By Erin Murphy, Statewide Education Coordinator
Farming is risky business! Learn about the different ways farmers can manage risk to keep doing what they love and do best.
What is risk?
Risk is the chance of a loss, or other bad consequence, associated with any decision. Each decision we make has a risk-return tradeoff where the amount of risk is positively correlated to the amount of potential return. In other words, the riskier a decision, the larger the potential payout and vice versa. Uncertainty is defined as not knowing what will happen in the future and increases risk. Risk management involves finding the balance between the risk of a loss and the potential for profit.
Calculating and avoiding risk
To calculate risk, ask yourself:
- Is there a good chance of bad consequences? This will help you measure the likelihood of the risk. A “yes” is a red flag, and means that a bad outcome is likely.
- Would the bad consequences drastically disrupt the farm business? This will help you measure the magnitude of the risk. Another “yes” would be another red flag, and means that the consequences would be severe.
If you answered “yes” to both questions, there is a good chance of a bad outcome that will drastically harm your farm. That’s a decision you probably don’t want to make!
The best way to avoid a bad outcome is to consider all alternatives when making a major decision. We are often quick to assume that there are only one or two solutions, but these solutions are typically the most extreme courses of action falling on either end of the risk-return tradeoff line. Push yourself to consider all alternatives — the goal is to find solutions that balance risk and return and fall somewhere in the middle of the risk-return tradeoff line. As a business owner, it’s essential that you know your personal risk tolerance to guide your decision-making and help you make a realistic risk management plan. Investment surveys can be used as a good proxy for whether you are risk averse or risk seeking.
What is crop insurance?
Crop insurance can provide protection from production loss, price decline or a combination of both. Crop insurance plans can be based on production, revenue or the farming area. Production and revenue plans are based on the farmer’s actual production history while area plans are based on averages in a specified farming area. Insurable causes of loss include adverse weather conditions (drought, flooding, frost), fire, insects, plant disease and wildfire.
Two programs most relevant to small and mid-sized diversified farms are the Whole-Farm Revenue Protection Program (WFRP) and the Noninsured Crop Disaster Assistance Program (NAP).
Whole-Farm Revenue Protection Program
The Whole-Farm Revenue Protection (WFRP) program is the first crop insurance product available in every county nationwide and is available for any farm with up to $8.5 million in insured revenue. It insures all crops on the farm under one policy, meaning that individual crop losses are not considered. Instead, the overall farm revenue is used to determine losses. A farm or ranch may have up to $1 million in expected revenue from animals and animal products. A qualifying farm must provide five consecutive years of Schedule F or other farm tax forms. Qualifying beginning farmers or ranchers (“an individual or entity who has not operated a farm or ranch, or who has operated a farm or ranch for not more than 10 consecutive years”) may qualify with three consecutive years of Schedule F forms.
Coverage levels range from 50-75% and are chosen by the farmer. The cost of the insurance program or premium varies depending on the county, coverage level and the diversity of crops, and is subsidized by the federal government. WFRP is designed to reward diversification so farms with a qualifying commodity count of three or more (meaning that you produce three or more individual crops that make up a substantial amount of your total farm revenue) can select coverage levels at 80-85% as well. The chart above shows the percentage of the total premium that is paid by the government based on the coverage level (selected by farmer) and the qualifying commodity count (determined by crop insurance agent). For example, at the 75% coverage level, a farm with a qualifying commodity count of two will have 80% of their premium paid for by the government. Qualifying beginning farmers and ranchers are eligible for an additional 10% discount on their premium.
- Sales Closing, Cancellation and Termination Due Dates
- Calendar and early fiscal year filers: January 31, February 28 or March 15 (by county)
- Late fiscal year filers: November 20
- Revised Farm Operation Report Due Date
- All filers: July 15
- Contract Change Date
- August 31
Key dates for WFRP are included in the table above and are based on your taxes. For the specific dates that apply to your county, talk to your local crop insurance agent. Premiums are not paid when you sign up for the plan, but rather in September of the year of coverage. The USDA’s Risk Management Agency (RMA) manages the Federal Crop Insurance Corporation (FCIC) which provides crop insurance products to farmers and ranchers. Approved Insurance Providers (AIP) sell federal crop insurance products through a public-private partnership with RMA.
