August 6, 1998  
Dear State Health Official:  
The Balanced Budget Act of 1997 established the Children's Health 
Insurance Program (CHIP) under Title XXI of the Social Security Act. This 
new Title enables States to expand health insurance coverage for uninsured 
children. The Department of Health and Human Services (DHHS) has issued 
numerous letters regarding the implementation of CHIP. This letter is 
intended to provide detailed guidance for States seeking a waiver or variance 
of the 10 percent cap (under Section 2105(c)(2)(B)) in implementing their 
Title XXI plan.  
Under Title XXI, a State is eligible for Federal matching funds on certain 
expenditures only to the extent that those expenditures do not exceed 10 
percent of the State's total computable expenditures on health benefits 
through CHIP. As specified in Section 2105(a)(2), these capped 
expenditures include those related to:  
other child health assistance;  
 
health services initiatives;  
 
outreach as defined in 2102(c)(1); and  
 
other reasonable costs necessary to administer the Title XXI plan.  
 
 
(For further clarification regarding the 10 percent cap, please see the letter 
from Health Care Financing Administration (HCFA) regarding financial 
issues dated December 8, 1997.)  
Subject to certain criteria, States may obtain a variance of the 10 percent cap 
as specified under the Title XXI law. This variance was designed to create 
flexibility for States to include community-based delivery systems among 
their CHIP provider networks. Congress did not intend that the variance be 
used simply to allow for more administrative spending or outreach services 
under Section 2105(a)(2), and the statute does not provide this flexibility. 
Nevertheless, DHHS recognizes that many States will face substantial start-
up costs in the early years. As a result, we are committed to working with  States and Congress on legislative proposals that will meet States' needs in 
this regard.  
The first attachment provides guidance related to section 2105(c)(2)(B) 
including the types of expenditures limited by the 10 percent cap on 
administrative costs, the criteria a State must meet in order to receive a 
variance of the 10 percent cap, and the structure of State spending on 
expenditures that previously were subject to the 10 percent cap. The second 
attachment summarizes guidance that was previously issued to States 
regarding the 10 percent cap on administrative costs. These preliminary 
policies will be incorporated into proposed regulations and subject to public 
comment.  
If there are any questions regarding the variance of the 10 percent cap on 
expenditures related to other child health assistance, health services 
initiatives, outreach as defined in Section 2102(c)(1), and other reasonable 
costs necessary to administer the plan, please contact your HCFA regional 
office staff.  
Sincerely yours,  
Claude Earl Fox, M.D., M.P.H Administrator Health Resources and Services 
Administration  
Sally K. Richardson Director Center for Medicaid and State Operations 
Health Care Financing Administration  
Attachment One  
Variance of the 10 percent Cap on 2105(a)(2) 
Expenditures  
TYPES OF EXPENDITURES LIMITED BY THE 10 PERCENT CAP   DHHS has defined the four categories of expenditures that are limited by the 
10 percent cap as follows:  
  1. Other child health assistance for targeted low income children 
Section 2105(a)(2)(A)  
  Other child health assistance for targeted low income children refers 
to health benefits coverage provided to targeted low income children that is 
in addition to the benefit package that the State has designated and meets the 
requirements of Section 2103. Examples of these benefits include specialty 
and sub-specialty care that are not part of the benefit package designated by 
the State as part of the benefit package under Section 2103. These benefits 
can be provided to targeted low income children.  
2. Health services initiatives under the plan for improving the health 
of children (including targeted low-income children and other low-income 
children Section 2105(a)(2)(B)  
 
For the purposes of Title XXI, health services initiatives (either new or 
ongoing) include activities designed to: protect the public health, protect the 
health of individuals, improve or promote a State's capacity to deliver public 
health services, and/or strengthen the human and material resources 
necessary to accomplish public health goals. These activities must be for the 
purposes of improving the health of children (including targeted low income 
children and other low income children.)  
  3. Outreach activities Section 2105(a)(2)(C)  
  Section 2105 (a)(2)(C) of Title XXI authorizes funding for outreach 
activities conducted by the State to identify and enroll eligible children in 
the State plan or other public or private health coverage. For further 
guidance on outreach activities, please see the DHHS letter on outreach 
dated January 23, 1998.  
   
