PSC to initiate a collection action to recover the overadvanced amount or (2) for grantees with multiple grant accounts in PMS that are “pooled,” to redistribute charges to open grant accounts to correct the overadvanced grant. We excluded accounts that were excluded in our 2008 analysis because the CFDA number and program description had been deleted |
4,235 | from the Catalog before 2000 (the last Catalog entry would have been in 1999) or we could not find any information on the CFDA number either in CFDA or in the CFDA Historical Index, which provides the history of all CFDA numbers. We excluded accounts if we could not associate them with a grant program. For instance, we found some PMS accounts that, based on the most recent CFDA, were for nongrants. We included expired accounts that were associated with grants or cooperative agreements that had a time limit |
4,236 | for spending the funds. We also included accounts for letters of credit. According to PSC officials, almost all accounts in PMS are grants or cooperative agreements with the exception of a few letters of credit. The recipient of a letter of credit may not be required to meet the same performance reporting requirements as the recipient of a grant, but, as with grants, they are required to meet certain reporting requirements, such as submitting a Federal Financial Report (SF-425). Letters of credit, according |
4,237 | to PSC officials, also have end dates in PMS comparable to grants and follow the same the same closeout procedures in PMS. PSC informed us that it would not be able to exclude letters of credit from the data they provide us. For reporting purposes, we separated data into two sets of expired grant accounts: (1) one set consisted of expired accounts for which all of the funds made available had been disbursed and (2) a second set of accounts that included expired accounts with a positive undisbursed balance. |
4,238 | To obtain an estimate of the total amount of fees paid for maintaining accounts with no undisbursed balances remaining, we requested data from PSC for all accounts that appear on the year-end fiscal 2011 closeout report (i.e., as of September 30, 2011) with a unique accounting status symbol indicating that no undisbursed balances remained and that the awarding agency only needed to submit the final closeout code to PSC to finalize grant closeout. According to data provided by PSC, PMS users were charged a |
4,239 | total of roughly $173,000 per month to maintain more than 28,000 expired grant accounts with no undisbursed balances remaining listed on the year-end closeout report. Roughly $137,000 of this was charged to HHS operating divisions. The closeout report provided by PSC does not provide information on when the authorized funds in these accounts were fully disbursed. However, more than 9,000 of these grants were more than 3 years past their end date. For illustrative purposes, we multiplied the monthly fees for |
4,240 | these accounts by 12 to obtain a rough approximation of what the total annual fees charged for these accounts would be assuming that all accounts with no undisbursed balances remaining balance as of September 30, 2011, had a zero dollar balance for the entire fiscal year. To test the reliability of PMS closeout data, we (1) reviewed existing documentation related to PMS, including the most recent audit of the design and operating effectiveness of the system’s controls, (2) interviewed officials responsible |
4,241 | for administration of the database on data entry and editing procedures and the production of closeout reports, and (3) conducted electronic testing for obvious errors in completeness and accuracy. An independent auditor assessed internal controls for PMS in 2011 and reported that, with one exception, the controls were suitably designed to provide reasonable assurance the control objectives would be achieved if the controls operated effectively. We discussed with HHS officials data entry and editing proced |
4,242 | ures, the production of closeout reports, and any known limitations associated with the data. According to HHS officials, no-cost extensions that extend the grant period without changing the authorized amount of funding may not be reflected in PMS data. As a result, PMS closeout reports may include grants that have received an extension and are therefore not eligible for closeout. No obvious errors in completeness and accuracy were identified during electronic testing. After conducting these assessment step |
4,243 | s, we found that the PMS closeout data were sufficiently reliable for the purposes of this report. ASAP is an electronic payment system implemented jointly by the Department of the Treasury’s (Treasury) Financial Management Service (FMS) and the Federal Reserve Bank of Richmond. ASAP allows grantee organizations receiving federal funds to draw from accounts preauthorized by federal agencies. In addition to grants, ASAP is also used to make payments to financial agents that are performing financial services |
4,244 | for FMS and other federal agencies. For example, ASAP can be used for reimbursing financial institutions for payments made by federal agencies through debit cards. Agencies establish and maintain accounts in ASAP to facilitate the flow of funds to organizations. Unlike PMS grant accounts, which represent an individual grant agreement between a federal agency and grantee, accounts in ASAP can represent multiple grant agreements between an awarding agency and a grantee. Individual grant agreements within thes |
