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[Federal Register Volume 72, Number 102 (Tuesday, May 29, 2007)]
[Rules and Regulations]
[Pages 29748-29836]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 07-2657]

[[Page 29747]]

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Part V

Department of Health and Human Services

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Centers for Medicare & Medicaid Services

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42 CFR Parts 433, 447, and 457

Medicaid Program; Cost Limit for Providers Operated by Units of 
Government and Provisions To Ensure the Integrity of Federal-State 
Financial Partnership; Final Rule

Federal Register / Vol. 72, No. 102 / Tuesday, May 29, 2007 / Rules 
and Regulations

[[Page 29748]]

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DEPARTMENT OF HEALTH AND HUMAN SERVICES

Centers for Medicare & Medicaid Services

42 CFR Parts 433, 447, and 457

[CMS-2258-FC]
RIN 0938-A057

Medicaid Program; Cost Limit for Providers Operated by Units of 
Government and Provisions To Ensure the Integrity of Federal-State 
Financial Partnership

AGENCY: Centers for Medicare & Medicaid Services (CMS), HHS.

ACTION: Final rule with comment period.

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SUMMARY: This regulation clarifies that entities involved in the 
financing of the non-Federal share of Medicaid payments must be a unit 
of government; clarifies the documentation required to support a 
Medicaid certified public expenditure; limits Medicaid reimbursement 
for health care providers that are operated by units of government to 
an amount that does not exceed the health care provider's cost of 
providing services to Medicaid individuals; requires all health care 
providers to receive and retain the full amount of total computable 
payments for services furnished under the approved Medicaid State plan; 
and makes conforming changes to provisions governing the State Child 
Health Insurance Program (SCHIP) to make the same requirements 
applicable, with the exception of the cost limit on reimbursement.
    The Medicaid cost limit provision of this regulation does not apply 
to: Stand-alone SCHIP program payments made to governmentally-operated 
health care providers; Indian Health Service (IHS) facilities and 
tribal 638 facilities that are paid at the all-inclusive IHS rate; 
Medicaid Managed Care Organizations (MCOs), Prepaid Inpatient Health 
Plans (PIHPs), and Prepaid Ambulatory Health Plans (PAHPs); Federally 
Qualified Health Centers (FQHCs) and Rural Health Clinics (RHCs). 
Moreover, disproportionate share hospital (DSH) payments and payments 
authorized under Section 701(d) and Section 705 of the Benefits 
Improvement Protection Act of 2000 are not subject to the newly 
established Medicaid cost limit for governmentally-operated health care 
providers.
    Except as noted above, all Medicaid payments and SCHIP payments 
made under the authority of the State plan and under waiver and 
demonstration authorities, as well as associated State Medicaid and 
SCHIP financing arrangements, are subject to all provisions of this 
regulation. Finally, this regulation solicits comments from the public 
on issues related to the definition of the Unit of Government.

Dates: Effective Dates: This regulation is effective on July 30, 2007.
    Comment Date: Comments only on issues related to Unit of Government 
Definition (Sec.  433.50) will be considered if we receive them at one 
of the addresses provided below, no later than 5 p.m. on July 13, 2007.

ADDRESSES: In commenting, please refer to file code CMS-2258-FC. 
Because of staff and resource limitations, we cannot accept comments by 
facsimile (FAX) transmission.
    You may submit comments in one of three ways (no duplicates, 
please):
    1. Electronically. You may submit electronic comments on specific 
issues in this regulation to http://www.cms.hhs.gov/eRulemaking. Click 
on the link ``Submit electronic comments on CMS regulations with an 
open comment period.'' (Attachments should be in Microsoft Word, 
WordPerfect, or Excel; however, we prefer Microsoft Word.)
    2. By mail. You may mail written comments (one original and two 
copies) to the following address ONLY: Centers for Medicare & Medicaid 
Services, Department of Health and Human Services, Attention: CMS-2258-
FC, P.O. Box 8014, Baltimore, MD 21244-8014.
    Please allow sufficient time for mailed comments to be received 
before the close of the comment period.
    3. By express or overnight mail. You may send written comments (one 
original and two copies) to the following address ONLY: Centers for 
Medicare & Medicaid Services, Department of Health and Human Services, 
Attention: CMS-2258-FC, Mail Stop C4-26-05, 7500 Security Boulevard, 
Baltimore, MD 21244-1850.
    4. By hand or courier. If you prefer, you may deliver (by hand or 
courier) your written comments (one original and two copies) before the 
close of the comment period to one of the following addresses. If you 
intend to deliver your comments to the Baltimore address, please call 
telephone number (410) 786-7195 in advance to schedule your arrival 
with one of our staff members. Room 445-G, Hubert H. Humphrey Building, 
200 Independence Avenue, SW., Washington, DC 20201; or 7500 Security 
Boulevard, Baltimore, MD 21244-1850.
    (Because access to the interior of the HHH Building is not readily 
available to persons without Federal Government identification, 
commenters are encouraged to leave their comments in the CMS drop slots 
located in the main lobby of the building. A stamp-in clock is 
available for persons wishing to retain a proof of filing by stamping 
in and retaining an extra copy of the comments being filed.)
    Comments mailed to the addresses indicated as appropriate for hand 
or courier delivery may be delayed and received after the comment 
period.
    For information on viewing public comments, see the beginning of 
the SUPPLEMENTARY INFORMATION section.

FOR FURTHER INFORMATION CONTACT: Aaron Blight, (410) 786-9560.

SUPPLEMENTARY INFORMATION: 
    Submitting Comments: We welcome comments from the public only on 
issues related to Unit of Government Definition (Sec.  433.50). You can 
assist us by referencing the file code CMS-2258-FC and the specific 
``issue identifier'' that precedes the section on which you choose to 
comment.
    Inspection of Public Comments: All comments received before the 
close of the comment period are available for viewing by the public, 
including any personally identifiable or confidential business 
information that is included in a comment. We post all comments 
received before the close of the comment period on the following Web 
site as soon as possible after they have been received: http://www.cms.hhs.gov/eRulemaking. Click on the link ``Electronic Comments on 
CMS Regulations'' on that Web site to view public comments.
    Comments received timely will also be available for public 
inspection as they are received, generally beginning approximately 3 
weeks after publication of a document, at the headquarters of the 
Centers for Medicare & Medicaid Services, 7500 Security Boulevard, 
Baltimore, Maryland 21244, Monday through Friday of each week from 8:30 
a.m. to 4 p.m. To schedule an appointment to view public comments, 
phone 1-800-743-3951.
    This Federal Register document is also available from the Federal 
Register online database through Government Printing Office Access a 
service of the U.S. Government Printing Office. The Web site address 
is: http://www.access.gpo.gov/nara/index.html.

