Trend #9: State Abuse of Medicaid Matching Funds

When states set aside money to be spent on Medicaid, the federal-state program providing health care to low-income Americans, they receive matching funds from the federal government. These matching funds are made available according to a formula known as the Federal Medical Assistance Percentages (FMAP), based on the state’s level of poverty and unemployment.^[1]

For example, in Fiscal Year 2012, Mississippi has the highest FMAP (74.18 percent), meaning that for every $1.00 Mississippi spends on Medicaid, the federal government kicks in $2.87. Fourteen states tie for the lowest FMAP (50 percent), which means that for every $1.00 they spend on Medicaid, the federal government kicks in another $1.00. (See Table for complete list.)

Table: Federal Medicaid Matching Fund Rates and States with Health Provider Taxes

Because Medicaid’s federal matching is open-ended, states can abuse it to bridge budget gaps. In 2004, the U.S. government’s General Accounting Office (GAO, now the Government Accountability Office) warned that the design of Medicaid matching funds enabled states to funnel Medicaid money into state general coffers. During the recent downturn, many states did exactly that.^[2] They do so by taxing health care providers, using the collected revenue to qualify for federal matching funds, and then using the federal dollars to compensate Medicaid providers.

These hospital taxes or doctors’ taxes exist in 46 states and the District of Columbia.^[3] During the recent economic downturn, 20 states increased health provider taxes to take advantage of federal matching funds, particularly because the 2009 stimulus bill temporarily made FMAP federal matching fund rates more generous. (In 2009, FMAP matching fund rates ranged from 56.2 percent to 83.6 percent.) States’ use of the matching funds to backfill general state spending led to a sharp jump in federal Medicaid expenditures, from $201 billion in 2008 to $250 billion in 2009.^[4] As states receive more federal funds for Medicaid, the federal government must tax or borrow to pay for this spending increase.

As one example of a flurry of new state medical taxes, in 2009, Wisconsin Governor Jim Doyle (D) pushed through a 20 percent increase in the state’s health provider tax. The tax increase led to an increase of federal matching funds received by the state from $635 million to $796 million, with an estimated $292 million of the money being diverted for non-Medicaid uses.^[5] Health care providers that benefit from increased Medicaid reimbursements often support these taxes if the returns exceed the tax payments.^[6] The actual purpose of these taxes is to obtain additional federal funds.

Those states that were most likely to abuse Medicaid matching funds are those states that have been most irresponsible with managing their state budget. Their use of Medicaid funds to backfill other state programs is at odds with the purpose of the Medicaid program, but the open-ended nature of federal matching encourages this practice. While using health provider taxes and abusing Medicaid matching funds can temporarily patch a state budget, these solutions rely on the continued dysfunction of the Medicaid matching fund system.

Note: This publication is part of our “Top 10 State Tax Trends in Recession and Recovery” series.