In Defense of Intergovernmental Transfers from Governmental Health Care Providers

Some of the advocacy groups and think tanks that lobbied for the Medicaid provider tax restrictions in last year’s H.R. 1 are now renewing their criticisms of the states’ use of “intergovernmental transfers” (“IGTs”) from governmental health care providers to fund the non-federal share of Medicaid payments to those same providers.[1] The critics’ goal appears to be twofold: first, to shift Medicaid costs away from the federal government despite the federal government’s shared financial responsibility with the states to fund Medicaid expenditures; second, to limit the flexibility Congress afforded to the states to design their respective Medicaid programs in a manner that suits each state’s individual needs and fiscal constraints. This article summarizes the faulty legal reasoning and erroneous factual assertions relied upon by some critics of these IGTs.

I. Federal Medicaid Law Authorizes States to Use IGTs from Governmental Health Care Providers to Fund Medicaid Payments to Those Same Providers

Contrary to some critics’ claims, states did not just recently begin to use IGTs from governmental health care providers to fund the non-federal share of Medicaid payments to those same providers. Moreover, these payment arrangements, also contrary to the critics’ claims, are not schemes or sham transactions.

The 1965 federal legislation that established the Medicaid program added Section 1902(a)(2) to the Social Security Act. Section 1902(a)(2) authorizes a state to use “funds from local sources” to finance the non-federal share of the state’s Medicaid program.[2] Pursuant to Section 1902(a)(2), up to 60% of the non-federal share of a state’s Medicaid expenditures may be financed with “funds from local sources,” which includes IGTs.[3]

Over the years, Section 1902(a)(2) has served as the basis for federal regulations and policies authorizing states to fund Medicaid payments to governmental providers with IGTs from those very same providers. Below are a few examples:

1985 Rule Writing: 42 CFR § 433.45(a). More than 40 years ago (December 1985), CMS’s predecessor agency, the Health Care Financing Administration (“HCFA”), issued a final rule authorizing public funds transferred from “public agencies” to serve as the “State’s share” of a state’s Medicaid expenditures.[4], [5] The rule, 42 CFR § 433.45(a), was based on Section 1902(a)(2). In the preamble to the rule, HCFA indicated that the rule’s reference to “public agencies” meant public “enterprises.”[6] HCFA also stated in the preamble: “As State fiscal budgets have become more austere, state legislatures have looked increasingly to alternative sources for funding a larger portion of the Medicaid program.”[7]

In a 1989 decision by the Department of Health & Human Services’ (“HHS”) Departmental Appeals Board regarding 42 CFR § 433.45(a) and the State of Tennessee’s use of funds transferred by public hospitals to fund Medicaid disproportionate share payments to those same public hospitals (as well as to other hospitals), the Board concluded the following:

• • The funds transferred from the public hospitals met the criteria in 42 CFR § 433.45(a), requiring the transfer of public funds from “public agencies.” In reaching this conclusion, the Board held that public hospitals were “public agencies” for purposes of 42 CFR § 433.45(a). In doing so, the Board also noted that HCFA did not dispute that public hospitals were “public agencies” for purposes of 42 CFR § 433.45(a).[8], [9]
  • 42 CFR § 433.45(a) (which the Board said “implements” Section 1902(a)(2)) permitted the public hospitals to transfer funds to the state and permitted those transferred funds to be used to fund Medicaid payments to those same public hospitals. The Board concluded as follows:

“Moreover, it appears that the regulation permits public agencies to fund the very assistance services they themselves provide. One of the recognized methods by which the local public agency’s funds may qualify is by the agency’s certification that it expended its own funds for activities that would qualify for funding under the program.”[10]

HCFA subsequently amended 42 CFR § 433.45(a) and redesignated it as 42 CFR § 433.51, which is the current regulation authorizing IGTs under Section 1902(a)(2).[11]

1991 Congressional Hearings. More than 34 years ago (during the summer and fall of 1991), the U.S. House and Senate conducted hearings regarding the states’ use of IGTs and private donations to fund the non-federal share of their Medicaid expenditures. The transcripts of those hearings, at which states and other stakeholders asserted their strong objections to changing the use of IGTs, make clear that, as of 1991, states had a longstanding practice of funding the non-federal share of Medicaid payments to providers with IGTs transferred from those same governmental health care providers. The transcripts also make clear that changing the treatment of IGTs would have significant negative financial consequences for states and their budgets.[12]