4,245 | e accounts may have reached their grant end date, while others may not have. Therefore, the ASAP system cannot be used to determine which individual grants are eligible for closeout. FMS officials began issuing “dormant account reports” to all ASAP users in 2009 as a response, Treasury officials told us, to the findings in our 2008 report that using federal payment systems to track undisbursed balances in grant accounts can help reduce unused funding. Dormant account reports provide information on all inact |
4,246 | ive ASAP accounts, including accounts for nongrant programs. For the purposes of this report, our focus was on accounts for grant programs only. The first dormant account report focused only on undisbursed balances in accounts where the grantee had not drawn down funds for a prolonged period of time. However, the criteria used by FMS for generating dormant account reports have evolved over time to improve the usability of the reports. For the dormant account report provided to us for the end of fiscal year |
4,247 | 2011, accounts with undisbursed balances were included if: (1) the grantee had not drawn down funds for at least 2 years, and (2) the awarding agency had made no changes to the authorized amount of funding available for at least 2 years. For each grant account, the report includes information such as the identification number, the account balance, the cumulative amount of funding authorized to the grantee, and the date of the last payment request. The grant account end date is an optional field completed by |
4,248 | the awarding agency. FMS did not include accounts with no balance remaining on this report, but has encouraged agencies to close these accounts if they are no longer active. FMS does not charge users for these accounts or for other payment system services provided by the ASAP system and instead receives appropriations to cover the cost of its operations. According to FMS officials, dormant account reports are generally provided twice a year, allowing agencies to track progress on addressing inactive accoun |
4,249 | ts. The first report lists all of the dormant accounts as of a specific date, and the second report shows agencies’ progress toward addressing dormant accounts included on the first report. For this report, we reviewed the most recently available dormant account report for the end of fiscal year 2011. This report listed all ASAP accounts that have not had any activity (i.e., no payment requests and no funding added or removed) since September 30, 2009. To test the reliability of ASAP dormant account report |
4,250 | data, we: (1) reviewed existing documentation related to the ASAP system, (2) interviewed officials responsible for administration of the database on data entry and editing procedures and the production of dormant account reports, and (3) conducted electronic testing for obvious errors in completeness and accuracy. We discussed with FMS officials internal control testing and other quality review procedures for the ASAP system as well as dormant account reports. We also discussed missing data in certain fiel |
4,251 | ds on the dormant account report identified during electronic testing to ensure that omissions did not indicate potential errors. After conducting these assessment steps, we found that the data from dormant account reports were sufficiently reliable for the purposes of this report. To address our second objective, we collected and reviewed audit reports issued by GAO from September 2007 to May 2011 and by the offices of inspectors general at the 24 Chief Financial Officers Act (CFO Act) agencies from Januar |
4,252 | y 2008 to June 2011, which since the issuance of our 2008 report, had focused on undisbursed funds in expired accounts. We reviewed IG reports from the 24 CFO Act agencies in order to provide coverage of the major grant-making agencies and because this approach updated the review we performed as part of the work on our 2008 report, which included IG reports issued between 2000 and 2006. Based on our review for this report, we identified IG reports on HHS, Departments of Energy and Homeland Security, and the |
4,253 | Environmental Protection Agency with findings of weaknesses related to undisbursed grant balance, or grant closeout. We then interviewed IG officials at these four agencies to discuss their findings and any plans to conduct future audits on undisbursed grant funds. We also interviewed IG officials from four additional agencies—the Department of Commerce (DOC), Department of Justice (DOJ), National Aeronautics and Space Administration (NASA), and National Science Foundation (NSF)—where agency management had |
4,254 | reported on undisbursed balances in expired grant accounts in the agencies’ 2010 and 2011 annual performance reports, as described below. Finally, we followed up with each of the IG Offices at the remaining 16 CFO Act agencies via e-mail to ensure we had obtained any relevant reports and to determine if they had any plans to conduct future audits related to undisbursed grant funds, or grant closeouts. As a result of this follow up, we identified two additional IG reports related to timely grant closeout at |
4,255 | the Departments of Agriculture and Labor. To analyze actions agencies have taken to track undisbursed balances in expired accounts, we reviewed annual performance reports for all 24 agencies required to issue audited financial statements under the CFO Act from fiscal years 2009 to 2011. The 24 CFO Act agencies were responsible for the vast majority—more than the 95 percent—of grant programs identified in the CFDA database as of June 2, 2011. We performed a keyword search to determine if the agency, its off |
