Order Code RS22849
Updated July 2, 2008
Medicaid Financing
April Grady
Analyst in Health Care Financing
Domestic Social Policy Division
Summary
Combined federal and state spending on the Medicaid program currently exceeds
$300 billion each year. It is the largest or second-largest item in state budgets, and is
second only to Medicare in terms of federal spending on health care. Last year,
Congress placed temporary moratoriums on the implementation of four controversial
regulations that anticipate large reductions in federal spending for Medicaid. A war
supplemental spending bill enacted this year (P.L. 110-252) further delayed
implementation of these regulations and two others until April 1, 2009. In response to
the recent economic downturn, legislation that would provide state fiscal relief in the
form of a temporary increase in the federal medical assistance percentage (FMAP, which
determines federal share of most Medicaid costs) has also been introduced (S. 2586,
H.R. 5268, S. 2620, S. 2819).
Shared Responsibility
Financing for the Medicaid program is shared by the federal government and the
states. States incur Medicaid costs by making payments to service providers (e.g., for
beneficiaries’ doctor visits) and performing administrative activities (e.g., making
eligibility determinations).1 They then submit quarterly expense reports in order to
receive federal reimbursement for a share of these costs.2
The federal share for Medicaid administrative costs does not vary by state and is
generally 50%.3 The federal share for most Medicaid service costs is determined by the
1 In general, Medicaid pays for care only when all other third-party resources (e.g., private health
insurance, Medicare, personal injury settlements) have met their legal obligation to do so.
2 These quarterly expense reports are also used to repay the federal share when a state recovers
some of its Medicaid costs (e.g., from a health insurer in cases where a Medicaid beneficiary also
has private coverage or from the estate of a deceased beneficiary who received certain long-term
care services) or discovers that it has overpaid a service provider.
3 CRS Report RS22101, State Medicaid Program Administration: A Brief Overview, by April
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federal medical assistance percentage (FMAP), which is based on a formula that provides
higher reimbursement to states with lower per capita incomes relative to the national
average (and vice versa).4 FMAPs have a statutory minimum of 50% and maximum of
83%. Some Medicaid services receive a higher federal match, including those provided
through an Indian Health Service facility, to certain women with breast or cervical cancer,
for family planning, or under the Qualifying Individuals (QI) program that pays Medicare
Part B premiums on behalf of certain Medicaid beneficiaries.5
Exceptions to the FMAP formula have been made for certain states and situations.
For example, the District of Columbia’s Medicaid FMAP is set in statute at 70%, and the
territories (Puerto Rico, American Samoa, the Northern Mariana Islands, Guam, and the
Virgin Islands) have FMAPs set at 50%. Under the Jobs and Growth Tax Relief
Reconciliation Act of 2003 (P.L. 108-27), all states received a temporary increase in
Medicaid FMAPs for the last two quarters of FY2003 and the first three quarters of
FY2004 as part of a fiscal relief package. In addition, the Deficit Reduction Act of 2005
(P.L. 109-171) allowed an increase in the federal share for certain Medicaid and State
Children’s Health Insurance Program (SCHIP) costs in the wake of Hurricane Katrina.
One goal of the FMAP formula is to narrow differences in states’ ability to fund
Medicaid services, defined in some studies as a state’s total taxable resources (a specific
measure produced by the U.S. Department of Treasury) relative to its number of low-
income people. Although the Government Accountability Office (GAO) and others have
found that it does not always do so,6 a primary obstacle to altering the FMAP formula is
the potential creation of winners and losers among states that fare well under the current
system and those that would do better under another.
In FY2006, Medicaid spending on services and administrative activities in the 50
states and the District of Columbia totaled $314 billion, with a federal share of $179
billion and a state share of $135 billion.7 As with overall health care spending, Medicaid
is expected to consume a growing share of the U.S. economy in the future, mostly because
of increases in costs per person (driven by medical technology and other factors) and to
a lesser extent because of population aging.8
3 (...continued)
Grady.
4 CRS Report RL32950, Medicaid: The Federal Medical Assistance Percentage (FMAP), by
April Grady.
5 There is also an enhanced FMAP for Medicaid services that are financed with federal allotments
for SCHIP.
6 U.S. General Accounting Office (now the Government Accountability Office), Medicaid
Formula: Differences in Funding Ability among States Often Are Widened, GAO-03-620, July
2003, at [http://www.gao.gov/new.items/d03620.pdf].
7 U.S. Department of Health and Human Services, Centers for Medicare and Medicaid Services,
Form CMS-64 data, October 2007. Excludes $2 billion in federal Medicaid spending on the
Vaccines for Children program, which does not require a state share and is not limited to children
enrolled in Medicaid.