I. Background

    [If you choose to comment only on issues related to Unit of 
Government Definition (Sec.  433.50) in this section, please include 
the caption ``Background'' at the beginning of your comments.]

[[Page 29749]]

    The Medicaid program is a cooperative Federal-State program 
established in 1965 for the purpose of providing Federal financial 
participation (FFP) to States that choose to reimburse certain costs of 
medical treatment for needy persons. It is authorized under title XIX 
of the Social Security Act (the Act), and is administered by each State 
in accordance with an approved Medicaid State plan. States have 
considerable flexibility in designing their programs, but must comply 
with Federal requirements specified in the Medicaid statute, 
regulations, and program guidance.
    FFP is available under section 1903(a)(1) of the Act only when 
there is a corresponding State expenditure for a covered Medicaid 
service to a Medicaid recipient. Federal payment is based on 
statutorily-defined percentages of total computable State expenditures 
for medical assistance provided to recipients under the approved 
Medicaid State plan, and of State expenditures related to the cost of 
administering the Medicaid State plan. CMS has the responsibility to 
ensure that Medicaid payment and financing arrangements comply with 
statutory intent.
    Sections 1902(a)(2), 1903(a) and 1905(b) of the Act require States 
to share in the cost of medical assistance and in the cost of 
administering the State plan. Under section 1905(b) of the Act, the 
Federal medical assistance percentage (FMAP) is defined as ``100 per 
centum less the State percentage,'' and section 1903(a) of the Act 
requires Federal reimbursement to the State of the FMAP of expenditures 
for medical assistance under the plan (and 50 percent of expenditures 
necessary for the proper and efficient administration of the plan). 
Section 1902(a)(2) of the Act and implementing regulations at 42 CFR 
433.50(a)(1) require States to share in the cost of medical assistance 
expenditures but permit the State to delegate some responsibility for 
the non-Federal share of medical assistance expenditures to local 
sources under some circumstances.
    Under Pub. L. 102-234, which inserted significant restrictions on 
States' use of provider related taxes and donations at section 1903(w) 
of the Act, the Congress made clear that participation by local sources 
was limited to: (1) Permissible taxes or donations and (2) 
intergovernmental transfers (IGTs) and certified public expenditures 
(CPEs) from units of government. Specifically, units of government were 
permitted to participate in the funding of the non-Federal share of 
Medicaid payments through an exemption from provider tax or donation 
restrictions at section 1903(w)(6)(A) of the Act that reads:

    Notwithstanding the provisions of this subsection, the Secretary 
may not restrict States' use of funds where such funds are derived 
from State or local taxes (or funds appropriated to State university 
teaching hospitals) transferred from or certified by units of 
government within a State as the non-Federal share of expenditures 
under this title, regardless of whether the unit of government is 
also a health care provider, except as provided in section 
1902(a)(2), unless the transferred funds are derived by the unit of 
government from donations or taxes that would not otherwise be 
recognized as the non-Federal share under this section.

    Subsequent regulations implementing Pub. L. 102-234 give effect to 
this statutory language. Amendments made to the regulations at 42 CFR 
part 433, at 47 FR 55119 (November 24, 1992) explained:

    Funds transferred from another unit of State or local government 
which are not restricted by the statute are not considered a 
provider-related donation or health care-related tax. Consequently, 
until the Secretary adopts regulations changing the treatment of 
intergovernmental transfer, States may continue to use, as the State 
share of medical assistance expenditures, transferred or certified 
funds derived from any governmental source (other than impermissible 
taxes or donations derived at various parts of the State government 
or at the local level).

    The above statutory and regulatory authorities clearly specify that 
in order for an intergovernmental transfer (IGT) or certified public 
expenditure (CPE) from a health care provider or other entity to be 
exempt from analysis as a provider-related tax or donation, it must be 
from a unit of State or local government. Section 1903(w)(7)(G) of the 
Act identifies the four types of local entities that, in addition to 
the State, are considered a unit of government: A city, a county, a 
special purpose district, or other governmental units in the State. The 
provisions of this final regulation conform our regulations to the 
aforementioned statutory language and further define the 
characteristics of a unit of government for purposes of Medicaid 
financing.

II. Provisions of the Proposed Rule

    In the January 18, 2007 proposed rule, we proposed to (1) clarify 
that only units of government are able to participate in the financing 
of the non-Federal share of Medicaid expenditures; (2) establish 
minimum requirements for documenting Medicaid cost when using a CPE; 
(3) limit health care providers operated by units of government to 
Medicaid reimbursement that does not exceed the cost of providing 
covered services to eligible Medicaid recipients; (4) explicitly 
require that all health care providers receive and retain the total 
computable amount of their Medicaid payments; and (5) make conforming 
changes to the SCHIP regulations to make the same requirements 
applicable, with the exception of the cost limit on reimbursement.
    We proposed that the Medicaid cost limit provision of this 
regulation would apply to Medicaid payments to all governmentally-
operated health care providers of Medicaid services, except Medicaid 
payments to governmentally-operated managed care organizations. We 
proposed that stand-alone SCHIP program payments made to 
governmentally-operated health care providers would not be subject to 
the Medicaid cost limit provision of this regulation. Except as noted 
above, we proposed that all Medicaid and SCHIP payments made to 
governmentally-operated providers under the authority of the State plan 
and under waiver and demonstration authorities would be subject to all 
provisions of the proposed regulation.
    Specifically, under the proposed regulation, we provided the 
following changes to our existing regulations:
     We proposed to add new language to Sec.  433.50 to define 
a unit of government to conform to the provisions of section 
1903(w)(7)(G) of the Act.
     We proposed to amend the provisions of Sec.  433.51 to 
conform the language to the provisions of sections 1903(w)(6)(A) and 
1903(w)(7)(G) of the Act and to clarify that the State share of 
Medicaid expenditures may be contributed only by units of government.
     We proposed to include provisions requiring auditable 
documentation of CPEs that are used as part of the State share of 
claimed expenditures.
     We proposed that the Secretary would issue a form (or 
forms) that would be required for governments using a CPE for certain 
types of Medicaid services where we have found improper claims.
     We proposed to limit reimbursement for governmentally-
operated health care providers to amounts consistent with economy and 
efficiency by establishing a limit of reimbursement not to exceed cost. 
The proposed Medicaid cost limit in Sec.  447.206 specified that the 
Secretary will determine a reasonable method for identifying allowable 
Medicaid costs that incorporates not only OMB Circular A-87 cost 
principles but also Medicare cost principles, as appropriate, and the

