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Crop Insurance

Updated on April 27, 2024
Article byShrestha Ghosal
Edited byShrestha Ghosal
Reviewed byDheeraj Vaidya, CFA, FRM

What Is Crop Insurance?

Crop insurance is a type of insurance that agricultural producers purchase aimed at protecting farmers from loss of crops or revenues. The insurance safeguards against the loss in revenue resulting from declines in the pricing of agricultural commodities or the destruction of crops as a consequence of natural disasters.

Crop Insurance

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This insurance shields farmers from threats that might occur during their farming activities. It covers hazards that are easily recognized. These risk components must have an adverse economic impact. Furthermore, there must be a distinct and undeniable link between the risks and the loss.

Key Takeaways

  • Crop insurance is a type of insurance purchased by farmers to protect themselves from possible risks that can occur during their operations.
  • Materials and equipment that could be readily destroyed or damaged by human error are used in agricultural operations. This insurance reduces these risks in the agriculture business.
  • It provides a financial safety net for mending damaged operations and aids farmers in managing their cash flows.
  • However, insurance for crops is susceptible to geographical risk since a single farm is designated as the reference farm in every specific location. As a result, the reference farm’s and the actual farm’s weather might vary geographically.

Crop Insurance Explained

Crop insurance is a type of insurance that agricultural farmers obtain. This insurance protects farmers from risks that may arise during their farming operations. The insurance provides security from losses in earnings due to reductions in agricultural commodity prices or damage to crops from natural calamities.

This insurance offers a lot of potential for growth and development. Because of the unpredictable nature of insurance payouts, only a small percentage of farmers in developing nations rely on it. The insurance must be made a regular business activity through the introduction of new techniques.

Cost And Coverage

The federal crop insurance scheme provides subsidized insurance to safeguard farmers from financial losses. The USDA estimated that in 2022, the initiative assisted in funding over 1.2 million policies that covered 493 million acres for $17.3 billion to the federal government. The Congressional Budget Office estimated that the project would cost more than $101 billion over the following ten years. The USDA collaborates with private insurance companies to carry out the program. The program’s federal costs consist of payments to these companies in addition to the subsidies to cover a portion of policyholders‘ crop insurance premiums.

Exclusions

Some exclusions for crop insurance for farmers include the following:

  1. War-related losses and nuclear threats
  2. Intentional damage and other avoidable risks caused by the farmer’s or the employees’ carelessness
  3. Burning of the crop under a public authority’s command
  4. Animal or bird-related damage
  5. Ionizing radiation or radioactive waste pollution

Types

The types of crop insurance are as follows:

  1. Multiple Peril Crop Insurance (MPCI): It insures against crop losses, including reduced yields, resulting from natural occurrences like weather that causes damage, including damaging wind, hail, and frost. It may also include circumstances such as illness, fire, drought, flood, and insect damage. Multi-peril crop insurance is supported and controlled federally. However, private-sector crop insurance companies and agents sell and provide these services.
  2. Crop Hail Insurance: In regions where hailstorms are common, farmers frequently invest in crop hail insurance to safeguard crops with high yields. The Federal Crop Insurance Programme does not cover these plans. The private insurers sell them, and state insurance offices supervise them. Farmers often purchase crop-hail coverage as an addition to MPCI. Policies that cover crop hail come with minimal or no deductibles. A hail claim can be less than the MPCI policy’s deductible because, unlike drought or blight, hail can entirely kill some crops in one section of a farm while sparing others.

Examples

Let us study the following examples to understand this insurance:

Example #1

Suppose Sam is a farmer who cultivates various crops throughout the year. He insured his crops to ensure that they were protected from any natural disaster. In a particular year, the area suffered a major flood, and all his crops were destroyed. As a result, Sam claimed for insurance, and the insurance company paid for all the damages. This is an example of insurance for crops.

Example #2

According to a new analysis by AM Best, the US insurance for crops market faced substantial challenges in 2022, even though premium income reached a record high of $21.5 billion. Due to widespread drought and unfavorable growth circumstances, the industry suffered an underwriting loss. According to the study US Crop Insurance: Premiums Reach New Highs, Drought Claims Drive Losses, MPCI insurers had a nine percentage point decline in their combined ratio in 2022. On the other hand, underwriting results for private insurance on crops have not generated a profit since they were introduced as a distinct reporting line in 2014.

Advantages And Disadvantages

The advantages of crop insurance for farmers are:

  1. The insurance allows farmers to get loans and funding to invest in new technologies, instruments, and infrastructure that will increase and sustain their agricultural output.
  2. It helps farmers manage their cash flows and offers a financial safety net for repairing damaged operations.
  3. This insurance lowers the risk in business. In the field of agriculture, materials, and machinery are utilized in operations that might be easily destroyed or damaged by human error. Insurance for crops aids in reducing these types of threats.
  4. Insurance for crops offers farmers peace of mind. Insurance for crops helps farmers be more innovative and productive in their farming business by relieving the stress, fears, and anxieties that come with agriculture.
  5. The insurance promotes saving by necessitating regular premium payments that are difficult to discontinue before the policy’s expiration.
  6. It induces a country’s economic growth by gathering funds from insured individuals and investing it in the services and infrastructure required for the expansion of the economy.

The disadvantages are:

  1. Basis risk: This is the likelihood that, despite having suffered a loss, the insured party won’t get any compensation. It includes the errors that the insurance provider commits.
  2. Spatial Risk: Insurance for crops is vulnerable to spatial risk. This is because one farm in each specific location is considered the reference farm. Therefore, there may be geographical variations in the climate between the reference farm and the actual farm.
  3. Other Factors: According to this insurance, every farm in a particular region is treated as one single unit. This does not represent the situation in reality. Without human interference, farm-to-farm variations in output would be significant. This discrepancy would result from variations in the type of soil on the farm and the availability of irrigation.

Frequently Asked Questions (FAQs)

1. When is the fall crop insurance price set?

The insurance price for crops in the fall, also known as the fall price discovery, is set every year in August or September. A survey is carried out during this period. In this survey, the anticipated market prices are estimated, and the average is calculated. This averaged price assists in determining the insurance price for crops in the fall.

2. Are crop insurance proceeds taxable?

Usually, all the insurance proceeds for crops are taken into account in taxable income in the financial year when it was received. However, one exception exists, which states that the income recognized on specific insurance proceeds for crops can be deferred. It may be postponed until the subsequent year if the circumstances meet certain conditions.

3. How does crop insurance payout?

The claims under insurance for crops are made depending on the post-harvest loss, localized losses, vast spread calamities, and any mid-season calamity. As a result, the payout is calculated by considering factors such as climatic conditions and yield per hectare.

4. When are crop insurance prices set?

The insurance prices for crops are set twice a year. They take place in the spring season (Projected) and the fall season (Harvest). The ultimate Revenue Guarantee depends on the higher of the fall or spring price.

This article has been a guide to what is Crop Insurance. Here, we explain its types, examples, advantages, disadvantages, cost and coverage, and exclusions. You may also find some useful articles here –

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