Statement by
Dennis Smith
Centers for Medicare and Medicaid Services

Inter-Governmental Transfers: Violations of the Federal-State Medicaid Partnership or Legitimate State Budget Tool?
before the
House Energy and Commerce Committee
Subcommittee on Health

April 1, 2004

Chairman Bilirakis, Ranking Member Brown, distinguished Committee members, thank you for inviting me to discuss intergovernmental transfers (IGTs) and the financing of the largest government health insurance program in the United States, Medicaid. Medicaid and Medicare Federal expenditures are of similar magnitude, and, in fact, prior to implementation of MMA Medicaid expenditures exceeded those of Medicare and will continue to do so until 2005.

There have been numerous studies over several years from the General Accounting Office (GAO) and the Office of Inspector General (OIG) regarding state actions to effectively shift a larger portion of state Medicaid costs to the Federal government. As the problem has been well documented elsewhere, I will focus my remarks on our views of intergovernmental transfers and our strategies for addressing this issue.


Medicaid is a partnership between the Federal Government and the states. While the Federal Government provides financial matching payments to the states and is responsible for overseeing the Medicaid program, each state essentially designs and runs its own program. States have great flexibility in administering their programs, and the Federal Government pays the states a portion of their costs by matching certain spending levels, with statutorily determined matching rates, currently ranging between 50 and 77 percent. This creates a natural tension in which states strive to maximize Federal matching dollars.

Over the last two decades, states have developed innovative ways of enhancing Federal matching dollars. In 1985, the Health Care Financing Administration (HCFA), now the Centers for Medicare and Medicaid Services (CMS), changed the regulations governing the way the Federal Government provides matching funds to states when they received private donations to help cover administrative costs. The rule change was merely intended to reduce record keeping and provide states more flexibility for accepting philanthropic donations.

Additionally, regulations at the time allowed states to impose special taxes on specific provider groups. These regulations led states to impose taxes and receive donations from providers that led to new ways to finance states' share of Medicaid expenditures. In 1986, Congress was concerned that states were not reimbursing Disproportionate Share Hospitals (DSH) for their uncompensated care costs. Legislation was passed that eliminated any limit on DSH payments. The combination of new revenue sources from donations and taxes and the ability to pay unlimited DSH reimbursement led to a significant increase in Medicaid expenditures claimed by states. Once these exploding loopholes began to be limited, states pursued the Upper Payment Limit (UPL) loophole more aggressively. Using these mechanisms, many states have managed to inappropriately draw down more Federal Medicaid dollars with fewer state dollars, resulting in an effective FMAP that is higher than the statutorily determined matching rates, creating inequities among states. CMS has begun to close these loopholes and ensure that states receive appropriate matching rates, but it is a long, complicated process.


CMS has a strong interest in strengthening financial oversight and ensuring payment accuracy and fiscal integrity. Federal matching funds must be a match for real Medicaid expenditures. At the Federal level, our primary role is to exercise proper oversight and review of state financial practices and to provide guidance and support for states' efforts to ensure program and fiscal integrity. While we have made substantial progress in helping states identify and reduce improper payments, we are now turning our attention to strengthening Medicaid Federal financial management activities.

We have taken some initial steps to improve our financial management processes, but we know that more work can and must be done. As part of the President's FY 2003 Budget, we have dedicated $10 million from the Health Care Fraud and Abuse Control (HCFAC) account to develop a comprehensive Medicaid program integrity plan. The FY 2004 Budget allocated $20 million from HCFAC for this effort. The FY 2005 Budget also proposes to allocate $20 million from HCFAC for this initiative. We are increasing attention to, and emphasizing the importance of Medicaid financial management at all levels of our Agency and across all of our regions. This effort involves improving Federal oversight capabilities of state Medicaid financial practices, and focusing attention on program areas of greatest risk, so that our resources are targeted appropriately. The following are examples of improvements and progress we have made as part of our Medicaid financial management and program integrity redesign.

Creating National Reimbursement Teams

In an effort to improve national consistency in the issuance and application of Medicaid reimbursement policy, we have put together a team of Central and Regional Office staff, the National Institutional Reimbursement Team (NIRT), who are responsible for reviewing all institutional reimbursement state plan amendments, providing technical assistance to the states, and developing Medicaid institutional reimbursement regulations and policy. For example, the team is currently using a standard set of questions that must be answered by states before a state plan amendment will be approved and will help ensure that the payment methodology is clear. Questions include issues such as, "Do providers retain all of the Medicaid payments including the Federal and state share (including normal per diem, DRG, DSH, supplemental, and enhanced payments) or is any portion of the payments returned to the state, local governmental entity, or any other intermediary organization?" As a result of this effort, we will better know what we are paying for and how we are paying for it. The team's work will help ensure consistency in the application and review of our Medicaid policies. We also have established a Non-Institutional Provider Team (NIPT), which functions similarly to the NIRT, but for non-institutional providers, namely physicians. The NIRT and the NIPT have been working together on UPL transitions for those states with both inpatient and outpatient UPL phase-outs.