4,256 | ice of inspector general, or the independent auditor had reported on undisbursed balances in expired grant accounts or the timely closeout of grant accounts. We also reviewed the Performance and Accountability (PAR) and Agency Financial Reports (AFR) of four entities receiving funds under the Commerce, Justice, Science, and Related Agencies Act provision of P.L.111-117 for compliance with relevant reporting requirements in Section 537. To address our third objective, we reviewed relevant OMB guidance and re |
4,257 | gulations from federal grant-making agencies. Specifically, we reviewed the OMB Circulars No. A-102, Grants and Cooperative Agreements with State and Local Governments, and No. A-110, Uniform Administrative Requirements for Grants and Other Agreements with Institutions of Higher Education, Hospitals, and Other Non-Profit Organizations. Each federal agency that awards and administers grants and cooperative agreements that are subject to the guidance in Circulars A-102 and A-110 is responsible for issuing reg |
4,258 | ulations that are consistent with the circulars, unless different provisions are required by federal statute or are approved by OMB. We reviewed regulations from federal grant-making agencies that have codified governmentwide grants requirements, as identified on OMB’s website, to determine (1) the length of time prescribed for closing out federal grants and (2) the length of time federal grantees are required to retain records related to grant awards. To identify federal governmentwide guidance related to |
4,259 | federal agency performance reporting, we reviewed OMB Circular No. A-11, Preparation, Submission and Execution of the Budget and Circular No. A-136, Financial Reporting Requirements. We also reviewed two memoranda related to tracking undisbursed balances in expired grant accounts issued by OMB in October 2010 and August 2011 to select agencies receiving funding under the Commerce, Justice, Science, and Related Agencies appropriations act, as required by law. OMB to discuss the purpose and scope of their gui |
4,260 | dance and officials at the four agencies that reported undisbursed balances in expired grant accounts in 2010 and 2011 annual performance reports—DOC, DOJ, NASA, and NSF—to discuss their implementation of OMB’s instructions. Pub. L. No. 111-117 and Pub. L. No. 112-10. Appendix II: Federal Agencies Using the Payment Management System (PMS) for Grant Payments (as of June 2011) Appendix III: Federal Agencies Using the Automated Standard Application for Payments (ASAP) System for Grant Payments (as of June 2011 |
4,261 | ) In addition to the individuals named above, Phyllis L. Anderson, Assistant Director, Thomas M. James, Assistant Director, Thomas J. McCabe, Analyst-in-Charge, and Andrew Y. Ching, Travis P. Hill, Jennifer Leone, Omari A. Norman, Susan Ragland, Cynthia M. Saunders, and Michael Springer made major contributions to this report. |
4,262 | Farming is an inherently risky enterprise. In conducting their operations, farmers are exposed to both production and price risks. Crop insurance is one method farmers have of protecting themselves against these risks. Over the years, the federal government has played an active role in helping to mitigate the effects of these risks on farm income by promoting the use of crop insurance. Federal crop insurance began on an experimental basis in 1938, after private insurance companies were unable to establish a |
4,263 | financially viable crop insurance business. The federal crop insurance program is designed to protect farmers from financial losses caused by events such as droughts, floods, hurricanes, and other natural disasters as well as losses resulting from a drop in crop prices. The Federal Crop Insurance Corporation (FCIC), an agency within USDA, was created to administer the federal crop insurance program. Originally, crop insurance was offered to farmers directly through FCIC. However, in 1980, Congress enacted |
4,264 | legislation that expanded the program and, for the first time, directed that crop insurance—to the maximum extent possible—be offered through private insurance companies, which would sell, service, and share in the risk of federal crop insurance policies. In 1996, Congress created an independent office called RMA to supervise FCIC operations and to administer and oversee the federal crop insurance program. Federal crop insurance offers farmers various types of insurance coverage to protect against crop loss |
4,265 | and revenue loss. Multiperil crop insurance is designed to minimize risk against crop losses due to nature—such as hail, drought, and insects—and to help protect farmers against loss of production below a predetermined yield, which is calculated using the farmer’s actual production history. Buy-up insurance, the predominant form of coverage, provides protection at different levels, ranging from 50 to 85 percent of production. Catastrophic insurance provides farmers with protection against extreme crop loss |
4,266 | es. Revenue insurance, a newer crop insurance product, provides protection against losses in revenue associated with low crop market prices in addition to protecting against crop loss. RMA, through FCIC, pays a portion of farmers’ premiums for multiperil and revenue insurance, and it pays the total premium for catastrophic insurance. However, farmers still must pay an administrative fee for catastrophic insurance. RMA determines the amount of premium for each type of insurance policy by crop. RMA, through F |