4. Other reasonable costs incurred by the State to administer the plan 
Section 2105(a)(2)(D)  
 
These expenditures were previously discussed in the HCFA letter 
regarding financial issues dated December 8, 1997. This excludes the costs 
associated with, and already included in, the health benefits coverage to 
low-income children. This category does include activities such as data 
collection, assessment of the State plan, quality assurance activities,  eligibility determination, performance measurement, outreach and 
coordination, and public involvement. 
 
ISSUES RELATED TO RECEIVING A VARIANCE  
In order to receive a variance, States must meet the following requirements.  
Coverage to some portion of CHIP enrollees must be provided 
 
through a community-based delivery system;  
The coverage provided to CHIP enrollees served by the community-
 
based delivery system must meet the requirements of Section 2103 of the 
Social Security Act.  
Coverage provided to CHIP enrollees by this system must be cost-
 
effective (meaning that this coverage must not cost more, on an average per 
child basis, than it would have if the coverage were otherwise provided 
under Section 2103.)  
 
States do not need to serve all of their CHIP enrollees through a cost-
effective community-based delivery system in order to receive a variance of 
the 10 percent cap. They can receive a variance for each system or a network 
delivering care in a particular geographic area in order to pursue and benefit 
from cost-effective health coverage alternatives. Variances will be granted 
for two years. States will have the ability to reapply for approval of the 
variance.  
What is a community-based delivery system? 
A community-based delivery system is a network of providers that must 
have a contract with the State to provide care under Title XXI. A State must 
ensure that its community-based delivery system (either through direct 
provision or referral) can provide all appropriate services to targeted low-
income children under Section 2103. In addition, all participating 
community-based providers must comply with all other Title XXI 
provisions. Statutory examples of providers that may constitute a 
community-based delivery system include Federally Qualified Health 
Centers (FQHCs) and disproportionate share hospitals. This is not an 
exhaustive list of providers that may qualify for inclusion. We look forward  to working with States as they design their community-based delivery 
systems.  
How does a State demonstrate and HCFA evaluate the cost 
effectiveness of its community-based delivery system? 
The amount paid to the community-based delivery system on a Federal 
fiscal year, per child basis must not be greater than the amount that would 
otherwise have been paid for that child to receive coverage under Title 
XXI. Therefore, in order to demonstrate its cost effectiveness, States must 
compare the cost of providing benefits to CHIP enrollees through a 
community-based system to the cost of insuring a child for a benefit 
package that is otherwise available to that child under the State's Title XXI 
plan. 
 
