United States: CMS Medicaid Fiscal Accountability Regulation Published

Last Updated: November 22 2019
Article by Thomas Barker

Earlier this week, CMS released for publication a proposed rule that would add some degree of transparency and oversight to the somewhat opaque world of Medicaid financing. It's a topic that's fascinated us here at the Medicaid and the Law Blog for some time and we've written about it on a couple of occasions. Over the years, Congress and CMS (and even before there was a CMS, the Health Care Financing Administration, or HCFA) have tried to set out some guideposts to give states and providers some guidance as to what is permissible and what isn't. The proposed rule is the latest attempt to provide that guidance.

To start off, a bit of background. Medicaid is a jointly-financed enterprise, through which states and the federal government split the costs of the program in accordance with a federal medical assistance percentage, or FMAP. The FMAP is established by a formula that takes into account the per capita income of the State compared to the per capita income of the United States. Let's say a State has an FMAP of 60%. If that State spends $1,000 on medical assistance, the federal government reimburses the State $600 for its share of the expenditure.

A sixth grader could figure that out. Simple, right?

But this is Medicaid ... where nothing is simple.

Here's the problem: where does the state share (in this example, $400) come from? Doesn't the federal government have a say in determining how the state comes up with the non-federal share of the expenditure for medical assistance? Or should the federal government be entirely agnostic on this point? Since at least the mid-1980s, the federal government has paid increased attention to exactly this question. The proposed rule shows that the federal government has a continued interest, and that's what we'll write about today.

CMS address four discrete issues in the proposed rule:

  • Payments to fee-for-service providers;
  • Disproportionate share payments;
  • Medicaid program financing; and
  • Provider taxes and donations.

Let's take a look at each of these issues.

Fee-for-service providers

CMS divides payments to fee-for-service providers1 into two categories: base payments and supplemental payments. The base payment part is pretty simple: these are the payments that a State makes to a provider after submission of a claim for a specifically identifiable service for a specifically identifiable Medicaid beneficiary that is denominated by a specifically identifiable code. In the case of a hospital patient, the claim might be designated by a DRG; in the case of a patient visiting a physician, the service might be described by a CPT code.

But CMS isn't really interested in base payments. No, CMS's real interest is in supplemental payments. Supplemental payments are additional payments that States make to providers, on top of base payments. Because states have enormous flexibility to structure a payment design for providers under the Medicaid statute, they can create additional payment systems that may not be tied to a particular beneficiary or a particular claim for an item or service.2

And in fact, supplemental payments have been a concern for Congress as well; earlier this year, the Senate Finance Committee majority staff issued a report on this very topic. The Finance Committee report raised many of the same issues that CMS identified in this proposed rule. For example: there is very little (or no) oversight by CMS over supplemental payments. And they are growing: according to CMS, supplemental payments have grown from 9.4% of all fee-for-service payments to providers in 2010 to 17.5% in 2017. And we are talking about billions of dollars that are in the system with very little ability for CMS to monitor.3

Why does CMS care? Well, for one thing, if CMS is spending tens of billions of dollars on supplemental payments, the agency feels that it has a right to make certain that its investment is paying dividends in the form of better quality care or better access to care. But more importantly, section 1902(a)(30)(A) of the Social Security Act requires that Medicaid payments be "consistent with efficiency, economy and quality of care" and according to CMS, it does not have the data to assess whether or not these supplemental payments meet this statutory standard.

Some of the things that CMS wants to look at, if its rule is finalized, are the following:

  • The total amount of supplemental payments in the system;
  • Provider costs relative to supplemental payments;
  • Current UPL requirements;
  • State financing of the non-federal share of supplemental payments; and
  • Impact of supplemental payments on the Medicaid program (such as quality of care or access to care).

Disproportionate Share Payments

Although disproportionate share hospital (DSH) payments are also a form of supplemental payments, CMS treats them separately because there is an individual statutory authorization (section 1923 of the Social Security Act) for DSH. We have previously provided a history of DSH payments so will not belabor it here. In the proposed rule, CMS describes both the State-specific DSH allotments that are a part of the statute, as well as the hospital-specific DSH allotments (DSH payments cannot exceed a hospital's uncompensated care costs) that has been the subject of litigation across the country.

CMS also expresses concern over the lack of information available regarding DSH payments. The agency points out that there is more information on DSH than on supplemental payments, a result of a provision of the Medicare Modernization Act (MMA) that required States to submit annual reports on DSH payments to CMS. The MMA added section 1923(j) to the Social Security Act; that provision requires States to identify hospitals that receive a DSH adjustment. In addition, States must submit an independent certified audit to CMS on DSH and other supplemental payments. CMS notes that even these provisions have limitations and that additional information is necessary.

