The Centers for Medicare & Medicaid Services (CMS) on Nov. 18, 2019, published a proposed Medicaid Fiscal Accountability rule that would amend existing regulations related to 1) base and supplemental payments, 2) Disproportionate Share Hospital (DSH) payments, 3) program financing, and 4) healthcare-related taxes and provider-related donations. CMS describes some changes as codifying existing guidance or clarifying current practices while they consider others to impose new procedural or substantive requirements.

The proposed changes are significant, including:

  • explicit delineation of tax and provider-related donation practices that would violate the prohibition on "hold harmless" arrangements
  • limitations on funding sources for intergovernmental transfers (IGTs)
  • limitations on how Certified Public Expenditures (CPEs) can be used
  • substantive change in the definition of entities considered government providers
  • greater stringency in calculating upper payment limits (UPLs) and creation of a new UPL cap applicable to practitioners
  • new and extensive state reporting/justification requirements for supplemental payment programs
  • changes that will constrain the scope of permissible healthcare-related taxes
  • numerous documentation, justification and information reporting requirements

The deadline to submit comments in response to the proposed regulation is Feb. 1, 2020. It is also foreseeable that Congress may attempt a legislative response to some of the proposed changes.

This Holland & Knight alert summarizes CMS' views regarding the need for the proposed changes (as discussed in the preamble to the proposed rules), as well as explains the substance of the proposed changes.

CMS Concerns

A. Supplemental Payments

With regard to supplemental payments (as distinct from base payments), CMS notes that the current ownership-based UPL categories allow individual institutions to receive Medicaid payments above the Medicare reasonable amount. They further note that the same is true of supplemental payments to practitioners because there is no UPL applicable to that group. CMS notes that it does not routinely examine the distribution of supplemental payments to individual providers, as current state reporting vehicles – CMS Form 64, the Medicaid Budget and Expenditure System (MBES) and Transformed Medicaid Statistical Information System (T-MSIS) – do not capture this data, and management reviews and audits are burdensome and not comprehensive. CMS indicates that it seeks to have a better understanding of the relationship between supplemental payments, costs, current UPLs, state financing of the non-federal share of supplemental payments, and the impact of supplemental payments on Medicaid. CMS also notes that the U.S. General Accountability Office (GAO) has recommended establishing facility-level reporting of supplemental payments, and that many such payments seem to target only those who participate in their financing.

CMS considers DSH payments to be neither base payments nor supplemental payments (given their separate statutory status). DSH payments are subject to state allotment limitations and hospital-specific limits enforced by audits. CMS' central concern is that it is often unable to determine if a particular provider was overpaid, the root cause of an overpayment or the amount. It also notes the Office of Inspector General (OIG) recommendation for the need to adjust future DSH payments to reflect actual incurred costs (through a process included in state plan amendments) and to include only allowable costs.

C. Medicaid Program Financing

After discussing the basic rules governing healthcare-related taxes, bona fide donations, IGTs and CPEs, CMS notes that states have become increasingly reliant on the use of these mechanisms by non-state units of government and that this could implicate the statutory requirement that states not lower the amount, duration, scope or quality of services due to the lack of funds from such local sources. CMS specifically calls out its concern regarding the use of complicated, unallowable financing arrangements involving public-private partnerships to mask non-bona fide provider-related donations as allowable IGTs. As discussed below, CMS is therefore proposing to require improved state reporting on supplemental payments and sources of the non-federal share; greater specificity in a variety of regulatory definitions and information to support various financing mechanisms; and addressing "egregious funding schemes that mask non-bona fide donations" by clarifying where indirect hold-harmless arrangements exist and by explicitly prohibiting "supplemental payments that support these schemes."

D. Healthcare-Related Taxes

CMS articulates several concerns related to taxes used to finance Medicaid programs. The first involves situations where a tax arrangement that is not broad-based or uniform nonetheless qualifies as being "generally redistributive" under the applicable regulatory tests – the "P1/P2" test employed for uniform taxes that are not broad-based or the "B1/B2" test for non-uniform taxes. CMS believes that states are implementing tax programs that meet these tests but nonetheless impose an undue burden on Medicaid. A second area of concern is that the regulatory definition of "health care-related tax" is not capturing all tax arrangements that should meet this definition, especially where a differential impact on Medicaid providers or payers is "masked" as part of a broader state revenue scheme. Third, CMS is concerned that states are using provider taxes in combination with various payment arrangements or understandings to violate the hold harmless rules. Finally, CMS is aware that a number of states are taxing health insurers who are not managed care organizations (MCOs) and that the existing permissible classes of healthcare items and services does not include insurers.