[[Page 29750]]

statutory requirements of sections 1902, 1903, and 1905 of the Act.
     We proposed a new regulatory provision at Sec.  447.207 
requiring that all health care providers receive and retain the full 
amount of the total computable payment provided to them for services 
furnished under the approved State plan (or the approved provisions of 
a waiver or demonstration, if applicable).
     We proposed to eliminate Sec.  447.271(b), as this 
provision would no longer be relevant due to the proposed Medicaid cost 
limit for units of government.
     We proposed a corresponding modification to the Medicaid 
upper payment limit (UPL) rules found at Sec.  447.272 for inpatient 
hospital, nursing facility and intermediate care facilities for the 
mentally retarded (ICFs/MR) services and Sec.  447.321 for outpatient 
hospital and clinic services, to incorporate by reference the proposed 
cost limit for providers operated by units of government and to make 
the defined UPL facility groups consistent with proposed Sec.  433.50. 
We proposed that formerly established UPL transition periods remain 
unchanged.
     We proposed to make conforming changes to Sec.  457.220 to 
mirror Sec.  433.51.
     We proposed to make conforming changes to Sec.  457.628 to 
incorporate Sec.  433.50.
     We proposed incorporating proposed Sec.  447.207 requiring 
retention of payments in Sec.  457.628 because this provision applies 
to SCHIP payments as well as Medicaid payments.
     We developed a form questionnaire to collect information 
necessary to determine whether or not individual health care providers 
are units of government.

III. Analysis of and Responses to Public Comments

    [If you choose to comment only on issues related to Unit of 
Government Definition (Sec.  433.50) in this section, please include 
the caption ``Analysis of and Responses to Public Comments'' at the 
beginning of your comments.]
    We received 422 items of timely public correspondence, containing 
over 1,000 public comments that raised over 260 individual issues, in 
response to the January 18, 2007 proposed rule (72 FR 2236 through 
2248). The comments came from a variety of correspondents, including 
professional associations, national and State organizations, 
physicians, hospitals, advocacy groups, State Medicaid programs, State 
and local government agencies, and members of the Congress. The 
majority of commenters urged us to reconsider the proposed criteria for 
defining a unit of government for purposes of Medicaid State financing 
and Medicaid reimbursement. The majority of commenters also expressed 
concern with the administrative burden and cost of properly documenting 
services to Medicaid individuals. The following is a summary of the 
comments received and our response to those comments.

A. Unit of Government Definition (Sec.  433.50)

    1C. Comment: A number of commenters asserted that the proposed 
definition of a unit of government, when applied to specific health 
care providers, did not produce a definitive conclusion as to whether 
or not the health care provider qualifies as a unit of government.
    1R. Response: The regulation codifies existing statutory criteria 
for a unit of government that can participate in financing the non-
federal share of Medicaid expenditures. This codification of existing 
Federal statutory requirements was set forth in an effort to assist 
States in identifying the universe of governmentally-operated health 
care providers for this purpose.
    In this final rule, we are providing that States must apply the 
statutory and regulatory criteria to each individual health care 
provider to make initial determinations of governmental status. As we 
indicated in the proposed rule, we have developed a ``Tool to Evaluate 
the Governmental Status of Health Care Providers.'' In response to 
comments on this rule, we have modified that form to allow States to 
indicate their initial determination of a health care provider's 
governmental status.
    We recognize that there is considerable variation in organizational 
arrangements and financial relationships between health care providers 
and units of government, and their treatment under State law. 
Therefore, application of the statutory and regulatory criteria to 
specific health care providers will require careful evaluation of the 
circumstances and applicable State law. We believe the statutory and 
regulatory criteria provide a consistent framework and yet have 
sufficient flexibility to accommodate these differences. We see this 
flexibility as essential to ensuring accurate and consistent 
determinations within each State.
    Because we recognize that this is a complex determination that 
providers and States may rely upon, we agree that changes in the 
determination resulting either from a more careful evaluation, or from 
a change in circumstances, should be applied prospectively only (in the 
absence of fraud). Thus, to the extent that a State had previously 
applied the statutory and regulatory criteria to a health care 
provider's governmental status, in the absence of fraud, CMS intends to 
consider changes to that status on a prospective basis and does not 
intend to require retrospective changes in treatment of a provider.
    States will be required to maintain these determinations on file 
and will be required to submit these forms to CMS upon request, in 
connection with CMS review of Medicaid institutional and non-
institutional reimbursement State plan amendments involving 
governmental providers and with Medicaid or SCHIP financial management 
reviews. In addition, we intend to request, under our general authority 
to require supporting documentation for claimed expenditures, and the 
existing regulatory authority at 42 CFR Sec.  431.16, that States 
submit a complete list of governmentally-operated health care providers 
to the Associate Regional Administrator for Medicaid of each State's 
respective CMS Regional Office with the first quarterly expenditure 
report due after 90 days of the effective date of the regulation.
    If CMS disagrees with a State's initial determination of 
governmental status, CMS intends to request a timely change in the 
State's determination prior to pursuing any other measures including, 
but not limited to, denial of Medicaid reimbursement SPAs and/or 
disallowances of claims for Federal financial participation. States can 
appeal such actions through existing appeal processes.
    2C. Comment: A number of commenters asked CMS to clarify that the 
regulation does not affect the transfer of local governmental funding 
for non-provider specific Medicaid payments by the State and that the 
regulation allows local governmental entities to voluntarily transfer 
funds for the benefit of health care providers in their community.
    2R. Response: The Federal statute at section 1902(a)(2) of the Act 
allows States to share their fiscal obligation to the Medicaid program 
with local governments. Section 1903(w)(6)(A) of the Act specifically 
recognizes the use of local tax dollars as a permissible source of the 
non-Federal share of Medicaid payments.
    3C. Comment: One commenter expressed concern that CMS's view of 
what a ``unit of government'' is may evolve over time, thus resulting 
in inconsistent application of the provisions of the regulation to 
different health care providers. The commenter argued that the criteria 
used to

[[Page 29751]]