2000 Rule Writing: Upper Payment Limit/Congressional Response. On October 5, 2000, HCFA, specifically on account of Section 1902(a)(2) and the prevalence of the states’ use of IGTs from governmental health care facilities to fund the non-federal share of Medicaid payments to those same governmental health care facilities, announced a proposed rule (which was published on October 10, 2000) to amend the Medicaid upper payment limit (“UPL”) regulations by establishing separate payment categories for “government-owned or operated facilities” not owned or operated by the state.[13]

Two months later, Congress passed the “Medicare, Medicaid, and SCHIP Benefits Improvement and Protection Act of 2000” (“BIPA”).[14] The BIPA required HCFA to issue, by December 30, 2000, a final rule for the new UPL payment categories described in the October 5 proposed rule.[15] It is significant to note that, although Congress was aware of the prevalence of the states’ use of IGTs from governmental health care providers to fund the non-federal share of Medicaid payments to those same providers (indeed, multiple excerpts of the preamble to the proposed rule, alone, would have informed Congress of the prevalence of this practice by the states), Congress did not include language in the BIPA to outlaw or limit the use of such IGTs by the states.[16]

Pursuant to the BIPA, HCFA issued a final rule for the new UPL payment categories described in the proposed rule. For governmental health care facilities other than facilities owned or operated by the state, the final rule incorporated the term “non-state government-owned or operated facilities,” which was defined to mean “all government facilities that are neither owned nor operated by the State.”[17]

Not surprisingly, given the states’ longstanding practice of using IGTs from governmental providers to fund the non-federal share of Medicaid payments to those same providers, in the preamble to the final rule, HCFA described the health care facilities that comprised this new payment category as those health care facilities that can make IGTs:

“Specifically, for purposes of this regulation, non-State government-owned or operated facilities are government facilities, as defined by their ability to make direct or indirect intergovernmental transfer payments to the State, and for which the State does not assume primary ownership or legal liability for the operations of the facilities. Examples of the kinds of facilities that fall into this category are county or city-owned and operated facilities, quasi-independent hospital districts, and hospitals that are owned by local governments but operated by private companies through contractual arrangements with those local governments as long as the hospital retains the ability to make an IGT to the State.”[18] (emphasis added)

The ability of states to use local funding sources for Medicaid was a deliberate congressional decision. In 1965, the original House version of the bill establishing the Medicaid program required states to cover 100% of the non-federal share of Medicaid expenditures, but it was amended in the Senate to permit local sources to contribute up to 60% of the non-federal share. The House thereafter agreed to the Senate’s amendment.[19]

Medicaid funding, as envisioned by Congress, is a statutory arrangement “designed to advance cooperative federalism.”[20] The U.S. Supreme Court has described Medicaid as a “cooperative endeavor” and a “cooperative program of shared financial responsibility” between the states and the federal government.[21] CMS has itself stated: “[C]ooperative Federalism . . . lies at the heart of the Medicaid program.”[22], [23] Given the legislative history of Section 1902(a)(2) and the well-settled practice of states funding the non-federal share of Medicaid payments to governmental health care providers with IGTs from those same providers, it is unreasonable to now contend that the states’ use of these IGT funding arrangements is unauthorized or otherwise inappropriate. Such erroneous contentions—which, if accepted and acted upon by Congress or CMS, would shift even greater financial responsibility for Medicaid to the states’ budgets—are best understood as arguing for the dismantling of the cooperative federalism upon which Medicaid is founded.

II. Are Critics of IGTs Pining for Previous Failed Regulatory Attempts?

The funding of the non-federal share of Medicaid payments is separate from the payments themselves. Nevertheless, in an effort to further disparage IGTs made by governmental health care providers, some critics are conflating such IGTs with certain well-established Medicaid payment policies that the critics now find to be objectionable.[24] This tactic is reminiscent of the arguments used in support of two previously failed regulatory attempts.