Specific Proposed Regulatory Changes

CMS proposes two dozen specific regulatory changes of varying significance.1 Significant items include the following:

A. State Share of Financial Participation: New IGT and CPE Requirements

1. Current Regulations

Title XIX requires that at least 40 percent of the state share of Medicaid financing must be state revenues and the remaining 60 percent can be derived from local sources. Current regulations (42 CFR 443.51) require that the state share be either:

a) funds that are directly appropriated to the state Medicaid agency

b) funds that are transferred from other public agencies to the state Medicaid agency ( (IGTs), or

c) funds that a public agency expends and certifies were used for Medicaid-eligible expenditures (CPEs).

2. IGT-Related Changes

The proposed rule would replace the term "public" with "state and local" and make other IGT-related changes to this section as follows.

  • Local IGT funds would need to derive from state or local taxes (or funds appropriated to a state university teaching hospital). There is no current requirement that a public agency identify the transferred funds to a tax source.
  • An IGT would be considered an impermissible non-bona fide provider-related donation if it is "contingent upon the receipt of funds by, or ... actually replaced in the accounts of the transferring agency" with funds from an unallowable source.

3. CPE-Related Changes

As for CPEs, new specific certification requirements (and substantive use limitations) are imposed under a proposed new regulatory section (42 CFR 447.206). Reimbursement to such providers may not exceed their actual cost using reasonable cost allocation principles that track federal cost accounting rules or Medicare cost principles. The state must establish and implement documentation and audit protocols, and only the certified amount may be claimed for Federal Financial Participation (FFP). In addition, the certifying entity must receive and retain the full amount of the FFP associated with the CPE. Finally, the certifying entity cannot be paid in excess of the amount attributable to services to Medicaid beneficiaries.

B. Bona Fide Donations/Provider Related Donation: Clarifying Existence of Hold Harmless Arrangements

1. Current Regulations

Medicaid regulations (42 CFR 433.54) define the term "bona fide donation" as provider-related donations that are not returned to the donor under a hold harmless arrangement. Among other things, a hold harmless arrangement can exist when the recipient provides to the donor a payment, offset or waiver that directly or indirectly guarantees return of all or a portion of the donation to the donor.

2. Clarifying Existence of Hold Harmless Guarantee

The proposed regulation adds additional language to Section 42 CFR 443.54(c)(3) to make clear that "such a guarantee will be found to exist where, considering the totality of the circumstances, the net effect of an arrangement between [the state or local government] and the provider ... results in a reasonable expectation that the provider, provider class or a related entity will receive a return of all or a portion of the donation ... regardless of whether the arrangement is reduced to writing or is legally enforceable ..."

"Net effect" is defined as "the overall impact of an arrangement, considering the actions of all of the entities participating in the arrangement, including all relevant financial transactions or transfers of value, in cash or in kind, among participating entities." Net effect is to be determined by considering the "totality of the circumstances, including the reasonable expectations of the participating entities, and may include consideration of reciprocal actions without regard to whether the arrangement or a component of the arrangement is reduced to writing or is legally enforceable by any entity" (Proposed 42 CFR 433.52).

3. Clarifying Scope of Activities Comprising Provider-Related Donations

The proposed regulation also substantially amends the existing definition of a "provider-related donation" (42 CFR 422.52) to clarify the scope of captured transactions. The proposed addition indicates that "any transfer of value where a health care provider or provider-related entity assumes an obligation previously held by a governmental entity and the governmental entity does not compensate the private entity at fair market value will be considered a donation made indirectly to the governmental entity." The obligation need not constitute a legally enforceable obligation to be considered a donation. Rather, this will be determined by examining the totality of the circumstances and the arrangement's net effect.

4. Presumption Based on Organizational Revenues

Finally, the proposed rule, as part of changes to the definition of "provider-related donation" would create a presumption based on the amount of an organization's revenues that are derived from providers and/or provider-related entities. Where such amount exceeds 25 percent of the organization's revenue, the organization always will be considered as acting on behalf of healthcare providers if it makes a donation to the state, and the amount of such donation that will be considered to be a provider-related donation will be based on the percentage of the organization's revenue during the relevant fiscal year that was received as donations from providers or provider-related entities. Where the amount is below 25 percent, donations will not generally be presumed to be provider-related donations. It should be noted that this is not a "safe harbor" provision but merely a presumption.