determine what is a ``unit of government'' should be standardized, 
impartial and result in consistent outcomes.
    3R. Response: The provisions of the regulation were designed to 
ensure a consistent framework to determine status as a unit of 
government. CMS recognizes that States play a major role in the 
administration of the Medicaid program and that legal and financial 
arrangements between health care providers and units of government vary 
on a case by case basis. Therefore, CMS has developed standardized 
regulatory criteria, based upon the provisions of Federal statute, that 
States must apply on a consistent basis to each health care provider 
within the State to determine whether or not the health care provider 
is a unit of government.
    A State's determination of governmental status must be applied in 
two ways, to ensure consistent treatment. First, a health care 
provider, determined by a State to be governmentally-operated, would be 
eligible to participate in financing the non-Federal share of Medicaid 
payments (that is, IGTs and CPEs). Second, Medicaid payments to a 
health care provider, determined by a State to be governmentally-
operated, would be limited to the cost of providing services to 
Medicaid individuals. States must apply the statutory and regulatory 
criteria regarding governmental status consistently to each health care 
provider and the initial State determination of governmental status 
must be consistent. In other words, States cannot consider a health 
care provider to be governmentally-operated for purposes of 
participation in IGTs or CPEs, but consider the health care provider 
non-governmentally operated for purposes of the Medicaid cost limit.
    4C. Comment: One commenter suggested that the determination of 
governmental status of health care providers be made by States, not the 
Federal government, to identify which health care providers within the 
State may be involved in IGT and CPE and are subject to the cost limit. 
The commenter stated that such deference to the States would allow them 
to make these determinations up front and ensure the continued 
operation of their Medicaid programs without the threat of retroactive 
disallowances.
    4R. Response: We agree that States should make the initial 
determination of governmental status by applying the statutory and 
regulatory criteria to each individual health care provider. We have 
modified the ``Tool to Evaluate the Governmental Status of Health Care 
Providers'' to allow States to indicate their initial determination of 
a health care provider's governmental status.
    CMS has responsibility to ensure that the determinations of 
governmental status made by States are consistent with the Federal 
statutory and regulatory criteria. To the extent that a State had 
previously applied the statutory and regulatory criteria to a health 
care provider's governmental status, absent fraud, CMS intends to 
consider changes to that status on a prospective basis and does not 
intend to require retroactive changes in treatment of the provider. If 
CMS disagrees with a State's initial determination of governmental 
status, CMS intends to request a timely change in the State's 
determination prior to pursuing other measures including, but not 
limited to, denial of Medicaid reimbursement SPAs and/or disallowances 
of claims for Federal financial participation. States can appeal such 
actions through existing appeal processes.
    5C. Comment: Many commenters recommended that CMS change the 
proposed definition of unit of government to provide deference to 
applicable State or local law.
    5R. Response: Application of State law in the determination of a 
health care provider's governmental status for Medicaid purposes must 
be consistent with the terms of the Federal statute and regulation. 
This rule would not limit State or local law from recognizing a health 
care provider as a governmental entity for other purposes.
    The provisions of the regulation were designed to ensure consistent 
application of the Federal statutory instructions regarding what 
constitutes a unit of government for purposes of Medicaid financing and 
payment. CMS recognizes that States play a major role in the 
administration of the Medicaid program and that legal and financial 
arrangements between health care providers and units of government vary 
on a case by case basis. Therefore, CMS has developed standardized and 
impartial regulatory criteria based upon the provisions of Federal 
statute that States must apply on a consistent basis to each health 
care provider within the State.
    6C. Comment: A number of commenters suggested that CMS allow health 
care providers currently involved in financing the non-Federal share 
via IGT or CPE to be grandfathered into the regulation's definition of 
``unit of government,'' thereby permitting these health care providers 
to continue to finance the non-Federal share after the effective date 
of the provisions of the regulation.
    6R. Response: CMS does not view grandfathering to be appropriate 
for several reasons. First, section 1903(w) contains clear statutory 
restrictions on States' receipt of funds from non-governmental health 
care providers to fund Medicaid payments. Indeed, there are severe 
penalties imposed for such practices. Second, There is nothing in the 
Medicaid statute that permits non-governmental units to finance the 
non-federal share of Medicaid payments, and severe statutory penalties. 
Second, we believe it is important to maintain consistent and 
equivalent treatment of all States and providers under a uniform 
regulatory framework.
    7C. Comment: Several commenters requested that CMS clarify that the 
definition of ``unit of government'' is for purposes outlined in the 
provisions of this regulation only and that CMS does not intend to 
place restrictions on public status elsewhere. This request was made 
because the use of the term ``public'' appears in several different 
contexts throughout the Medicaid statute, and many states employ their 
own definitions of public status within their Medicaid state plans. For 
example, federal financial participation is available at the rate of 75 
percent of the costs of skilled professional medical personnel of the 
state agency or ``any other public agency.'' A Medicaid managed care 
organization that is a ``public entity'' is exempt from certain 
otherwise applicable solvency standards. ``Public institutions'' that 
provide inpatient hospital services for free or at nominal charges are 
not subject to the charge limit otherwise applicable to inpatient 
services. Moreover, many states adopt special reimbursement provisions 
in their state plans for ``public hospitals,'' ``governmental 
hospitals'' or other types of public health care providers.
    7R. Response: This final regulation defines a unit of government 
for purposes of financing the non-Federal share of Medicaid payments 
and for the application of a new Medicaid upper payment limit on such 
governmental health care providers.
    The reference to ``any other public agency'' in Sec.  432.50 and 
the exemption from solvency standards for public entities are 
unaffected by this regulation. As part of this final regulation, the 
reference to public institutions that provide inpatient hospital 
services for free or at nominal charges has been deleted in light of 
the new upper payment limit structure. It is our understanding that 
virtually every health care provider has a customary charge structure 
used to bill patients who have sufficient resources and third

[[Page 29752]]