4,267 | CIC, contracts with private insurance companies who then sell these policies to farmers. Companies sell crop insurance to farmers through agents. An agent, a person licensed by the state in which the agent does business to sell crop insurance, is employed by or contracts with a company to sell and service eligible crop insurance policies. While most companies pay their agents a commission to sell and service crop insurance policies, some companies pay agents a salary. American Growers paid its agents a comm |
4,268 | ission. RMA establishes the terms and conditions to be used by private insurance companies selling and servicing crop insurance policies to farmers through a contract made with the companies called the SRA. The SRA is a cooperative financial assistance agreement between RMA, through FCIC, and the private crop insurance companies to deliver federal crop insurance under the authority of the Federal Crop Insurance Act. Under the SRA, FCIC reinsures or subsidizes a portion of the losses and pays the insurance c |
4,269 | ompanies an administrative fee or expense reimbursement—a preestablished percentage of premiums—to reimburse the companies for the administrative and operating expenses of selling and servicing crop insurance policies, including the expenses associated with adjusting claims. While the reimbursement rate is set at a level to cover the companies’ costs of selling and servicing crop insurance policies, the companies have no obligation to spend their payment on expenses related to crop insurance, and they may s |
4,270 | pend more than they receive from FCIC. The current reimbursement rates, set by statute, are based on recommendations in our 1997 report of the costs associated with selling and servicing crop insurance policies. However, RMA does not have a process for regularly reviewing and updating these rates. RMA is currently conducting a limited review of companies’ expenses to validate the costs of selling and servicing federally reinsured crop insurance policies. RMA, through FCIC, is the reinsurer for a portion of |
4,271 | all policies covered by the federal crop insurance program. Reinsurance is sometimes referred to as insurance for insurance companies. It is a method of dividing the risk among several insurance companies through cooperative arrangements that specify ways in which the companies will share risks. Reinsurance serves to limit liability on specific risks, increase the volume of insurance policies that may be written, and help companies stabilize their business in the face of wide market swings in the insurance |
4,272 | industry. As the reinsurer, RMA shares the risks associated with crop insurance policies with companies that sell federal crop insurance. However, if a crop insurance company is unable to fulfill its obligations to any federal crop insurance policyholder, RMA, as the ultimate guarantor for losses, assumes all obligations for unpaid losses on these policies. Reinsurance is also available through private reinsurance companies. Crop insurance companies must maintain certain surplus levels to issue crop insuran |
4,273 | ce policies. However, they may increase their capacity to write policies and may further reduce their risk of losses by purchasing reinsurance from private reinsurance companies on the risk not already covered by FCIC. American Growers was originally established in 1946 as Old Homestead Hail Insurance Company. The company went through several reorganizations and name changes between 1946 and 1989. In 1989, the company became American Growers Insurance Company, operating as a subsidiary of the Redland Group, |
4,274 | an Iowa-based insurance holding company. Acceptance Insurance Companies Inc., (Acceptance)—a publicly owned holding company that sold specialty property and casualty insurance—acquired American Growers in 1993. As a wholly owned subsidiary of Acceptance, American Growers was primarily responsible for selling and servicing federal crop insurance policies and shared the same general management as the parent organization. Another wholly owned subsidiary of Acceptance, American Agrisurance Inc., served as the |
4,275 | marketing arm for American Growers. American Growers’ failure was the result of a series of company decisions that reduced the company’s surplus, making it vulnerable to collapse when widespread drought erased anticipated profits in 2002. The company’s decisions were part of an overall management strategy to increase the scope and size of American Growers’ crop insurance business. The company’s surplus declined due to losses and other costs from mistakes made when introducing a new crop insurance product, d |
4,276 | ecisions to pay higher than average agent commissions, and the purchase of a competitor’s business. Additionally, the company’s operating expenses were about 1 1/3 times its reimbursement from RMA. In other words, American Growers was spending $130 for every $100 it was receiving from RMA to pay for selling and servicing crop insurance. American Growers planned to use profits from policy premiums to pay for the expenses not covered by RMA’s reimbursement. When these gains did not materialize due to widespre |
4,277 | ad drought, the company’s surplus dropped below statutory minimums, prompting NDOI to take control of the company. First, the company introduced a new crop insurance product, but mistakes associated with the sale of this product resulted in significant losses in the company’s surplus. In 1997, the company chose to market a new crop insurance product, Crop Revenue Coverage Plus (CRC Plus), which was a supplement to federal crop insurance, but which was not reinsured by RMA. In 1999, American Growers expanded |
