DEPARTMENT OF HEALTH & HUMAN SERVICES 
Health Care Financing Administration  
 Center for Medicaid and State Operations 
7500 Security Boulevard 
Baltimore, MD 21244-1850 
April 20, 1998  
Dear State Medicaid Director:  
This letter is one of a series that provides guidance on the implementation of the Balanced Budget Act of 1997 (BBA). 
The purpose of this letter is to provide initial guidance on changes in Federally Qualified Health Center (FQHC) and 
Rural Health Clinic (RHC) requirements stemming from BBA. In addition, we are including (as an attachment) a section 
which clarifies certain managed care contracting and cost-based reimbursement issues that were in effect prior to the BBA 
provisions.  
New Reimbursement Provisions    
Supplemental Payments 
For services furnished on or after October 1, 1997, FQHCs and RHCs are entitled to reasonable cost-based reimbursement 
as subcontractors of section 1903(m) organizations. States are required to make supplemental payments, at least on a 
quarterly basis, for the difference between the rates paid by a 1903(m) organization (such as an HMO or HIO) to an 
FQHC or RHC and the reasonable cost of FQHC or RHC subcontracts with the 1903(m) organization. Beginning in Fiscal 
Year 2000, the difference States will be required to pay begins to phase-down from 100 percent; specifically, 95 percent 
of reasonable cost in FY 2000, 90 percent in FY 2001, 85 percent in FY 2002, and 70 percent in FY 2003.  
The issue of election of cost-based reimbursement for these specific contractual arrangements (between FQHCs/RHCs 
and 1903(m) organizations) is a moot point since, beginning October 1, 1997, the election process is no longer required. 
Before States assess the need for a supplemental payment, States should work with FQHCs and RHCs to determine what 
the reasonable cost levels are for each FQHC/RHC expected to participate in the program. Then, based upon the State's 
assessment of whether or not the rate negotiated between the FQHC or RHC and the 1903(m) organization covers the 
FQHC's or RHC's reasonable costs, a supplemental payment may or may not be triggered.  
Prohibition of Delegation of Supplemental Payment Requirement to MCOs 
Section 4712(b) of BBA requires States to make up the difference, if any, between the amounts paid FQHCs or RHCs by 
MCOs with which they have a contractual relationship, and the amount the FQHC or RHC would have received under the 
reasonable cost-based reimbursement provision contained in section 1902(a)(13)(C)(I) of the Social Security Act. The 
language in that section specifically requires States to make these supplemental payments. It is our conclusion that this 
requirement cannot and should not be delegated to an MCO, and that each State must determine any differences in 
payment and make up these amounts.  
Development of Comparison Rates 
Section 4712(b)(2) requires that rates of payment between FQHCs/RHCs and MCOs shall not be less than the amount of 
payment for a similar set of services with a non-FQHC/RHC. The intention of this provision is to ensure that managed 
care entities negotiate rates of payment with FQHCs and RHCs that are comparable to the rates paid to similar providers 
that do not have an FQHC or RHC designation and thereby protects the State against negotiated rates that are excessively 
low in comparison to the community standard.  
There are two issues that are relevant here in terms of comparison rates: 1) How does the State determine what the 
FQHC's/RHC's costs are in order to assess whether or not there is a need for a supplemental payment; and 2) How does 
the State make a determination of whether the level of payment between the MCO and FQHC/RHC is not less than the 
rates paid for a similar set of services provided by a non-FQHC/RHC?  
On the first issue, States already have in place, as part of their existing State Plans, approved methodologies for 
determining an FQHC's/RHC's costs (and, as noted earlier, these costs should be determined in advance of assessing the 
need for a supplemental payment). If a State chooses to develop an alternative methodology for the purposes of BBA, it 
may do so but it must also submit a State Plan Amendment. The State payment system for the supplemental payments 
may utilize prospectively determined rates or may pay interim rates subject to reconciliation. Irrespective of the type of 
payment method utilized, the rates must cover the FQHC's/RHC's reasonable costs.   On the second issue, a State has the flexibility to develop its own methodology for determining whether rates paid by 
MCOs to FQHCs/RHCs are not less than to other similar providers of services.  
Phase-Out of Cost-Based Reimbursement 
Beginning in fiscal year 2000 (as noted above), as part of a phase-out of cost-based reimbursement, levels of 
reimbursement will be reduced both for FQHCs/RHCs participating in fee-for-service (unrestricted or as PCCM 
providers), and those receiving supplemental payments as HMO or HIO subcontractors. In addition, cost-based 
reimbursement requirements consistent with BBA remain in effect for primary care case management programs until 
fiscal year 2000, at which point the statutory phase-out provisions become effective. Further, FQHC cost-based provisions 
as required by BBA are applicable in States that have both PCCM and MCO programs. States may, at their option, 
continue to provide reasonable cost-based reimbursement beyond this point in time, but are not required to do so.  
Prohibition of Requirement for Higher Payments By MCOs 
Under the pre-BBA law, States were allowed to delegate the requirement for cost-based reimbursement to MCOs. While 
section 4712(b)(2) of BBA places a floor on payments, it does not put a ceiling on payments (the law is silent). While the 
literal text of BBA does not impose an upper limit on what a State may require an MCO to pay FQHC/RHC contractors, 
we recognize that permitting States to impose such requirements could result in access problems and have the opposite 
impact on MCO-FQHC/RHC contracting arrangements than what was intended by Congress. (That is, Congress intended 
to encourage contracting between FQHCs/RHCs and MCOs and to remove financial barriers to this contracting.) 
Therefore, it is our conclusion that States cannot impose any requirement on MCOs for payments to FQHCs/RHCs other 
than those contained in 4712(b)(2).  
Alternative Reimbursement Agreements 
Based upon a review of the BBA FQHC/RHC reimbursement provisions, it is our conclusion that these provisions 
preclude any alternative reimbursement arrangements (between a State, 1903(m) organizations, and FQHCs and RHCs, or 
any combination thereof) that are inconsistent with the requirements of BBA. In other words, HCFA will not approve any 
FQHC/RHC reimbursement arrangements that do not meet the requirements of section 4712(a), (b), and (c).  
Effective Dates 
Unlike other BBA provisions that are effective with contracts beginning on or after October 1, 1997, the FQHC/RHC 
provisions under BBA affect contracts that existed prior to October 1, 1997 (e.g., July 1, 1997 - June 30, 1998) by 
applying to services furnished on or after October 1, 1997. All contracts (between the State and MCO and the MCO and 
FQHC/RHC) which this affects should be appropriately amended to reflect all the relevant changes in FQHC/RHC law 
and policy as noted above.  
If you have any questions, please contact Sidney Trieger at (410) 786-6612 or Matt Barry at (410) 786-1176.  
 