Upfront Reviews of State Funding Sources and Expenditures

We will be redirecting and adding resources this year with the goal of changing the emphasis of the Financial Management (FM) review of state Medicaid/SCHIP programs from an after-the-fact review to an upfront and proactive review. Our new emphasis would be primarily to review the non-Federal share amounts and related expenditures prior to the beginning of the fiscal year so that any problems or issues can be resolved before any claims are submitted. This process would provide an approval of the state's operating plan for the upcoming year, with the goal of eliminating the need for CMS to intervene and disallow Federal Medicaid funding after it has already been spent by the state and to identify any unallowable funding mechanisms or expenditures before they actually happen. We recognize that the comment period provided for in the January 7 Federal Register notice was not sufficient. In that regard, CMS will be consulting with the National Governor's Association and the National Association of State Medicaid Directors (NASMD) to ensure full understanding of the process and requirements prior to its implementation. Furthermore, following these consultations, CMS intends to republish the notice in the Federal Register with a full 60-day comment period. This process will not be implemented until the full consultation with our state partners is complete.

Making Federal Matching Payments Only When State Plan Amendments Are Approved

In the past, states have been allowed to draw down Federal matching payments for state plan amendments that were submitted, but not yet approved. This allowed states to assume a financial risk if their plan amendment was subsequently disapproved. Since Federal matching payments were readily available while their state plan amendments were being considered, states had little incentive to ensure their plan amendments were approved. In fact, some state plan amendments were pending for years while the states continued to draw down Federal matching payments. In January 2001, we issued a state Medicaid Director letter informing the states that we would no longer make Federal matching payments until state plan amendments were approved, thus removing the previous incentive for states to keep plan amendments pending. For our part, we have changed our policy so that we will either approve or disapprove plan amendments within 90 days.

Partnership with State and Federal Oversight Agencies

Another key element of our new financial management strategy is to strengthen our working relationships and our exchanges of information with several state entities. Every state has one or more audit entities responsible for ensuring that state expenditures, including those in the Medicaid and State Children's Health Insurance Programs, are properly made and documented. Furthermore, every Medicaid Agency has a surveillance and utilization review staff to pinpoint and pursue questionable provider claims and Agency payments. Finally, as you know, virtually all states operate a Medicaid Fraud Control Unit, typically housed in the Attorney General's office, to pursue instances of suspected Medicaid fraud. By better cultivating our relationships with state agencies that perform these types of functions, we believe we can continue to enhance our oversight of the Medicaid program nationwide. In addition, over the last several years, at the Federal level, we have developed a close collaboration with the Department of Health and Human Services' Office of the Inspector General. We intend to continue this relationship. CMS is in the process of hiring and assigning 100 new full time equivalent (FTE) positions that will be responsible for audit and compliance work within the CMS regions and in each state.


Since August 2003, CMS has been requesting information from states regarding detail on how states are financing their share of the Medicaid program costs under the Medicaid reimbursement State Plan Amendment (SPA) review process. The questions related to state financing of the Medicaid program are applied consistently and equally to all states under the SPA review process. New SPA proposals will not be approved until states have fully explained how they finance their Medicaid programs and until such time that states have agreed to terminate any financing practices that contradict the intent of the Federal-state partnership. (Attachment)

During that SPA review process, CMS discovered that some states are utilizing financing techniques that do not comport with the intent of the Federal-state partnership. Specifically, CMS has discovered that several states make claims for Federal matching funds associated with certain Medicaid payments, payments of which the health care providers are not ultimately allowed to retain. Instead, through the "guise" of the IGT process, state and/or local governments require the health care provider to forgo and/or return certain Medicaid payments to the state (on the same day in many instances), which effectively shifts the cost of the Medicaid program to the Federal taxpayer.

The result of such an arrangement is that the health care provider is unable to retain the full Medicaid payment amount to which it was entitled (a payment for which Federal funding was made available based on the full payment), and the state and/or local government may use the funds returned by the health care provider for costs outside the Medicaid program and/or to help draw additional Federal dollars for other Medicaid program costs. The net effect of this re-direction of Medicaid payments is that the Federal government bears a greater level of Medicaid program costs, which is inconsistent with the Federal medical assistance percentages specified in the Medicaid statute.

Some may suggest that the action taken on UPL has addressed the concerns of the subcommittee. Experience shows this is not the case. Since we began our in depth review of state plan amendments that deal with reimbursement last summer, 82 have been approved, 4 have been disapproved and 5 have been withdrawn entirely by states. Thirty-nine SPAs have been temporarily withdrawn by states as a result of our requests for additional information. Another 153 SPAs are under review at CMS.