Medicaid Program Financing

CMS begins this section of the proposed rule by describing the permitted sources of non-federal financing. The agency identifies the following sources of State revenue that can be used to finance the State share of Medicaid spending:

  • State general revenues (40% of non-federal Medicaid funding must come from the state). This can include income tax revenue, sales tax revenue or even revenue from a dedicated source, such as a State lottery;
  • Permissible provider taxes (more about that in the next section);
  • Permissible provider related donations (more about that in the next section);
  • Certified public expenditures (governmental providers only); and
  • IGTs (governmental providers only)

Here again, CMS expresses the need for greater oversight and data collection over how States derive the non-federal share of Medicaid spending. One can understand why CMS feels that it needs to ensure that States are actually using their own dollars to finance their Medicaid programs and are not improperly substituting federal funds for State funds. In order to do so, CMS has proposed three new policies:

  • Improved reporting on the source of the non-federal share;
  • Additional specificity in definitions; and
  • Clarifying when an indirect hold-harmless relationship exists

Health Care Related Taxes and Provider Donations

Finally, CMS has proposed new policies to ensure that States are complying with the statutory restriction on using impermissible provider taxes or donations to achieve the State share of Medicaid funding. These rules are codified at section 1903(w) of the Social Security Act.

Congress enacted § 1903(w) in 1991 to curtail perceived State financing abuses. Under section 1903(w), a State can only use revenues derived from provider taxes to fund its share of Medicaid expenditures if those taxes are: (1) broad based (i.e., imposed across the entire spectrum of providers subject to the tax); (2) uniform (i.e., imposed in the same amount); and (3) do not contain a hold harmless feature (i.e., some group of providers has to actually bear the economic burden of the tax). CMS has authority to waive the broad based and uniformity requirements, but only if the State can pass two statistical tests that prove that the tax is generally redistributive.4

CMS (then HCFA) issued regulations in November of 1992 to implement § 1903(w); those regulations were finalized in August of 1993. That was 26 years ago. The world of health care finance has changed in that quarter of a century, and CMS feels that it is time to update these policies. In particular, CMS has identified five issues in the regulations that need to be updated.

  • There are problems with statistical tests used to determine whether a tax is generally redistributive; the agency has proposed to correct those problems via a totality of the circumstances test (i.e., looking at a totality of the circumstances, is the tax truly generally redistributive)?
  • There are problems with definition of health-care related tax – what percentage of revenues must be derived from health care providers in order for a tax to be a health-care related tax?
  • There are problems with what constitutes a hold harmless policy; CMS has proposed a "net effect" policy to ensure that if an arrangement has the "net effect" of holding a provider harmless, it is an impermissible tax.
  • CMS has proposed to slightly liberalize the rules by creating a new permissible class of health care providers – allowing a permissible tax on health insurance issuers.
  • Finally, the agency has concerns regarding non-bona fide provider-related donations.


CMS has proposed a 60-day comment period on the proposed rule. Assuming that the rule is actually published on November 18, then the comment period will expire on January 18, 2020. This gives States, providers, and other interested parties an opportunity to weigh in on CMS's proposed policy solutions. Given the natural tension that exists between States and the federal government on a jointly-financed program, we expect that whatever final rule emerges to be controversial.


1 By "fee-for-service providers" we mean providers – hospitals, nursing homes, physicians, pharmacies, etc. – that are paid directly by a State, not by a managed care plan.

2 The only limitation is the so-called upper payment limit, or UPL: payments to providers cannot exceed the amount that Medicare would have paid for the same service. But because the UPL is calculated by class of provider, not by individual provider, States have enormous flexibility in designing payments.

3 Even CMS's new Transformed Medicaid Statistical Information System (T-MSIS) may not be able to capture sufficient data for adequate oversight, according to the agency.

4 The author has a vague recollection of a segment on statistics in his Algebra II class in his junior year of high school during the Administration of President Gerald R. Ford. He recalls that although he loved his Algebra II class and learned a lot from his teacher, Mrs. Mitchell, the statistics concepts were as elusive then as they are now. So this post will dispense with a detailed explanation of the P1/P2 and B1/B2 tests used to demonstrate whether a tax is generally redistributive and simply state that CMS believes that the tests are not working properly.

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