8 For example, see Congressional Budget Office, The Long-Term Outlook for Health Care
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Federal Funding
Federal spending levels for Medicaid are largely determined by the states, which
generally receive open-ended funding as long as they operate their programs in
compliance with federal law. Exceptions for which federal funding is capped include the
territories, disproportionate share hospital (DSH) payments made to hospitals serving a
large number of Medicaid or low-income patients, the QI program mentioned earlier, and
waivers that allow states to operate outside of normal federal rules (which are subject to
aggregate budget caps or cost-per-beneficiary caps).9 The annual appropriations process
also provides an opportunity for Congress to place limitations on specified activities,
including the circumstances under which federal funds can be used to pay for abortions.
Unlike Medicare and Social Security, federal funding for Medicaid comes entirely
from general revenues, rather than a dedicated account or trust fund within the U.S.
Treasury. It represents a growing portion of the federal budget, having increased from 2%
of federal outlays in FY1975 to an estimated 7% in FY2008.10
State Funding
States generally control their own Medicaid spending levels by altering eligibility,
covered services, cost-sharing and premiums paid by beneficiaries, provider
reimbursement rates, and other aspects of the program within broad federal guidelines.11
Funding for the nonfederal (i.e., state) share of Medicaid costs comes from a variety of
sources, but at least 40% must be financed by the state, and up to 60% may come from
local governments. In state fiscal year (SFY) 2006, states reported that about 80% of the
nonfederal share of their Medicaid costs was financed by state general funds (most of
which are raised from personal income, sales, and corporate income taxes). The
remaining 20% was financed by other state funds (including local funds, provider taxes,
fees, donations, and assessments, and tobacco settlement funds).12
8 (...continued)
Spending, November 2007, at [http://www.cbo.gov/ftpdocs/87xx/doc8758/11-13-LT-Health.pdf].
9 In addition, some states have chosen to expand their Medicaid programs using capped federal
allotments for SCHIP. However, this does not affect the open-ended nature of federal funding
for Medicaid. Once these states have exhausted their SCHIP allotments, they revert to using
Medicaid funds. See CRS Report RL30473, State Children’s Health Insurance Program
(SCHIP): A Brief Overview, by Elicia J. Herz, Chris L. Peterson, and Evelyne P. Baumrucker.
10 U.S. Office of Management and Budget, Historical Tables, Budget of the United States
Government, Fiscal Year 2009, Tables 8.1 and 8.5, at [http://www.whitehouse.gov/omb/budget/
fy2009/].
11 For an overview of what is mandatory and optional for states, see CRS Report RL33202,
Medicaid: A Primer, by Elicia J. Herz. In terms of state control over spending, one exception
relates to beneficiaries who are dually eligible for Medicare and Medicaid. Although prescription
drug coverage for this population was shifted from Medicaid to Medicare Part D in 2006, states
are still required to make “clawback” payments that are based on their historical Medicaid
prescription drug spending. These payments are made separately to Medicare Part D and are not
reported as Medicaid costs. See CRS Report RL32902, Medicare Prescription Drug Benefit:
Low-Income Provisions, by Jennifer O’Sullivan.
12 National Association of State Budget Officers, 2006 State Expenditure Report, December
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Although financing for the Medicaid program is a shared responsibility, GAO and
others have reported on mechanisms used by states to inappropriately increase their
federal share.13 For example, a state with a 50% FMAP might make a $10 million
payment to a hospital that returns $9 million to the state, netting $1 million for the
hospital and $4 million for the state at the expense of the federal government.14 Limits
have been placed on these financing mechanisms over the years, primarily through
changes to DSH and upper payment limit (UPL) rules that allow states to make
supplemental payments to certain providers, as well as intergovernmental transfer (IGT)
and provider tax and donation rules that allow them to collect revenues from providers.
Medicaid is the largest or second-largest item in state budgets, depending on how it
is measured. Looking at SFY2006 expenditures from all revenue sources (including
federal funds), Medicaid made up the largest share (21.5%), closely followed by
elementary and secondary education (21.4%). Looking only at SFY2006 expenditures
from state revenue sources (general, other state, and bond funds), elementary and
secondary education made up the largest share (24.9%), followed by Medicaid (13.0%).15
State-funded Medicaid spending as a share of state-funded total spending has more than
doubled since SFY1989 (when it was 6.3%), with major growth in the early 1990s fueled
by an economic downturn, high growth in medical costs, and the use of financing
mechanisms described earlier that can effectively recycle federal funds into state funds.16
Current Issues
A number of controversial regulations affecting Medicaid financing and federal
funding have been proposed or finalized over the past year, including some that would17
! restrict the use of IGTs between state governments and public providers
for purposes of Medicaid, as well as UPL payments to these providers;18
! align the Medicaid definition of outpatient hospital services more closely
to the Medicare definition for purposes of calculating Medicaid UPLs;19
12 (...continued)
2007, at [http://www.nasbo.org/Publications/PDFs/fy2006er.pdf]. Some states were unable to
report state general funds and other state funds separately for Medicaid.
