Hospitals raise hands to pay taxes that plug Medicaid shortfalls

By Nona Tepper / July 10, 2024

Hospitals are volunteering, sometimes begrudgingly, to pay bigger taxes to help states close Medicaid budget gaps.

When fiscal 2025 began in most states July 1, health systems in Delaware, Idaho, Kansas, Maine, Missouri, Nebraska, New Mexico and elsewhere are on the hook for higher taxes in exchange for Medicaid reimbursement increases or coverage expansions.

“It’s not the most ideal situation, but we're making the best of what we have,” said Greg Morrison, vice president of external relations at the Idaho Hospital Association.

Medicaid is jointly financed and administered by the federal government and the states. While the split is supposed to be roughly even for most eligibility categories, the federal government covered more than 70% of costs in fiscal 2022, according to the most recent Centers for Medicare and Medicaid Services data compiled by the Urban Institute and KFF. The federal government pays 90% of costs for those enrolled in the adult Medicaid expansion authorized under the Affordable Care Act of 2010, which all but 10 states have adopted.

States use provider taxes to maximize federal Medicaid matching funds and minimize spending from state general funds.

States levy these taxes on hospitals and other providers and direct the money to their Medicaid shares, which enables them to draw down more federal dollars without tapping the rest of their budgets. In turn, states apply the higher funding to maintaining or raising payments to providers and the health insurance companies that administer Medicaid.

Critics such as the Medicaid and CHIP Payment and Access Commission, known as MACPAC, have long decried this as a budgeting gimmick that saddles federal taxpayers with state expenses. And although providers usually go along — largely because the most likely alternative would be Medicaid cuts — they sometimes complain that states don't hold up their end of the bargain.

Related: States propose Medicaid insurer rate hikes, eye benefit cuts

“Providers want to make sure that if they're bearing the burden of helping finance the Medicaid program and keeping it whole, that those tax increases — at least some of that — get reinvested in ways that increase their rates or the share of patients that are insured through Medicaid,” said Edwin Park, a research professor at the Georgetown University Center for Children and Families.

States have grown increasingly reliant on provider taxes to underwrite Medicaid and CHIP over the decades, and tax hikes often coincide with economic downturns that strain other state tax revenue.

“There's a lot of pressure for states to increase Medicaid budgets, and that's directly at odds with the reduced revenues,” said Robin Rudowitz, director of the KFF Program on Medicaid and the Uninsured. In fiscal 2024, 21 taxes instituted higher provider taxes, KFF reported in November.

More states looked to bigger provider taxes in fiscal 2025 in response to the end of enhanced federal support implemented during the COVID-19 public health emergency, Medicaid benefits and eligibility expansions, and tax cuts states enacted during the pandemic, Rudowitz said.

Hospitals in Idaho, for example, volunteered to pay a new tax to avoid the Legislature’s proposed rollback of the ACA Medicaid expansion voters approved via a ballot initiative in 2018. The assessment took effect this month, and hospitals will now finance 40% of the Idaho Medicaid budget, Morrison said.

In January, Delaware will likewise enact its first-ever hospital tax, which is 3.58% of annual net patient revenue. Hospitals will use the proceeds from higher state spending to raise wages, said Brian Frazee, president and CEO of the Delaware Healthcare Association. Delaware’s Protect Medicaid Act of 2024 stipulates the state must direct at least 72% of the revenue to providers.

“Our process wasn’t easy. Our members were opposed from the beginning,” Frazee said. “What we've seen happen in some other states that have not had these longer-term collaborative processes is hospitals end up losing money through this, and it becomes a fight.”

That fight is currently playing out in New Hampshire.

Under the Granite State's new policy, hospitals continue to pay a 5.4% of net patient revenue but are guaranteed less of a return. Previously, hospitals were entitled to 91% of the tax revenue via Medicaid, but that is now down to 80%. Instead, New Hampshire will divert dollars to community health centers and substance use disorder providers, according to Gov. Chris Sununu (R), whose office did not respond to an interview request.

“In essence, the governor is raising the tax rate on hospitals,” said Steve Ahnen, president of the New Hampshire Hospital Association, which is considering a lawsuit.

The dispute in New Hampshire exemplifies the criticism that provider taxes enacted in this way essentially function as kickbacks to hospitals that the federal government indirectly finances in the form of larger matching payments.

Ben Finder, vice president of coverage policy at the American Hospital Association, objected to this characterization. “It's approaching the problem with this perception or frame of the presumption of guilt on behalf of the hospital," he said.

CMS has proposed banning “hold harmless” agreements between states and hospitals but delayed the plan to 2028 after meeting resistance from hospitals and state officials. CMS also faces lawsuits from Florida and Texas, which allege it lacks authority to police such agreements.

“The state might try to say, ‘OK, the provider is donating this amount of money, and then they are essentially going to get it back.’ CMS doesn't want gaming of the system,” said Kayla Holgash, health policy director at McDermott+Consulting, who previously was a MACPAC analyst.

CMS authorizes states to tax providers up to 6% of net patient revenue. Requiring hospitals to attest they are not participating in hold harmless agreements with states could dampen state Medicaid spending and lead to payment cuts, Finder said. Moreover, he said, "to attest that you're not doing something illegal, it makes people uncomfortable."