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Quick Take: Medicaid Provider Taxes and Federal Deficit Reduction Efforts

Discussions continue at the federal level to reduce the federal deficit. Implementation of the automatic spending cuts in January 2013 (the sequester) that was part of the “Fiscal Cliff” was delayed two months. General support exists to pass legislation in order to avert the sequester; however, the details will be debated early in the 113th Congress. Medicaid is exempt from the sequester; however, Medicaid cuts could be part of an alternate deficit reduction package. Reducing the amount of provider tax revenues that states can use for their state share of Medicaid spending has been proposed as one way to achieve federal savings.

Provider taxes are an integral source of financing governed by long-standing regulations; all but one state (Alaska) reported a provider tax in FY 2013. (Figure 1)

Figure 1

Number of Provider Taxes by State FY 2013 Figure 1

NOTE: Counts listed here include taxes for inpatient hospitals, ICF-IDs, nursing facilities, managed care organizations as well as other taxes states reported either as in place or new for FY 2013, which runs for most states from July 1, 2012 through June 30, 2013.

SOURCE:  KCMU survey of Medicaid officials in 50 states and DC conducted by Health Management Associates, published October 2012.

Limiting the use of provider taxes would shift additional costs to states. If states were not able to find additional funds to replace provider tax funding (which is likely given states’ current fiscal stress), limits on provider taxes could result in program cuts with implications for Medicaid providers and beneficiaries. Since states use provider taxes differently, limits would have different effects across states. This quick take briefly highlights the role of provider taxes in states and the possible impact of proposals to limit the use of these taxes.  Data is based on findings from the most recent survey of Medicaid programs conducted by the Kaiser Commission on Medicaid and the Uninsured and Health Management Associates.

HOW IS THE MEDICAID PROGRAM FINANCED? States and the federal government share in the financing of the Medicaid program. Under federal Medicaid law, the federal government pays between 50 and 74 percent of all the costs of providing services to beneficiaries under the program.  These matching rates (FMAPs) vary across states based on the state’s per capita income in comparison to the national average (i.e. states with lower per capita income have higher matching rates.) The remaining share of program funding comes from state and local sources. One of the ways states raise funds for their share of Medicaid spending is through provider taxes.

WHAT ROLE DO PROVIDER TAXES PLAY IN STATE FINANCING OF MEDICAID? Provider taxes are imposed by states on health care services where the burden of the tax falls mostly on providers, such as a tax on inpatient hospital services or nursing facility beds. Provider taxes have become an integral source of financing for Medicaid.  For FY 2013, all but one state (Alaska) reported having at least one Medicaid provider tax and nearly two-thirds of states reported three or more provider taxes. (Table 1, Figure 1) The most common provider taxes are on nursing homes followed by inpatient hospitals and Intermediate Care Facilities for those with Intellectual Disabilities (ICFs-ID). (Figure 2)

Figure 2

Figure 2 - States with Medicaid Provider Taxes, FY2010-2013

NOTES: ICF-ID facilities are Intermediate Care Facilities for persons with intellectual disabilities. 

SOURCE: KCMU survey of Medicaid officials in 50 states and DC conducted by Health Management Associates, September 2010, October 2011, and October 2012.

States use the additional revenue collected by provider taxes in a number of ways to support Medicaid programs. For example, provider taxes help to support provider rate increases or to help mitigate provider rate cuts. States also have used funds collected from provider taxes to support the Medicaid program more broadly. For example, Colorado used some of the funds raised through their Hospital provider fee to expand eligibility to parents and children. During economic downturns, when state tax revenues fall at the same time that demand for public services like Medicaid increases, states are more likely to impose or increase provider taxes to help fund the state share of Medicaid.

In the past, states were able to use provider taxes and other state financing arrangements to enable states to receive higher effective federal matching rates than the statutory formula provides. However, legislation enacted in 1991 restricted the use of provider taxes to curb abusive practices. Under current regulations, states may not use provider tax revenues for the state share of Medicaid spending unless the tax meets three requirements: must be broad-based, uniformly imposed, and cannot hold providers harmless from the burden of the tax. Federal regulations create a safe harbor from the hold-harmless test for taxes where collections are 6.0 percent or less of net patient revenues; prior to October 2011, this safe harbor threshold was at 5.5 percent of net patient revenues.

WHAT WOULD THE IMPACT OF LIMITING THE USE OF PROVIDER TAXES BE ON STATES? Recent federal deficit reduction discussions have suggested gradually lowering the safe harbor threshold from 6.0 percent to 3.5 percent of net patient revenues. States have indicated that nearly 6 in 10 provider taxes currently in use by states are above that threshold. Forty-three states have at least one provider tax above this 3.5 percent threshold (Figure 3); over half of states reported at least two above this threshold. Other proposals have suggested instead returning to the prior threshold of 5.5 percent of net patient revenues; however, twenty-six states reported having at least one provider tax above the 5.5 percent threshold. Table 1 details which kinds of provider taxes states have as well as which of those taxes would be affected if the safe harbor threshold were dropped to 3.5% or 5.5% of net patient revenue. Taxes denoted with an * would only be affected if the threshold were dropped to 3.5% while taxes denoted with ** would be affected by reducing the threshold to either 3.5% or 5.5% of net patient revenues.

Figure 3

States with at least one provider tax currently above 3.5% of net patient revenue
NOTE: Counts listed here include taxes for inpatient hospitals, ICF-IDs, nursing facilities, managed care organizations as well as other taxes states reported as currently above 3.5% of net patient revenue. Three states reported not knowing if select taxes met either threshold asked about: DC (inpatient hospital), SD (ICF-ID), and VT (other – pharmacy).

SOURCE: KCMU survey of Medicaid officials in 50 states and DC conducted by Health Management Associates, published October 2012.

States are still recovering from the worst economic downturn since the Great Depression. States have faced several consecutive years of budget shortfalls and Medicaid cost containment efforts. While states have seen positive tax revenue growth for ten straight quarters, tax revenues are still below pre-recession levels. Limitations on provider taxes would have a more notable impact in those states that are heavily dependent on provider tax revenues to fund their state share of Medicaid spending. If provider taxes are limited, states would need to increase state funds to maintain current programs or make program cuts. Such changes in available financing could have negative implications for providers and beneficiaries under the current operation of the program as well as for the implementation of the ACA.

Table 1 (.pdf)