13 U.S. Government Accountability Office, Medicaid Financing: Long-Standing Concerns about
Inappropriate State Arrangements Support Need for Improved Federal Oversight, testimony of
Marjorie Kanof before U.S. Congress, House of Representatives, Committee on Oversight and
Government Reform, GAO-08-255T, November 1, 2007, at [http://www.gao.gov/new.items/
d08255t.pdf].
14 $10 million payment = $5 million federal share + $5 million state share; hospital net = $10
million payment - $9 million returned; state net = $9 million returned - $5 million state share.
15 National Association of State Budget Officers, 2006 State Expenditure Report.
16 CRS Report RL31773, Medicaid and the State Fiscal Crisis of 2000-2003, by Christine Scott.
17 Also see Kaiser Commission on Medicaid and the Uninsured, Medicaid: Overview and Impact
of New Regulations, January 2008, at [http://www.kff.org/medicaid/7739.cfm].
18 CRS Report RS22848, Medicaid Regulation of Governmental Providers, by Jean Hearne.
19 CRS Report RS22852, Medicaid and Outpatient Hospital Services, by Elicia J. Herz and Sibyl
Tilson.

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! implement Medicaid provider tax provisions in P.L. 109-171 and P.L.
109-432 and clarify rules for approving these taxes;20
! clarify that graduate medical education (GME) payments are not federally
reimbursable under Medicaid;21
! restrict federal reimbursement under Medicaid for certain school-based
administrative activities and transportation services;22
! implement a Medicaid targeted case management (TCM) provision in
P.L. 109-171 and clarify rules for claiming these services;23
! clarify what may be claimed as Medicaid rehabilitation services;24 and
! implement Medicaid prescription drug provisions in P.L. 109-171.25
Some of these regulations anticipate large reductions in federal spending for
Medicaid. For example, the final rule on IGTs alone is expected to result in federal
savings of $3.87 billion over five years by restricting states’ use of certain financing
mechanisms.26 In four cases (IGTs, GME, school-based administration and transportation,
rehabilitation), Congress placed temporary moratoriums on implementation until May or
June of 2008. A war supplemental spending bill enacted at the end of June (P.L. 110-252)
further delayed implementation of these regulations and two others (provider taxes and
TCM) until April 1, 2009.27
Another area of concern for Medicaid is the recent economic downturn, which has
the potential to increase enrollment at a time when state revenues might be stagnant or
falling. Several bills that would provide state fiscal relief in the form of a temporary
FMAP increase have been introduced (S. 2586, H.R. 5268, S. 2620, S. 2819). Such an
increase would reduce the amount of state funding that is required to maintain a given
level of Medicaid services. For states that are contemplating cuts to Medicaid (which can
take many forms), increased federal funding could enable them to avoid those cuts. For
others, the state savings that result from an FMAP increase could be used for a variety of
purposes that are not limited to Medicaid.28
20 CRS Report RS22843, Medicaid Provider Taxes, by Jean Hearne.
21 CRS Report RS22842, Medicaid and Graduate Medical Education, by Elicia J. Herz and Sibyl
Tilson.
22 CRS Report RS22397, Medicaid and Schools, by Elicia J. Herz.
23 CRS Report RL34426, Medicaid Targeted Case Management (TCM) Benefits, by Cliff Binder.
24 CRS Report RL34432, Medicaid Rehabilitation Services, by Cliff Binder.
25 CRS Report RL30726, Prescription Drug Coverage Under Medicaid, by Jean Hearne.
26 Based on the regulatory impact analysis provided in the final rule. The Congressional Budget
Office and the House Committee on Oversight and Government Reform have released their own
estimates for various regulations.
27 Other legislation to further delay implementation was passed by the House (H.R. 5613), passed
by the Senate (S. 1200), introduced in both chambers (H.R. 4355, S. 2460, H.R. 5173, S. 2578,
S. 2819), and acknowledged with deficit-neutral reserve funds in the House, Senate, and
conference agreement versions of the FY2009 budget resolution (H.Con.Res. 312, S.Con.Res.
70, and H.Rept. 110-659 accompanying S.Con.Res. 70).
28 See CRS Report RL32950, Medicaid: The Federal Medical Assistance Percentage (FMAP).

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