CALCULATION OF STATE SPENDING ABOVE THE 10 PERCENT 
CAP  
Once a State meets the above criteria and receives a variance, it is no 
longer subject to the 10 percent cap limitation; however, the State must 
meet the limits described below. With the variance, the State then has the 
opportunity to receive a limited amount of match for funds spent above the 
10 percent cap on administrative programs, outreach, direct services, and 
health initiatives (such as, immunization campaigns, injury prevention 
programs, lead poisoning prevention programs, and services provided by 
poison control centers.) The funds receiving match that are spent in excess 
of the previous 10 percent cap do not necessarily have to be spent through 
a community-based delivery system. As we discuss below, however, limits 
must be placed on State spending above the 10 percent cap to preserve 
cost-effectiveness as prescribed under the law.  
The statute provides for a variance only "to the extent" that certain 
conditions, including cost-effectiveness, are met. The amount of additional 
spending allowed under the variance cannot result in the elimination of cost-
effectiveness. In order to determine the level of spending above the 10 
percent cap that can still receive match, the following methodology will be  used. States are allowed to spend, on a per child basis, the difference 
between the cost of services provided through the community-based system 
and the cost of coverage that would have been paid otherwise to provide 
insurance for the child under Title XXI. In order for States to receive 
substantial additional funds under this option, the community-based health 
delivery system must be able to provide substantial savings while providing 
comparable services. In other words, application of cost effectiveness means 
that the savings accrued from the coverage side are added to the total amount 
of the 10% spending limit. While this methodology is relatively easy to 
implement under a managed care system, a fee-for-service system may make 
this type of analysis more complicated. HCFA will work closely with States 
that seek a 10 percent variance under a fee-for-service delivery system, as 
well as under a managed care system.  
CALCULATION OF STATE SPENDING ABOVE THE 10 PERCENT 
CAP -- AN ILLUSTRATION  
The following is meant to help illustrate the concept of cost effectiveness 
outlined above.  
In a given State, assume that a child has three coverage options under Title 
XXI from which to choose. Two options are Title XXI managed care plans 
that have annual capitated rates of $1000 and $1020 respectively. The third 
option is that the child could receive the standard CHIP benefit package as 
described in Section 2103 of the Act from a community-based delivery 
system at a cost of $900 annually. Further assume that 4,000 children 
choose to enroll in coverage provided through the community-based 
delivery system and that a constant number of children remain enrolled in 
the program over the course of the fiscal year.  
In order to calculate the level of spending that the State can receive for 
match above the 10 percent cap, the State would take $1000 (the lower price 
of the two available non-community based provider plans) less $900 dollars 
(the cost of the community-based provider plan.) This means that, by 
enrolling a child in a community based provider plan, the State has saved 
$100. Since there are 4,000 children enrolled in the community-based 
provider system, this means that the State has saved a total of $400,000. As a  result, the State could exceed the 10 percent cap by, and receive match for, 
an additional $400,000 before the overall cost of this approach is no longer 
cost-effective. If the 10 percent cap level in this State was estimated to be 
$1,000,000 with the community-based delivery system implemented, then 
the variance under this scenario would increase the estimated cap level to 
$1,400,000.  
Attachment Two 
 
 
Summary of Polices Regarding Claims for Match Under 
the 10 Percent Cap  
HCFA has previously issued guidance to States regarding the flexibility 
States have to claim match for expenditures on the 10 percent cap. This 
guidance is summarized below.  
FLEXIBILITY TO CLAIM ADMINISTRATIVE AND OUTREACH 
EXPENDITURES UNDER MEDICAID OR CHIP  
States that choose to expand Medicaid as a result of the CHIP legislation 
have a choice of programs under which to claim Federal Financial 
Payments (FFP) for the related administrative and outreach 
expenditures.  
These States can elect to claim FFP under the Title XXI at the Title XXI 
enhanced matching rate for all Title XIX administrative and outreach 
activities related to providing health insurance coverage for targeted low-
income children under Sections 1905(u)(2) and 1905 (u)(3) of the Social 
Security Act and provision of medical assistance to a child under Title XIX 
during a presumptive eligibility period under Section 1920A of the Act. 
States pursuing this option must continue to claim all such expenditures 
under Title XXI until the 10 percent limit is reached or until the available  CHIP allotment funds for that fiscal year are expended. These States may 
then begin to claim the CHIP related Title XIX administrative and outreach 
expenditures that are above the 10% limit under the Medicaid program and 
receive reimbursement at the applicable Medicaid matching rate.  
Alternatively, these States may elect to claim such administrative 
expenditures for XXI expansions under the Medicaid program. 
Administrative and outreach expenditures claimed in this fashion will not 
reduce a State's Title XXI allotment or count against the 10 percent limit 
and will be reimbursed at the applicable Medicaid matching rate. 
 
DELAYED CLAIMING OF ADMINISTRATIVE EXPENDITURES  
All States have the option of delaying the submission of claims for 
administrative expenditures to HCFA for payment for up to two years from 
the date of the expenditure for the service. Claims for administrative 
expenditures which were incurred in one particular fiscal year, and which if 
submitted in the fiscal year would exceed the 10% limit for that fiscal year 
may be submitted in a subsequent fiscal year. States delaying the submission 
of such claims until a subsequent fiscal year will be able to receive 
reimbursement at the enhanced matching rate, as long as the administrative 
costs being claimed during the subsequent fiscal year do not exceed the 10 
percent limit for that fiscal year. This will allow States with low benefit 
expenditures in the early years of their program to eventually receive 
reimbursement for administrative expenditures at the enhanced Federal 
matching rate.