4,278 | the sale of this product into rice, a crop with which it had little experience. When the company realized it had mis-priced the product for rice and withdrew the product, farmers who had planned on using CRC Plus sued the company. Financial losses, legal settlements, and other costs related to CRC Plus caused significant losses in the company’s financial surplus. Appendix II provides further details on the losses associated with CRC Plus. Second, American Growers chose to spend more than RMA reimbursed it |
4,279 | for selling and servicing crop insurance, in part, because the company chose to pay above-average agent commissions in order to attract more agents to sell for the company. As part of its effort to expand operations, the company in 2000 to 2002, paid agent commissions about 12 percent higher, on average, than those offered by other crop insurance companies. In addition to paying agent commission rates above the average of other companies in the industry, American Growers offered agent sales incentives, such |
4,280 | as trips to resort locations, and funded other expenses not required to sell and service federal crop insurance. These expenses, among others, created operating costs that were 11 percent greater than the average operating costs of other companies selling crop insurance, and these expenses exceeded the reimbursement RMA provided companies. Appendix III provides additional details of the high operating costs associated with agent commissions and other expenses. Third, the company purchased the crop business |
4,281 | of a competitor, which increased its expenses. In 2001, American Growers attempted to expand its share of the crop insurance market by purchasing assets from another company, including that company’s book of crop insurance business. Because American Growers was unable to achieve the operational efficiencies it had anticipated, this acquisition resulted in additional operating costs and expenses that were higher than the reimbursement that RMA provided companies to cover the sale and service of crop insuran |
4,282 | ce. Appendix IV provides additional details on the operating expenses incurred from the purchase of a competitor’s crop insurance business. Finally, the company relied on large underwriting gains to pay for its expenses, rather than RMA’s reimbursement. When these gains did not materialize due to widespread drought in 2002, the company’s surplus dropped to a level that prompted NDOI to take control of the company. In its 2002 operating budget, American Growers projected profits in excess of its 10-year aver |
4,283 | age and relied on these anticipated profits to cover the company’s operating expenses and to further its growth. The company’s profit projections were based, in part, on retaining a higher percentage of the risk for the policies it sold than in past years. By retaining a higher percentage of the risk on the policies, American Growers could increase its profits if claims were low. Conversely, the company increased its exposure to loss if claims were high. However, profits did not materialize as the result of |
4,284 | widespread drought, which caused overall federal crop insurance program losses to increase from $3 billion in 2001 to $4 billion in 2002. When American Growers’ expenses and losses dropped the company’s surplus below statutory minimums, NDOI declared the company to be in a hazardous financial condition and took control of the company—first placing the company under supervision in November 2002 and then in rehabilitation in December 2002. Appendix V provides additional details on the decline in American Gro |
4,285 | wers’ surplus. At the time of American Growers’ failure, RMA’s financial oversight processes were inadequate to identify the full extent of financial weaknesses of insurance companies participating in the federal crop insurance program. RMA’s actual oversight procedures focused primarily on whether a company had sufficient surplus to pay claims based on its past performance, rather than the overall financial health and outlook of the company. In addition, RMA did not generally share information or coordinat |
4,286 | e with state regulators on the financial condition of companies participating in the federal crop insurance program. Although RMA reviewed companies’ operational plans and selected financial data, such as annual financial statements, in the case of American Growers, RMA was unaware that the company was projecting underwriting gains in excess of historic averages to pay for its operating expenses. The company’s failure to achieve these gains resulted in a substantial reduction in its surplus and its subseque |
4,287 | nt financial failure. In the case of American Growers, RMA and NDOI did not begin cooperating on overseeing the company until it had been placed into supervision in November 2002. In 2002, when American Growers failed, data provided to RMA by the companies participating in the federal crop insurance program provided an overall picture of company operations and complied with RMA’s regulations. However, the information provided was typically 6 to 18 months old; and, according to an RMA official, the agency’s |
4,288 | oversight focused primarily on whether a company had financial resources to pay claims on crop insurance policies and not on the overall financial health of the company. RMA’s approach to financial oversight stemmed, in part, from the fact that the companies participating in the program are private and are licensed and regulated by state insurance departments. State insurance departments are responsible for monitoring the overall financial condition of companies chartered and licensed to operate in their st |