CMS’s Violation of Congressional Moratorium. On January 18, 2007, CMS published a proposed rule titled “Cost Limit for Providers Operated by Units of Government and Provisions To Ensure the Integrity of Federal-State Financial Partnership” (“Proposed IGT Rule”).[25] This proposed rule—purportedly for reasons of “fiscal integrity”—would have prohibited IGTs from certain governmental health care providers, substantially limited the use of IGTs overall, and changed the calculation of upper payment limits in much the same way as now advocated by some critics. In the preamble to the proposed rule, CMS admitted that its proposed changes to IGT funding and the calculation of upper payment limits would significantly impact state or local governments:

“Executive Order 13132 establishes certain requirements that an agency must meet when it promulgates a proposed rule (and subsequent final rule) that imposes substantial direct requirement costs on State and local governments, preempts State law, or otherwise has Federalism implications. For purposes of Executive Order 13132, we also find that this rule will have a substantial effect on State or local governments.”[26] (emphasis added)

In reaction, Congress enacted a moratorium to specifically prohibit CMS from finalizing or otherwise implementing the provisions contained in the Proposed IGT Rule. Despite Congress’s moratorium, CMS finalized the rule (“Final IGT Rule”). Thereafter, on May 23, 2008, the United States District Court for the District of Columbia, in Alameda County Medical Center v. Leavitt,[27] vacated the Final IGT Rule due to its violation of Congress’s moratorium (and CMS later formally withdrew the Final IGT Rule). Congress revisited the Proposed IGT Rule in the passage of the American Recovery and Reinvestment Act of 2009 (“ARRA”). Section 5003(d) of ARRA expressed the sense of Congress that the Proposed IGT Rule not be adopted as a final rule.

CMS’s Abandoned MFAR Rule. On November 18, 2019, CMS published a proposed rule titled “Medicaid Fiscal Accountability Regulation” (“MFAR”).[28] MFAR, which CMS claimed was necessary for “fiscal integrity” (the same claim the agency made with its unsuccessful 2007 regulatory effort described above), would have significantly limited the types of public funds that could be used for IGTs and would have added new parameters for upper payment limit calculations. As later admitted by CMS, it withdrew the proposed rule due to the volume of concerns it received about MFAR’s negative impact on state budgets, as well as complaints about the lack of statutory authority for the policy changes threatened by MFAR.[29]

III. Will CMS “Consult with the States” Before Attempting to Change the Treatment of IGTs?

Among other things, Public Law 102-234, known as the Medicaid Voluntary Contribution and Provider-Specific Tax Amendments of 1991, made clear that for purposes of IGTs, a governmental entity does not lose its status as a governmental entity simply because it also operates as a health care provider. Section 5(c) of Public Law 102-234 requires the Secretary of HHS to “consult with the States” before issuing “any regulations” under Public Law 102-234. Thus, in the event CMS wishes to amend the current IGT regulation at 42 CFR § 433.51, and particularly if CMS attempts through regulation to prohibit states from using IGTs from governmental health care providers, it is reasonable to conclude that Section 5(c) would require CMS to consult with the states before doing so. However, stakeholders need to be aware that CMS might not share that conclusion.

For example, in the preamble to the “Proposed IGT Rule” referenced above with respect to CMS’s violation of the congressional moratorium, CMS did not mention Section 5(c) or whether it consulted with the states before issuing the proposed rule. However, in the preamble to the “Final IGT Rule,” CMS acknowledged receiving comments about CMS’s failure to follow Section 5(c) and the requirement to consult with the states. CMS responded by arguing that Section 5(c) required consultation with the states only for the initial regulations implementing Public Law 102-234 in 1992 and 1993, and nothing beyond those two instances. CMS further added that, even if Section 5(c) imposes a consultation requirement each time CMS proposes a regulation under Public Law 102-234, it believed the requirement was satisfied with regard to the Final IGT Rule because: (i) “over the years, in the course of reviewing State plan amendments, CMS is in constant dialogue with States over issues relating to the financing of the Medicaid program;” (ii) “the general principles contained in this regulation has been explored with States over the years;” (iii) the “Administration has announced its intentions with respect to this regulation in the President’s Budget;” and (iv) “we have undertaken full notice and comment rulemaking procedures . . . [i]n this process, we have received and considered numerous comments from States and other interested parties.”[30]

To say the least, CMS’s interpretation of Section 5(c) and its requirement for consultation with the states is rather novel. It does not appear that CMS’s interpretation has faced a court challenge.

