Trump Administration Begins Crackdown on Medicaid Provider Tax Scheme

Federal law requires states and the federal government to each bear a meaningful share of Medicaid’s cost. Unfortunately, that requirement has been little more than a suggestion. For years, a growing number of states have gamed the financing system to dump their share of the bill on federal taxpayers, inflating Medicaid spending while contributing little of their own money. The provider tax is the primary tool they have used to do it.

The One, Big, Beautiful Bill Act (OBBBA) included landmark reforms limiting this loophole. ATR applauds the crackdown on these money-laundering schemes.

The provider tax has been used by state governments and hospitals to effectively launder funds from federal taxpayers. A state will increase or establish a provider tax, collect the tax from medical care providers in the state, the federal government is then required to match their newfound Medicaid spending dollars, and then states will give the money back to the same providers, with a little extra, and the state keeps the extra dollars.

On April 3^rd, the regulatory implementation of one piece of the crackdown took effect. The CMS final rule, “Preserving Medicaid Funding for Vulnerable Populations: Closing a Health Care-Related Tax Loophole,” codifies Section 71117 of the OBBBA into federal regulation. Federal law requires states to cover at least 40 percent of the non-federal share of Medicaid costs, but numerous states exploited the aforementioned loophole by imposing dramatically higher taxes on Medicaid managed care organizations (MCOs) than on commercial insurers, technically staying compliant while shifting their financial burden almost entirely onto federal taxpayers.

In California, MCOs were taxed at $274 per member per month for Medicaid enrollees while comparable commercial member months were taxed at $1.75 per member. States then used federal matching funds to reimburse the MCOs for the tax and pocketed the surplus. Disturbingly  California used these additional funds to provide Medicaid for illegal immigrants. In many states, federal taxpayers were footing the bill for state priorities that had nothing to do with the Medicaid program.

The CMS rule closes the MCO loophole by prohibiting states from imposing higher tax rates on Medicaid businesses than on comparable non-Medicaid businesses, and by barring the use of complex or ambiguous tax structures designed to obscure that targeting.

CMS estimates the loophole has been generating $24 billion annually for states, and that closing it will save the federal government over $78 billion over the next ten years.

This rule is the first step in the implementation of the OBBBA’s broader provider tax reforms. The OBBBA also phases down the provider tax safe harbor, the max amount states can charge and then be matched by the federal government, from 6 percent to 3.5 percent by 2032. Researchers have found that this could save about $375 billion, making it the most substantial of the Medicaid provisions in the OBBBA.

Democrats accuse the OBBBA of “gutting hospitals.” Interestingly enough, though, President Obama proposed these same restrictions on provider taxes in 2013. At the time, Democrats and the mainstream media applauded it as a commonsense solution, as the Paragon Institute details. The Washington Post editorial board itself endorsed the idea of capping provider tax rates, describing the tax as a tool states use to manipulate Medicaid’s funding mechanism.

The editorial board also quotes former Democratic Whip of the Senate Dick Durbin (D-Ill.), who called provider taxes “a bit of a charade.” Senator Durbin, who still serves in the Senate, is now fearmongering about the policies he once supported: “We are talking about life and death health care for America’s working families.”

ATR applauds the closing of the MCO tax loophole and eagerly awaits the OBBBA’s bigger reforms set to roll out in the coming years. These are commonsense policies that President Obama proposed and the Washington Post endorsed, with Dick Durbin calling the whole provider tax structure a charade. Because Republicans are the ones actually fixing it, it is now, apparently, a crisis of life and death.

Thankfully, under President Trump’s and Republican lawmakers’ leadership, federal taxpayers are finally getting relief from a scheme Washington quietly knew was indefensible all along.