party payers, and so no exception to that limit is required. In the 
unlikely event that a health care provider does not customary charge 
either patients or liable third parties and thus does not have such a 
customary charge structure at all, then we would view the customary 
charge limit to be inapplicable.
    8C. Comment: One commenter asked if a health care provider that is 
operated by a local government which is required by ordinance to levy a 
tax to support its operations must actually use these tax revenues 
annually in order to meet the definition of a unit of government.
    8R. Response: We would not require that a health care provider use 
tax revenues in order to be considered a unit of government. Health 
care providers operated by a local government with taxing authority are 
always able to directly access tax revenue. This ability to directly 
access tax revenues through standard appropriation processes and 
without the need for a contractual arrangement to access such tax 
revenue is a characteristic that reflects a health care provider's 
governmental status.
    9C. Comment: Several commenters requested that CMS revise the 
proposed regulatory definition for unit of government. One commenter 
suggested that the criteria used to define a ``unit of government'' be 
modified as follows: ``A provider will be recognized as a unit of 
government if (1) more than twenty-five (25) percent of its services 
are provided to individuals eligible for Medicaid, the uninsured, or 
the underinsured; and (2) the provider can reasonably be expected to 
receive direct government subsidies to maintain operations should the 
provider be at risk for discontinuing operations.''
    Another commenter suggested that the criteria at Sec.  
433.50(a)(1)(i) used to define a ``unit of government'' be modified as 
follows: ``A unit of government is a State, a city, a county, a special 
district, a health authority, or other governmental unit in the State 
that has taxing authority, or is specifically established as a unit of 
government under the State's constitution.''
    Finally, another commenter suggested a new subsection (C) to the 
proposed Sec.  433.50(a)(1)(ii) to read: ``(C) The health care 
provider, although it does not meet the requirements of subparagraphs 
(A) or (B), is able to demonstrate to CMS that the sources of its 
funding are of a nature that would permit a finding that it is a unit 
of government for purposes of this section.''
    9R. Response: The suggested elements are not consistent with 
statutory criteria regarding the participation of a unit of government 
in financing the non-federal share of Medicaid expenditures. Section 
1903(w)(6) does not refer to entities that provide a particular level 
of Medicaid services, nor to the potential for general governmental 
subsidies. It uses the term ``unit of government'' and refers to the 
use of ``State or local tax revenues.'' While the term ``unit of 
government'' is not specifically defined, in section 1903(w)(7)(G), 
there is a definition of ``unit of local government'' that contains a 
list of entities that generally share the common characteristic of 
possessing taxing authority. The statutory list includes ``special 
purpose district'' and ``other governmental unit'' (which are not 
defined terms and are used to refer to a wide range of entities, some 
of which do not have taxing authority, direct access to tax revenues, 
or other indications of governmental status). We read these terms to 
permit flexibility to include such entities when they share the common 
characteristic of other listed governmental units of taxing authority 
(or direct access to tax revenues). We take this reading to ensure 
consistency with the required use of ``State or local tax revenues'' 
when a unit of government participates in financing the non-federal 
share of Medicaid expenditures.
    Moreover, we believe that it is essential to have a clear and 
uniform standard that can be consistently applied in every State and to 
every provider. Thus we do not see a justification to include open-
ended language in the regulatory definition. We have, however, made 
clear in the final rule our intent to permit flexibility to accommodate 
entities that do not have independent taxing authority but have direct 
access to tax revenues. We discuss this further below.
    In sum, our reading of the Medicaid statute is that the type of 
services provided by a health care provider, its reasonable expectation 
to receive direct government subsidies when at-risk for discontinuing 
operations, its specific establishment under State constitution, or its 
funding sources are not characteristics contemplated under the statute 
as representative of a unit of government that can participate in 
financing the non-federal share of Medicaid expenditures. The criteria 
we have set forth are based on our reading of the Medicaid statute, and 
are intended to permit flexibility to recognize different 
characterizations of arrangements that fall within a uniform, 
consistent framework.
    10C. Comment: A number of commenters asked CMS to expressly state 
that the provisions of the regulation have no effect on regulations 
pertaining to provider taxes.
    10R. Response: The provisions of the regulation clarify the 
statutory exception to the requirements governing health care related 
taxes and provider related donations. Nothing in this regulation is 
intended to impact the requirements on health care related taxes and 
provider related donations. All statutory and regulatory requirements 
governing health care related taxes and provider related donations 
still apply.
    11C. Comment: One commenter asked CMS to clarify what is meant by 
the term ``other governmental unit.''
    11R. Response: Section 1903(w)(7)(A) of the Act includes in the 
definition of the term ``unit of local government'' certain specified 
entities and ``other governmental unit[s] in the State.'' This term is 
undefined, and we are interpreting it to refer to entities that possess 
certain qualities that we believe are key to governmental status for 
purposes of Medicaid financing and payment. In the context of the list 
as a whole, CMS is interpreting this term to mean entities that are not 
cities, counties or special purpose districts, but have qualities that 
are generally shared by those specifically listed entities (and, as 
discussed below, CMS interprets the broad term ``special purpose 
district'' in a similar manner). In other words, entities may be 
considered as units of government for these Medicaid purposes even not 
specifically listed in the definition if the entities have the same 
basic qualities as those governmental units that are specifically 
listed in the statute.
    12C. Comment: One commenter observed that it appeared that CMS 
would determine whether or not a health care provider would be 
considered a unit of government under the provisions of the regulation. 
Due to the significant impact (positive or negative) such a 
determination may have on a health care provider, the commenter 
proposed that there should be a method of appeal.
    12R. Response: In the proposed rule, we anticipated that CMS would 
make final determinations of governmental status, but in this final 
rule, we are requiring that States apply the statutory and regulatory 
criteria to each individual health care provider to make initial 
determinations of governmental status. To the extent that governmental 
status affects Medicaid payment to a provider, the provider may have 
access to State appeal processes.
    With respect to the availability of federal financial 
participation, CMS is responsible to ensure that the

[[Page 29753]]

determinations of governmental status made by States are consistent 
with the Federal statutory and regulatory criteria and may take 
appropriate action including, but not limited to, denial of Medicaid 
reimbursement State plan amendments and/or disallowances of claims for 
Federal financial participation, in the event of noncompliance with any 
provision of this regulation. States can appeal such actions through 
existing appeals processes.
    13C. Comment: One commenter pointed out that the regulation 
requires a demonstration that a health care provider is a unit of 
government in order to be involved in IGTs or CPEs. However, the 
commenter believes that the regulation exceeded this proposal by 
requiring a similar demonstration by all governmental health care 
providers, regardless of any use of IGTs or CPEs.
    13R. Response: Under the provisions of this regulation, Medicaid 
payments to all governmentally-operated health care providers are 
limited to the cost of providing services to Medicaid individuals. 
Therefore, all entities that meet the regulatory definition as 
governmentally-operated health care providers within the State must be 
identified.
    14C. Comment: One commenter asked what is the definition of a 
``component unit'' on the consolidated annual financial report 
referenced in the regulation's preamble, and whether or not an 
``enterprise fund'' entry on the consolidated annual financial report 
would qualify an entity as being considered a unit of government.
    14R. Response: The purpose of CMS' use of the term component unit 
was to assist States in identifying health care providers that are an 
integral part of a unit of government. A component unit that appears on 
the consolidated annual financial statement of a unit of government 
because the unit of government is responsible for the component unit's 
expenses, liabilities and deficits would be indicative that the 
component unit may be considered a unit of government. It is our 
understanding that enterprise funding is an accounting method used to 
account for operations intended to be financed and operated like 
private busineses, with costs covered primarily through user fees or 
otherwise kept on a distinct basis. To the extent that this accounting 
method is applied to an entity that would otherwise be accounted for as 
a component unit on the consolidated financial statement, the use of 
enterprise accounting should not make a difference in that status.
    15C. Comment: One commenter noted the regulation's language 
requiring that a unit of government must have a role in funding a 
health care provider's expenses, liabilities, and deficits in order for 
the health care provider to be considered a unit of government. 
However, the commenter indicated that it was not clear whether the unit 
of government must have full responsibility for all three of these 
areas or whether partial responsibility for some of these areas would 
be sufficient. The commenter opines that regardless of the answer to 
that question, CMS would still find it necessary to conduct 
individualized investigation and analysis, regardless of information 
collection, making the form unnecessary and duplicative. Therefore, the 
commenter recommends withdrawal of the form.
    15R. Response: For a health care provider to be considered as a 
unit of government, the operating unit of government must have full 
responsibility for funding a health care provider's expenses, 
liabilities, and deficits in order for the health care provider to be 
considered a unit of government. We do not intend this to preclude an 
enterprise funding accounting method, as discussed above, where the 
operation of the health care provider is intended to be primarily 
funded through user fees. But this definition would not include health 
care providers that are independent legal entities that contract with a 
unit of governnment, even if the contract includes partial funding 
among its terms.
    16C. Comment: A number of commenters argued that principles of 
federalism, rooted in the Tenth Amendment to the Constitution, support 
a State's right to determine what constitutes a unit of government 
within the State and argued that the provisions of this regulation 
would intrude upon the State's ability to organize itself as deemed 
necessary.
    16R. Response: The provisions of this regulation concern the 
question of whether, in determining the amount of federal funds to 
which a State is entitled under the Medicaid program, transfers of 
funds to the State government from a Medicaid health care provider that 
is an entity other than the State government will be exempt from 
consideration as a provider tax or donation, and when expenditures of 
such an entity can be certified as ``public expenditures'' that 
constitute the non-Federal share of Medicaid expenditures. It also sets 
forth a consistent definition of entities that must be treated as 
governmental in determining the reasonableness of Medicaid payment 
rates.
    The Tenth Amendment to the U.S. Constitution does not accord any 
special privileges with respect to Medicaid funding, and the provisions 
of this regulation would not affect a State's ability to organize 
itself for other purposes.
    Nevertheless, we have determined in response to comments to provide 
States with the primary role in identifying units of government using 
the criteria set forth under this regulation, as long as the 
identification is consistently applied. This responsibility falls 
within the overall duty to document claims for federal financial 
participation.
    17C. Comment: A number of commenters noted the distinction between 
the terms ``unit of local government,'' found at Section 1903(w)(7)(G), 
and the term ``units of government within a State,'' found at Section 
1903(w)(6)(A) of the Act. One such commenter identified a recent 
decision from the Departmental Appeals Board (Ga. Dept. of Comty. 
Health, DAB No. 1973 (2005)) in an effort to highlight the differences 
in these terms. These commenters assert that Congress deliberately left 
``units of government'' undefined in order to afford States discretion 
in how they choose to finance their Medicaid programs.
    17R. Response: We have considered both statutory terms in 
developing criteria to determine if an entity is a unit of government 
for purposes of transferring funds or certifying expenditures under 
Medicaid; we have looked at what characteristics were generally shared 
by the entities specifically referenced in the statute, and we have 
also considered what the underlying intent appears to be. In section 
1903(w)(6)(A) of the Social Security Act, Congress clearly expressed 
the intent that these entities must be able to use ``funds derived from 
State or local taxes (or funds appropriated to State university 
teaching hospitals) * * *'' Unlimited discretion is not consistent with 
the plain language of this provision. The cited DAB decision primarily 
rested on a different issue, not changed by this rule, the limitation 
on protected Medicaid financing by units of government to those ``in 
the State.''
    18C. Comment: One commenter suggested that the proposed changes in 
the provisions of this regulation are beyond mere clarifications of 
existing policy and therefore could not be implemented on a 
retrospective basis without violating the notice and comment 
requirements of the Administrative Procedure Act.