Noninsured Crop Disaster Assistance Program
Noninsured Crop Disaster Assistance Program (NAP) is administered by the USDA’s Farm Service Agency and provides financial assistance to producers of non-insurable crops to protect against natural disasters that result in lower yields, crop loss or prevented plantings. Eligible crops are those not already covered by another federal crop insurance program. They include crops grown for food or fiber, floriculture, grain and forage crops for animal consumption, and yield-based and value-based crops. (For a comprehensive list, contact your local FSA office.) Eligible causes of loss are generally damaging weather or natural occurrences including drought, hail, excessive moisture, freeze, tornado, hurricane, excessive wind, earthquake, flood, volcano and insufficient chill hours.
NAP offers two types of coverage: basic coverage and buy-up coverage. Basic coverage covers 50% of your crop and is covered at 55% of the average market value. There are no premiums for basic coverage, but the service fees are $325 per crop, not to exceed $825 per county and not to exceed $1,950 per producer. All service fees are waived for qualifying beginning, minority or limited resource farmers and ranchers. Buy-up coverage covers 50-65% of the crop at 100% of the average market value but has a premium in addition to the service fees. Premiums are due in early January the following year after signing up for coverage. Qualifying beginning, minority or limited resource farmers and ranchers are eligible for a 50% discount on premiums.
Application closing dates vary by crop so contact your local FSA office for specific questions. Coverage periods begin the earlier of 30 days after you file for coverage or the day you plant the crop and last through the day the crop is harvested, destroyed or abandoned. For perennial crops, the coverage period ends 10 months after the application closing date.
How can I manage other types of risk?
Risk on the farm can generally be broken down into five types:
- Production — refers to the variability in actual outcomes versus your expected outcome and includes uncertain production-related activities. Examples include weather, climate change, pests, diseases, and other factors that affect quantity and quality of your products. To manage production risk, you can control or minimize the risk, reduce the variability in your output, or transfer the risk.
- Marketing — arises due to all the factors that affect your marketing channels such as consumer preferences, weather, government actions, price and currency variability, cost of inputs, limited market outlets, and global economic conditions. The marketing chain is the process of adding value to your product through processing, wholesaling, and retailing. Marketing risk can be mitigated through the development of a robust marketing plan.
- Financial — refers to the cost and availability of loans, your ability to pay your bills, absorb short term financial shocks (like a wet spring), and maintain and grow your business. Rising interest rates and increasing costs in family living are other sources of financial risk. The use of financial statements and ratios can be helpful in monitoring your farm’s financial status to keep you on top of any potential risks that get thrown your way.
- Legal — include governments changing laws, regulations, and policies, and any dispute or disagreement between individuals and/or groups. The legal system of laws, courts, and contracts is designed to address these risks. Everything from the way you decide to organize your business (e.g. sole proprietorship, LLC, etc.) to your farmland lease agreement can be potential sources of legal risk. Need legal advice for your farm? Farm Commons out of the Hudson Valley is a great resource to get you started.
- Human — the uncertainty and imperfection of being human and having relationships that affect the farm or ranch’s success. Some examples include health and well-being, family and business relationships, employee management, and transition/succession planning. Human risk may be the least technical type of risk, but it can be the trickiest to navigate due to the unpredictable nature of human beings. Some ways to mitigate human risk are having employee handbooks and standard operating procedures that lay out expectations and promote health and safety, practicing work-life balance, and doing check-ins and regular meetings where all members of the team are able to share their successes and challenges.
For more information on the five types of risk, check out “Introduction to Risk Management: Understanding Agricultural Risks.”
This project is funded in partnership by USDA, Risk Management Agency, under award number RM16RMEPP522C020. This institution is an equal opportunity provider.