Sincerely,  
/s/  
Sally K. Richardson   
Director   
Center for Medicaid and State Operations  
 
Attachment  
cc:  
Dr. Earl Fox, HRSA Administrator  HCFA Regional Administrators  PHS Regional Administrators  Jennifer Baxendell, 
NGA  Lee Partridge, APWA  Joy Wilson, NCSL  National Association of Community Health Centers  State Health 
Commissioners  HCFA Press Office   
     
ATTACHMENT 
FQHC Contracts and Cost-Based Reimbursement: Pre-October 1, 1997  
Prior to the effective date of the FQHC provisions contained in BBA, the rules surrounding FQHC access and cost-based 
reimbursement were governed by statute (section 4704(b) of OBRA 1990 amended sections 1903(m)(2)(A) and 
1905(a)(2)(C)) and through HCFA policy that was issued on February 8, 1996. It is the intent of this policy statement to 
provide further guidance on these "old" FQHC rules in the event there are outstanding or unresolved issues with potential 
retroactive (pre-October 1, 1997) implications.  
As stated in the February 1996 policy, appropriate contract language between the State and the managed care organization 
(MCO) and between the MCO and the FQHC will help to assure the receipt of cost-based reimbursement under managed 
care. The absence of such contractual language providing for cost reimbursement for FQHC services has been at the heart 
of most of the issues HCFA had to address over the past few years on FQHC policy. Typically, when FQHCs contracted 
for other than reasonable cost-based reimbursement, the contracts did not specify that the FQHCs waived their right to 
reasonable cost-based reimbursement; rather, they reflected the negotiated agreed upon payment rates. In some instances, 
FQHCs questioned the binding nature of their signed contracts, and whether the contracts could have been amended at the 
point in time which the FQHC wishes to elect reasonable cost-based reimbursement. Our guidance on this specific issue 
is:  
The terms and conditions of contractual agreements which were entered into between FQHCs and managed care 
organizations are binding upon both parties. To assure that all parties in the contracting process were fully informed of the 
terms and conditions, including provisions surrounding cost-based reimbursement, the State should have included 
language in its contracts with MCOs on this (and any other) specific issue. Further, a decision (a signed contract) to 
contract for payments other than reasonable cost is binding on both parties (absent any additional measures by the State to 
reimburse FQHCs) and the contracts do not need to have specific language specifying that an FQHC is withdrawing its 
right to reasonable cost reimbursement. By signing such contracts, an FQHC is deemed to have waived its rights to cost-
based reimbursement.  
  
An additional concern involves the timing of the reasonable cost election for FQHCs which previously elected otherwise. 
Specifically, does the new election take place at the next contract renewal period, or if the original contracts provide for a 
redetermination of rates, can it take place at the time of the redetermination? Our guidance on this specific issue is:  
If, during the course of an existing contract, an FQHC exercised its right to cost reimbursement (in writing), payments 
constituting cost should have then been applied at the next contract renewal or if the existing contracts had a clause where 
rates were redetermined (other than for automatic items such as cost-of-living adjustments or inflation), at the time of 
redetermination. This assumes that the FQHC negotiated appropriate contract terms at this point in time.  
  
Where concerns remain over a State's implementation of these policies prior to October 1, 1997, HCFA is willing to 
consider such instances on a case-by-case basis. In such situations, HCFA strongly recommends that any such case be 
documented to the maximum extent possible since any HCFA decision would be based on a review and assessment of the 
relevant paper trail (e.g., contracts, letters between parties).