[[Page 29754]]

    18R. Response: The provisions of the regulation will be effective 
60 days after publication of the final regulation and therefore are not 
being implemented on a retrospective basis. Moreover, all requirements 
of the Administrative Procedure Act are being met. The publication as a 
notice of proposed rulemaking with a 60-day comment period afforded all 
interested parties the opportunity to provide input and comment. CMS 
has fully considered all public comments received during that 60-day 
period in the development of the final provisions of the regulation.
    19C. Comment: One commenter suggested that provisions of the 
regulation may violate the Spending Clause of the U.S. Constitution. 
This commenter argues that the regulatory change in the definition of 
``unit of government'' will dramatically and adversely affect a State's 
level of funding for Medicaid, which would effectively ``coerce'' the 
States in a manner that contradicts the Spending Clause (see South 
Dakota v. Dole, 483 U.S. 203, 207, 211 (1987)).
    19R. Response: The provisions of this regulation concern the 
question of whether, in determining the amount of federal funds to 
which a State is entitled under the Medicaid program, transfers of 
funds to the State government from a Medicaid health care provider that 
is an entity other than the State government will be entitled to 
exemption from consideration as a provider tax or donation, and when 
expenditures of such an entity can be certified as ``public 
expenditures'' that constitute the non-Federal share of Medicaid 
expenditures.
    This rule also sets forth a consistent definition of entities that 
must be treated as governmentally-operated in determining the 
reasonableness of Medicaid payment rates. It does not ``coerce'' the 
State to take any action outside of the scope of the Medicaid program 
enacted under the Spending Clause. Nor do the provisions of this 
regulation affect rights of others outside of the operation of the 
Medicaid program.
    20C. Comment: A number of commenters expressed that section 
1903(w)(6)(A) was a provision that Congress included in the Act which 
was intended to limit CMS' authority to regulate the financing sources 
for the non-Federal share of the Medicaid program. Commenters made this 
point to suggest that it is inappropriate for CMS to issue regulatory 
provisions governing sources of State or local funds used to satisfy 
the non-Federal share.
    20R. Response: Section 1903(w)(6)(A) of the Act carved out an 
exception to the financing restrictions that Congress itself enacted in 
section 1903(w). Section 1903(w)(6)(A) of the Act has very specific 
language and we believe that the provisions of this regulation give 
meaning to each of the terms used in that section. This regulation 
interprets and implements those terms. The language of section 
1903(w)(6)(A) of the Act cannot reasonably be read as a general 
prohibition on CMS review to determine if the criteria of section 
1903(w)(6)(A) of the Act have been met.
    21C. Comment: A number of commenters noted that by Executive Order 
binding on CMS, federal agencies must ``closely examine the 
constitutional and statutory authority supporting any action that would 
limit the policymaking discretion of the States and shall carefully 
assess the necessity for such action.'' Executive Order 13132, 64 FR at 
43256 (August 4, 1999). Similarly, wherever feasible, agencies must 
``seek views of appropriate State, local and tribal officials before 
imposing regulatory requirements that might significantly or uniquely 
affect those governmental entities'' and must ``seek to minimize those 
burdens that uniquely or significantly affect such governmental 
entities, consistent with regulatory objectives.'' Executive Order 
12866, Sec. l(b)(9), as amended 58 FR 51735 (February 26, 2002). The 
commenters assert that CMS has failed to respect those mandates here.
    21R. Response: We believe we have fully met the requirements of the 
cited Executive Orders. First, the provisions of this regulation have 
been the result of years of review and reflection on State submissions 
and financial reviews of State programs. Second, this regulation has 
been issued after advance notice of its general terms was issued in 
Presidential budget documents, and numerous discussions with State 
officials and other interested parties. Third, affected parties have 
had full opportunity for input through the informal rulemaking 
procedures under the Administrative Procedure Act. These processes have 
indeed significantly affected the proposed and final regulation. But 
these processes do not supersede CMS responsibilities to safeguard the 
integrity of the Medicaid program, and ensure that federal dollars are 
spent only when matched by actual, documented, expenditures from State 
or local non-federal funds that meet applicable criteria under the law.
    22C. Comment: Several commenters noted that many governments have 
organized or reorganized public hospitals into separate entities in 
order to provide them with the autonomy and flexibility to deliver more 
efficient and higher quality health care. It was asserted that because 
some of these hospitals would not be recognized as governmental under 
the regulation, they will not be as able to fulfill their mission of 
delivering accessible care in an efficient and effective manner, nor 
will they be permitted to finance the non-Federal share of Medicaid 
payments via IGT or CPE. Many commenters also expressed concern that 
existing financing arrangements involving IGTs or CPEs from certain 
health care providers would be undone because some of these health care 
providers may not be considered units of government under the 
regulation. To the extent such IGT or CPE arrangements need to change 
after the provisions of the regulation are effective, the funding for 
these health care providers will be at risk. This concern was 
particularly emphasized relative to any affected safety net health care 
providers because of their services to our nation's most vulnerable 
populations.
    22R. Response: A health care provider that is not recognized as 
governmentally-operated under the Federal statutory and regulatory 
criteria will not be subject to the cost limitation on Medicaid 
payments. Therefore, such health care providers may receive Medicaid 
payments up to the applicable regulatory upper payment limit, to the 
extent States use permissible sources of non-federal share funding to 
make such payments. Furthermore, such health care providers would not 
be subject to obligations to fund the non-federal share of a State's 
Medicaid program. To the extent that such a health care provider was 
previously obligated to fund certain Medicaid payments, total Medicaid 
revenues to that facility can be sustained through alternative 
permissible sources of non-federal share funding. These health care 
providers may realize significantly greater net Medicaid revenues if 
State or local government funding sources are utilized to fund the non-
federal share historically financed by the health care providers. 
Therefore, such health care providers will not necessarily be affected 
in their mission to deliver accessible care in an efficient and 
effective manner.
    Indeed, the provisions of the regulation were actually designed to 
protect health care providers. Non-governmentally operated health care 
providers, including many of the ``public'' safety net providers, are 
not affected by the cost limit provision of the regulation and 
therefore, may continue to receive Medicaid payments