C. Upper Payment Limit-Related Provisions

The proposed rule makes significant changes related to UPLs. It adds a new Subpart D to 42 CFR 447 (proposed sections 284, 286, 288 and 290) that redefines the hospital groupings used for UPL calculations, imposes new substantive and reporting requirements regarding those calculations, requires extensive reporting on supplemental payments and creates penalties for reporting non-compliance.

1. Changes to Public/Private Hospital Definition

CMS is proposing to revise and tighten the definitions governing public and non-public hospitals (proposed 42 CFR 447.286). Going forward, the three categories of hospitals for UPL purposes would be "state government providers," "non-state government providers" and "private providers." This replaces the existing construct that asks whether the entity is "owned or operated" by a state, locality or private interest. CMS indicates that it is concerned that the existing regulations create ambiguities. It mentions the example of a private nursing home that transfers its deed to a governmental entity, thereby obtains governmental status without any other meaningful change in operations or revenue sources, and then has its lease payments to the government treated as IGTs.

To be considered a non-state government provider, the entity would need to be a "unit of local government ... which has access to and exercises administrative control over [appropriated] state funds and/or local tax revenue including the ability to expend such ... funds." Non-state government provider status will be determined based on the totality of the circumstances, including (but not be limited to) consideration of:

  • whether any entity other than the provider shares the responsibility for ownership or operation of the provider (giving consideration to decision-making authority, legal responsibility for risk from losses, authority over operational revenue, control of personnel (e.g., hiring/dismissal), tax liability and responsibility for payment of malpractice premiums)
  • the "character" of the entity (giving consideration to whether it is described in communications as a unit of government, whether the state considers it governmental solely for Medicaid purposes, and whether it "has access to and exercises control over" appropriated funds and/or local tax revenue)

The considerations applicable to a totality of the circumstances analysis to determine state governmental provider status are very similar.

2. UPL Reasonable Cost Calculations/Reporting

The second major change in the proposed rule affecting UPL is the imposition of new and much more specific requirements governing the calculation of costs for the purpose of determining a reasonable estimate of what Medicare would pay a UPL group of facilities for Medicaid items and services. Under proposed 42 CFR 447.288, the state would be required each year to submit a "demonstration of compliance" with the applicable UPL limit for inpatient, outpatient, skilled nursing facility (SNF), immediate care facility (ICF) and institution for mental disease (IMD) services. The proposed rules would require the use of specific data sources (including for cost purposes either a Medicare cost report, state cost report based on Medicare cost principles or 45 CFR Part 75 cost allocation rules), methodology parameters and acceptable UPL demonstration methodologies (either cost- or payment-based).

3. Supplemental, DSH, Provider Contribution and Related Information Reporting

Additionally, on each quarterly CMS-64, the state must report granular, provider-specific information regarding supplemental payments and, on an annual basis, aggregate provider-specific data on such payments as well as information on provider base payments, total Medicaid payments, total DSH payments, Medicaid units of care furnished and other information. This also includes reporting on provider-specific contributions to supplemental payments, including CPEs, IGTs, donations and healthcare-related taxes.

4. New UPL for Practitioners

As noted above, there is no existing UPL for practitioners, and some states make supplemental payments to practitioners (usually physicians). CMS is proposing to create a new UPL for practitioner services and to limit supplemental payments to practitioners to 50 percent of FFS base payments to the eligible provider, or 75 percent in the case of services provided within a Health Resources and Service Administration (HRSA) Health Professions Shortage Area (HPSA).

D. Supplemental Payments: State Plan Requirements

CMS is proposing to amend existing regulations (42 CFR 447.252) governing state plan amendments (SPAs) to more closely oversee supplemental payments. First, approval of SPAs as they pertain to supplemental payments would be limited to three years after which a renewal would be required. Second, an SPA proposing supplemental payments would need to provide extensive information, including an explanation of consistency with current law, the purpose and intended effects of the payment, and the criteria used to determine provider eligibility for the payment. Additionally, the SPA must include a description of the methodology used to calculate the amount and distribution of the payment to eligible providers that includes information on a list of required items (including the payment amount to each eligible provider, and the specific criteria for service, utilization or cost data used to calculate the amount or distribution of payments). The state must further provide assurances that applicable UPLs will not be exceeded, amonitoring plan and, for renewals, an evaluation of program impacts during the prior approval period.