4,289 | ate. In addition, some of the companies selling crop insurance are affiliated with holding companies or other related companies, which RMA does not review for financial soundness. Since American Growers’ failure, RMA has begun requiring federal crop insurance companies to provide additional financial data to help the agency determine if companies are adequately financed to perform their obligations under their SRAs. One of RMA’s primary responsibilities is to ensure the integrity and stability of the crop i |
4,290 | nsurance program, in part, by monitoring insurance companies’ compliance with program criteria such as submitting statutory statements required by state regulators and meeting certain financial ratios, as defined in federal regulations. To ensure that the companies participating in the federal crop insurance program sell and service insurance policies in a sound and prudent manner, the Federal Crop Insurance Act requires crop insurance companies to bear a sufficient share of any potential policy loss. Title |
4,291 | 7, Code of Federal Regulations, chapter IV, contains the general regulations applicable to administering the federal crop insurance program. The SRA between RMA and participating crop insurance companies establishes the terms and conditions under which RMA will provide subsidy and reinsurance on crop insurance policies sold or reinsured by insurance companies. These terms and conditions state, in part, that companies must provide RMA with accurate and detailed data, including their (1) annual plan of opera |
4,292 | tion, (2) financial statements filed with the applicable state insurance regulator, and (3) any other information determined necessary for RMA to evaluate the financial condition of the company. When approving a company to participate in the crop insurance program, RMA analyzes it according to 16 financial ratios set forth in RMA regulations. Combined, these 16 ratios are intended to provide RMA a reasonable set of parameters for measuring insurance companies’ financial health, albeit generally from a histo |
4,293 | rical perspective. The 16 financial ratios include such things as (1) change in net writings, (2) 2-year overall operating ratio, (3) change in surplus, and (4) liabilities to liquid assets. Ten of the 16 ratios specifically refer to changes related to companies’ surplus—the uncommitted funds used to cover policy claims. When a company fails more than 4 of the 16 financial ratios, RMA requires the company to submit an explanation for the deviation and its plans to correct the situation. If the explanation a |
4,294 | ppears reasonable, RMA approves the company to sell and service crop insurance for the next crop year. In August 2001, RMA notified American Growers that the company had 6 ratios, based on its December 2000 financial statement, that fell outside acceptable ranges, including its 2-year overall operating ratio, change in surplus, and 2-year change in surplus. Table 1 shows the 6 ratio requirements and American Growers’ ratio for each of the 6 ratios it failed. According to an RMA memorandum dated October 2001 |
4,295 | , American Growers reported that most of its unacceptable ratios were due primarily to underwriting losses related to its multiperil crop insurance that produced unfavorable results due to drought conditions in 2000, particularly in Nebraska and Iowa, and the impact of the federally subsidized reimbursement not covering the company’s expenses. Additionally, American Growers cited the cost of the class-action lawsuit relating to its CRC Plus product as a contributing factor. Finally, American Growers explain |
4,296 | ed that the expansion of its crop operations through the purchase of a competitor’s crop insurance business was expected to provide efficiencies that would reduce expenses and help improve the company’s profitability in the future. Based on American Growers’ explanations, RMA determined that the company’s 2002 SRA should be approved. RMA did not believe that the adverse developments that American Growers had experienced were significant enough to move the company close to insolvency. RMA’s decision was part |
4,297 | ially based on anticipated improvements in overall performance resulting from American Growers’ acquisition of another company’s assets and the potential for achieving greater economies of scale. Furthermore, while American Growers failed more than 4 of the 16 financial ratios, it was not the only company with such results. Of the 18 companies participating in the federal crop insurance program in 2002, other companies had a higher number of failed ratios than American Growers, though most had fewer. Specif |
4,298 | ically, of the other 17 companies, 3 companies had 7 or more failed ratios, 1 had 6—the same number as American Growers, and 13 companies had 4 or fewer failed ratios. In March 2002, American Growers had 5 ratios, based on its December 2001 financial statement, that fell outside acceptable ranges, including change in net writings, 2-year overall operating ratio, and liabilities to liquid assets. Table 2 shows the 5 ratio requirements and American Growers’ ratio for each of the 5 ratios it failed. American G |
4,299 | rowers cited its acquisition of its competitor’s crop insurance business, the adverse development of its CRC Plus settlement, and the delay in its reinsurance payments due from RMA as the primary reasons for failing these ratios. Based on the company’s explanation of why it had failed the 5 ratios, in June 2002—5 months before American Growers’ financial failure—RMA determined that American Growers met the standards for approval to sell and service crop insurance policies for 2003. In 2002, as in 2001, alth |
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