[[Page 29755]]

in excess of the cost of providing services to Medicaid individuals 
within existing Federal requirements. Governmentally operated health 
care providers may receive the full cost of furnishing Medicaid 
services, which could mean rates that substantially exceed those 
available to other classes of facilities.
    Moreover, Sec.  447.207 protects health care providers because it 
requires that health care providers be allowed to fully retain their 
Medicaid payments. This requirement assures that payments to providers 
are actual expenditures and are available to support the provision of 
services to Medicaid beneficiaries. These requirements demonstrate the 
Federal government's intent to protect the nation's public safety net 
providers and the ability of those providers to serve our nation's most 
vulnerable populations.
    23C. Comment: Many commenters pointed out that there are public 
hospitals that have been involved in financing the non-Federal share 
via IGT or CPE for years without any objection from CMS. Under the 
provisions of the regulation, however, certain public hospitals would 
no longer be permitted to finance the non-Federal share via IGT or CPE 
because they would not qualify as units of government. These commenters 
found it unreasonable that CMS would eliminate long-standing funding 
arrangements for Medicaid services provided at these hospitals, saying 
that the elimination of Federal funding for such hospitals could be 
catastrophic. These commenters asserted that the loss of Federal 
funding could result in increased costs to State or local government, 
increased provider taxes, cuts in Medicaid eligibility, or reductions 
in Medicaid coverage or reimbursement.
    23R. Response: The numerous comments regarding particular health 
care provider's inability to continue financing the non-Federal share 
of Medicaid payments through IGTs, or CPEs, indicates that States have 
been ignoring the statutory limitation to ``units of government'' in 
the provision permitting IGTs or CPEs without regard to provider tax 
and donation rules. Instead, it appears many States relied on a health 
care provider's ``public'' mission as sufficient evidence of 
eligibility to make IGTs or CPEs. By doing so, the States imposed an 
additional burden on these non-governmental safety net providers to 
shoulder the fiscal responsibility of state and local units of 
government under the Medicaid statute.
    In other words, the provisions of the regulation were actually 
designed to protect health care providers, including the safety net 
providers. Under the provisions of the regulation, governmentally-
operated health care providers are assured opportunity to receive full 
cost reimbursement for serving Medicaid individuals. Non-
governmentally-operated health care providers, including many of the 
``public'' safety net hospitals, are not affected by the Medicaid cost 
limit provision of the regulation and therefore, may continue to 
receive Medicaid payments in excess of the cost of providing services 
to Medicaid individuals within existing Federal requirements. Moreover, 
the final rule provides that payments to these health care providers 
cannot be diverted, but must be retained by the providers and available 
to support provider services.
    24C. Comment: One hospital that would be considered a unit of 
government under the provisions of the regulation suggested that even 
though it qualifies as a unit of government, it would be adversely 
affected by the unit of government definition because the regulation 
would disqualify other hospitals in the State from participating in 
IGTs and CPEs. This disqualification, the commenter asserts, would 
jeopardize the fiscal health of the hospital that qualifies as a unit 
of government.
    24R. Response: This final rule would permit States to pay 
governmental providers the full cost of furnishing covered services to 
Medicaid beneficiaries, and thus a governmental hospital need not incur 
any loss from participation in the Medicaid program. To the extent 
certain health care providers are no longer eligible to participate in 
the IGT process, no loss of Federal funds will occur for such affected 
health care provider if State and/or local government satisfy the non-
Federal share of the Medicaid payments historically funded by non-
governmentally-operated health care providers. Moreover, nothing in 
statute or regulation requires States to increase a governmentally-
operated hospital's fiscal obligation to Medicaid in order to supplant 
non-Federal obligations historically satisfied by non-governmentally-
operated hospitals.
    25C. Comment: One commenter noted that recently CMS has expanded 
financial controls over the CPE process by requiring reconciliations to 
a cost report and instruction on how a certified public expenditure is 
calculated. This commenter questioned how converting ownership status 
to private-owned for those health care providers who have been 
historically considered as public-owned by CMS under the regulation's 
provisions would increase financial controls.
    25R. Response: CMS is not ``converting'' ownership status of any 
facilities as a result of the provisions of this regulation but this 
final rule will ensure more accurate determinations of governmental 
status based on the underlying facts and the statutory and regulatory 
requirements. These determinations will identify the universe of 
governmentally-operated health care providers for purposes of the new 
upper payment limit and of participation in financing of the non-
Federal share of Medicaid payments. The final rule will ensure that 
claims for federal expenditures are supported by actual state and local 
expenditures.
    26C. Comment: Some commenters suggested that the regulation's 
definition of a unit of government will undermine marketplace 
incentives to operate public health care providers through independent 
entities. This argument postulates that public hospitals, which fill a 
unique role in serving the poor and uninsured, were historically 
operated as a department of the state or local government, with 
associated bureaucratic controls. Over time, however, many governments 
that had previously operated public hospitals as integrated 
governmental agencies began searching for new ways to organize and 
operate these entities to provide them more autonomy and equip them to 
better control costs and compete in a managed care environment. 
Acknowledging the wide variance in the structure of these public 
hospitals today, the commenters suggest that the provisions of the 
regulation would only permit health care providers following the most 
traditional model to be considered units of government, thus reversing 
incentives to make operating enhancements resulting from the devolution 
of provider control from a government to a non-governmental entity.
    26R. Response: The provisions of the regulation were not designed 
to undermine marketplace incentives to give ``public'' health care 
providers increased autonomy. We recognize, however, that some changes 
in organizational structure may require adjustment of arrangements to 
finance Medicaid expenditures.
    For example, a provider that is truly independent of any 
governmental unit (for example, a former county hospital leased by a 
private corporation) would not be permitted to contribute the non-
federal share of Medicaid expenditures. To the extent that such a 
provider had claims for covered services to Medicaid eligible 
individuals, a governmental