E. Healthcare-Related Taxes 

CMS proposes tax-related changes in several sections (42 CFR 433.55, 433.56, 433.68, 433.72).

1. Undue Burden

To ensure that a tax is "generally redistributive" under waiver-related tests (42 CFR 433.68), CMS proposes to add a further level of examination to determine whether a tax that is determined to be generally redistributive under existing tests nonetheless imposes an "undue burden" on the Medicaid program. This would essentially be defined as a tax that imposes a higher burden on groups that have higher levels of Medicaid activity than it does on other taxed groups. A tax would be considered to impose undue burden if taxpayers are divided into taxpayer groups and any of the following conditions apply.

  • The tax excludes or places a lower tax rate on any taxpayer group based on a lower level of Medicaid activity.
  • Within each taxpayer group, the tax rate imposed on any Medicaid activity is higher than the tax rate imposed on any non-Medicaid activity (except as a result of excluding from taxation Medicare or Medicaid revenue).
  • The tax imposes a lower tax (or no tax) on a taxpayer group with no Medicaid activity unless all entities within the no-Medicaid activity group either furnish no services within the class in the state, do not charge any payer for services within the class, are federal providers of services or are units of government.
  • The tax imposes a lower tax rate (or no tax) on a group that is defined based on any commonality that CMS "reasonably determines" can serve as a proxy for the group having no or relatively low Medicaid activity.

2. Differential Treatment

CMS is proposing to change the definition of a healthcare-related tax in 42 CFR 433.55(c) to address taxes that are not solely applicable to healthcare entities, providers or payers but where there is some form of "differential treatment" of such healthcare interests. The proposed changes clarify that differential treatment exists in tax programs where some of those providing or paying for healthcare items or services are selectively included but others are not, as well as where some pay more than others. In making these determinations, CMS will look at the parameters of the tax ("the grouping of individuals, entities, items or services" on which the tax is imposed) and the totality of the circumstances. The new regulation would specifically prohibit "selective incorporation" of some healthcare interests but not others, or applying a higher rate to healthcare interests for a generally applicable tax (e.g., a business tax).

3. Hold Harmless Arrangements

To address the relationship between healthcare-related taxes and hold harmless arrangements, CMS would evaluate using a "net effect" standard (see related discussion above pertaining to donations). A direct or indirect hold harmless guarantee would be found to exist where, considering the totality of the circumstances, the net effect of any arrangement between the state or other unit of local government and the tax payer results in a reasonable expectation that the taxpayer would receive a return of some or all of the tax amount. This would apply regardless of whether the arrangement was written or legally enforceable.

4. Health Insurers as a Class

CMS is amending the defined classes of healthcare services and providers (42 CFR 433.56) to permit states and localities to tax the services of health insurers, separately and in addition to the current class of managed care organizations (which may not only be Medicaid MCOs).

F. DSH Audit Reporting Requirements

To improve financial integrity, CMS is proposing that states include a new audit data element as part of the existing requirement for annual DSH reporting (42 CFR 447.299) that requires auditors to quantify the estimated financial impact of any audit finding related to whether a hospital may have received DSH payments in excess of its limit. In addition, states would be required to report identified overpayments in a more timely manner on the CMS-64.

G. Retention of Payments

A new section (proposed 42 CFR 447.207) is added to require that, regardless of the payment methodology used by a state, it must permit the provider to retain the full amount of the total computable payment for services under the state plan (or waiver/demonstration if applicable). In enforcing this provision, the Secretary willexamine any "associated transactions" (which may include administrative fees paid to the state for processing claims or IGTs or hold harmless arrangements) to ensure that the state's claimed expenditure is equivalent to its net expenditure. CMS indicates that some states have been charging fees for processing provider Medicaid claims which serves as a de facto provider tax and should be paid for with Medicaid administrative funds.

H. Prohibitions on Varying Provider Reimbursement

A new provision, proposed 42 CFR 447.201(c), would explicitly provide that a state plan could not vary FFS payment to providers for Medicaid services based on a beneficiary's Medicaid eligibility category, enrollment under a waiver or demonstration, or federal matching rate available for services provided to a beneficiary's eligibility category. CMS intends to make clear that variation in payment based on FFP is inequitable and is prohibited. It notes that this does not prohibit variations in payment based on cost considerations.