With respect to the MFAR proposed rule noted above, CMS did not include in the preamble to the proposed rule any mention of Section 5(c) or whether the agency consulted with the states before issuing the proposed rule. Ironically, CMS ended up withdrawing the MFAR due to the significant concerns expressed by the states in comments submitted to CMS only after the proposed rule was issued.[31]

IV. IGT Stakeholders Might Not Be Able to Rely on Executive Order 13132 on Federalism

Executive Order 13132 on federalism^[32] requires federal agencies, including CMS, to carefully examine regulations that might be proposed to determine if they contain policies that have federalism implications or that otherwise preempt state law. CMS, with regard to possible regulatory action concerning IGTs, must comply with a number of criteria, including the following:

“To the extent practicable and permitted by law, no agency shall promulgate any regulation that has federalism implications, that imposes substantial direct compliance costs on State and local governments, and that is not required by statute”, unless (among other things) “the agency, prior to the formal promulgation of the regulation . . . consulted with State and local officials early in the process of developing the proposed regulation.”^[33] (emphasis added)

“With respect to Federal statutes and regulations administered by the States, the national government shall grant the States the maximum administrative discretion possible. Intrusive Federal oversight of State administration is neither necessary nor desirable.”^[34] (emphasis added)

“The national government should be deferential to the States when taking action that affects the policymaking discretion of the States and should act only with the greatest caution where State or local governments have identified uncertainties regarding the constitutional or statutory authority of the national government.”^[35] (emphasis added)

When attempting regulatory changes to the treatment of IGTs, CMS’s adherence to Executive Order 13132 has been, at best, inconsistent. For example, with respect to the MFAR proposed rule described earlier, CMS determined, despite the significant limitations that would have been imposed on IGTs by the proposed rule, and despite acknowledging that “Executive Order 13132 establishes certain requirements that an agency must meet when it issues a proposed rule that imposes substantial direct requirement costs on state and local governments, preempts state law, or otherwise has Federalism implications,” CMS stated that the proposed rule “does not impose substantial direct costs on state or local governments or preempt state law.”[36] Of course, the accuracy and appropriateness of this statement is questionable because, as noted earlier, CMS ultimately withdrew the MFAR proposed rule on account of the substantial budgetary concerns voiced by the states.[37]

In the preamble to the “Proposed IGT Rule” referenced earlier with respect to CMS’s violation of the congressional moratorium, CMS stated: “For purposes of Executive Order 13132, we also find that this rule will have a substantial effect on State or local governments.”[38] However, for the subsequent “Final IGT Rule,” CMS changed course and stated: “This regulation merely ensures the fiscal integrity of the Medicaid program,” and “for purposes of Executive Order 13132, we do not find that this regulation will have a substantial effect on State or local governments.”[39] CMS made this statement even though, in terms of limitations imposed on IGTs and the fiscal impact on states, the IGT-related provisions of the “Final IGT Rule,” similar to the proposed IGT Rule, would have prohibited IGTs from certain governmental health care providers, substantially limited the use of IGTs overall, and changed the calculation of upper payment limits.

V. Conclusion

Too often, critics invoke “fiscal integrity” as a pretext for challenging the use of IGTs. States’ longstanding practice of using IGTs from governmental health care providers to finance the non-federal share of Medicaid payments to those same providers is lawful, longstanding and consistent with the cooperative federalism that is foundational to the Medicaid program. Efforts to persuade Congress or CMS to abandon this framework, therefore, appear not to reflect genuine concerns about the legality, accountability or integrity of Medicaid financing. Nor do they account for the profound disruption such a change would cause to governmental health care providers and the patients they serve. Instead, these efforts indicate an objective to reduce federal Medicaid spending by constraining lawful state financing options, thereby forcing states to either divert scarce general-fund resources or shrink the size, scope and accessibility of their Medicaid programs. That result would undermine, not advance, the purpose of Medicaid and erode the federal-state partnership that has sustained the program for decades.

If you have any questions or would like additional information on IGTs or other topics related to Medicaid financing, please contact:

• Tim Kennedy at (317) 977-1436 or tkennedy@hallrender.com;
• Camilla Moreno Jimenez at (317) 429-3679 or cjimenez@hallrender.com; or
• Your primary Hall Render contact.

Hall Render blog posts and articles are intended for informational purposes only. For ethical reasons, Hall Render attorneys cannot—outside of an attorney-client relationship—answer specific questions that would be legal advice.