The FY 2005 Budget proposes to build on past efforts to improve Federal oversight of Medicaid and ensure that Federal taxpayer dollars for Medicaid are going to their intended purpose. The Administration proposes to further improve the integrity of the Medicaid matching rate system through steps to curb IGTs that are in place solely to avoid the legally determined state financing. To be clear, CMS always considers legitimate IGTs permissible sources of state funding of Medicaid costs, which are meant to allow units of local governments, including government health care providers, to share in the cost of the state Medicaid program.

In this regard, we are developing a proposal under which the Federal government, when matching a claimed state expenditure for a service provided by a public provider, will only provide matching payments on the basis of the state's true net expenditure. For a simple illustration, assume that a state with a 50/50 match rate submits a claim for $100 for service provided by a public provider. If the public provider is required to return 5 percent of the claim to the state as an intergovernmental transfer, we believe the net expenditure is only $95 so the federal match should be only $47.50 instead of $50. As noted previously, the Department's Office of Inspector General recommended this approach as part of its September 2001 final report. Specifically, the OIG recommended that CMS "Require that the return of Medicaid payments by a county or local government to the State be declared a refund of those payments and thus be used to offset the FFP generated by the original payment."

The Administration proposes to restrict federal reimbursement for Medicaid payments to individual government providers to no more than the net cost of providing services to Medicaid beneficiaries. Limiting Federal reimbursement to no more than net cost would curb excessive payments while preserving a state's ability to pay reasonable rates to such providers. Both the U.S. General Accounting Office and the HHS Office of the Inspector General have recommended that payments to government owned facilities be tied to costs. GAO has recommended that Medicaid allow states to reimburse government facilities no more than costs, while OIG has recommended that facility specific limits be established based on costs. CMS is continuing to develop our full legislative proposal and intend to submit it shortly.


Although CMS has several efforts underway to improve Medicaid's financial oversight and management, these are all temporary solutions. Medicaid financing needs fundamental structural reforms that will return the program to a Federal and state partnership and will reduce waste, fraud and abuse. CMS is interested in working with Congress and our state partners to resolve issues related to financial recycling mechanisms and making sure that Federal dollars remain in the Medicaid program and Medicaid payments remain with providers. We believe an approach under which the Federal government will provide matching payments on the basis of the state's true net expenditure when matching a claimed state expenditure for a service provided by a public provider would address the financial recycling mechanisms now in use.

Through complex, creative financing mechanisms, states have artificially maximized Federal Medicaid matching funds. Such practices undermine accountability, responsibility, and ultimately, public trust. We look forward to working with you to find a permanent solution to this growing concern.


Section 1903(a)(1) provides that Federal matching funds are only available for expenditures made by States for services under the approved State plan.

  1. Do providers retain all of the Medicaid payments including the Federal and State share (includes normal per diem, DRG, DSH, supplemental, enhanced payments, other) or is any portion of the payments returned to the State, local governmental entity, or any other intermediary organization? If providers are required to return any portion of payments, please provide a full description of the repayment process. Include in your response a full description the methodology for the return of any of the payments, a complete listing of providers that return a portion of their payments, the amount or percentage of payments that are returned and the disposition and use of the funds once they are returned to the State (ie, general fund, medical services account, etc.) For DSH payments, please also indicate if you are making DSH payments in excess of 100% of costs and the percentage of payments in excess of 100% that are returned to the State, local governmental entity, or any other intermediary organization.

Section 1902(a)(2) provides that the lack of adequate funds from local sources will not result in the lowering the amount, duration, scope, or quality of care and services available under the plan.

  1. Please describe how the state share of each type of Medicaid payment (normal per diem, DRG, supplemental, enhanced, other) is funded. Please describe whether the state share is from appropriations from the legislature, through intergovernmental transfer agreements (IGTs), certified public expenditures (CPEs), provider taxes, or any other mechanism used by the state to provide state share. Please provide an estimate of total expenditure and State share amounts for each type of Medicaid payment. If any of the state share is being provided through the use local funds using IGTs or CPEs, please fully describe the matching arrangement. If CPEs are used, please describe how the state verifies that the expenditures being certified are eligible for Federal matching funds in accordance with 42 CFR 433.51(b).

Section 1902(a)(30) requires that payments for services be consistent with efficiency, economy, and quality of care. Section 1903(a)(1) provides for Federal financial participation to States for expenditures for services under an approved State plan.

  1. If supplemental or enhanced payments are made, please provide the total amount for each type of supplemental or enhanced payment made to each provider type.

  2. Please provide a detailed description of the methodology used by the state to estimate the upper payment limit for each class of providers (State owned or operated, non-state government owned or operated, and privately owned or operated).

  3. Does any public provider receive payments that in the aggregate (normal per diem, DRG, supplemental, enhanced, other) exceed their reasonable costs of providing services? If payments exceed the cost of services, do you recoup the excess and return the Federal share of the excess to CMS on the quarterly expenditure report?

Last Revised: April 5, 2004