[[Page 29756]]

unit such as the county) that pays for such care can certify a public 
expenditure (at rates under the approved State plan) to support a claim 
for federal financial participation.
    We believe the uniform regulatory definition of a unit of 
government in this final rule will guide States, localities and 
providers in arranging their relationships to comply with the Medicaid 
statute. At the same time, as discussed above, the uniform regulatory 
definition will protect the fiscal integrity of the program by ensuring 
that claims for federal financial participation are supported by actual 
non-federal expenditures that meet statutory requirements. And this 
rule will protect health care providers and ensure that Medicaid 
payments are available for covered care to eligible individuals.
    27C. Comment: Multiple commenters requested that CMS clarify the 
unit of government definition's applicability to other areas of 
Medicaid.
    27R. Response: This regulation directly concerns only the treatment 
of financial transactions that involve entities that meet the 
definition of a unit of government. This rule attempts to set forth a 
consistent definition for that purpose. But this rule does not address 
the definition of a unit of government or public agency for other 
purposes. Whether we would interpret other requirements similarly may 
depend on the context and circumstances of those requirements.
    28C. Comment: Many commenters stated that specific entities within 
a State would not qualify as units of government under the provisions 
of the regulation. Other commenters requested that CMS affirmatively 
specify that certain named health care providers could continue to fund 
the non-federal share of Medicaid payments through IGTs and/or CPEs. To 
the extent such entities have been involved in financing the non-
Federal share of Medicaid payments, such entities would be required to 
change financing arrangements and would be at risk of losing Medicaid 
funding for their services.
    One commenter observed that Local Education Agencies (LEAs) without 
taxing authority may be currently involved in certified public 
expenditures (CPEs) but may also be fiscally independent from county 
governments. The commenter is concerned that such a LEA would not 
qualify as a unit of government under the provisions of the regulation, 
eliminating existing CPE practices and placing school based services or 
school-based administrative claims at risk. Several commenters stated 
that the definition of ``unit of government'' would no longer permit 
many public health care providers that operate under public benefit 
corporations from helping States finance the non-Federal share of 
Medicaid funding.
    Several commenters stated that the definition of ``unit of 
government'' would no longer permit many State universities from 
helping States finance the non-Federal share of Medicaid funding.
    One commenter opined that under the regulation's definition of 
governmental providers, Regional Councils of Governments would not be 
eligible to provide matching funds for the non-Federal share of 
Medicaid payments. The commenter states that the Federal government 
created Councils of Governments to assist in the implementation of 
programs such as Medicaid, that State and local governments should have 
the prerogative of decision making with respect to operational 
responsibility for Medicaid, and that the unit of government definition 
compromises such arrangements at the State and local levels. One 
commenter made a suggestion that CMS modify the provisions of the 
regulation to recognize the public status of public community hospitals 
organized and operated in the State of Mississippi under Miss. Code Ann 
Sec. Sec.  41-13-10, et seq. (1972 and supplements) and include these 
hospitals under the unit of government definition.
    A number of commenters wrote concerning the impact the regulation's 
definition of unit of government may have on ``public entity'' (PE) 
community health centers (CHCs), which may current certify public 
expenditures within a State. PE model CHCs are created by units of 
government but generally do not have taxing authority. However, they 
must adhere to governance rules established by the Health Resources and 
Services Administration (HRSA) that mandate a Board of Directors 
comprised of at least 51 percent users of the CHC. Each of the PE 
models has a slight variation in governance structure. The commenters 
are concerned that some of these PE model CHCs would not be recognized 
under the provisions of the regulation as a unit of government and 
would therefore lose the federal funding based on expenditures they are 
currently certifying via the CPE process.
    One commenter wanted to know whether or not a State's regional 
school districts, charter schools, and municipal school districts would 
qualify as units of government under the provisions of the regulation.
    28R. Response: As these comments point out, there is a wide variety 
in the organization of, and relationship between, governmental and non-
governmental entities. We cannot predetermine which entities have 
governmental status for purposes of participating in financing the non-
federal share of Medicaid expenditures, or application of the 
governmental upper payment limits. This regulation establishes criteria 
assist States in making those determinations in order to document 
claimed expenditures for purposes of obtaining federal financial 
participation.
    As discussed previously, some of the commenters appear to be 
confusing public mission with governmental status. Neither section 
1903(w)(6)(A) nor section 1903(w)(7)(G) of the Act refer to a public 
mission; instead these sections refer to specific governmental 
entities, governmental status, and the use of State and local tax 
revenues. Moreover, while a provider determined to be non-governmental 
cannot participate in financing the non-federal share of Medicaid 
expenditures, units of government that fund covered services to 
Medicaid eligible individuals at the provider can certify a public 
expenditure (at rates under the approved State plan) to support a claim 
for federal financial participation.
    29C. Comment: A number of commenters questioned the proposed 
provision at Sec.  433.50(a)(1)(ii)(B) allowing a health care provider 
without taxing authority to be considered a unit of government only if 
the government with taxing authority has a legal obligation to fund the 
health care provider's expenses, liabilities, and deficits. These 
commenters argued that some providers were deliberately designed by the 
government to be autonomously funded yet also possess governmental 
attributes under applicable State or local laws. It was therefore 
asserted that the provisions of the regulation penalize providers that 
have reduced their reliance on taxpayer support and creates incentives 
to redesign provider structures into a less flexible, more inefficient 
governmental form that is more dependent on the taxpayer.
    29R. Response: The provisions of the regulation were not designed 
to penalize governmentally operated health care providers that have 
reduced their reliance on taxpayer support. Nor is the regulation 
intended to create incentives to redesign health care provider 
structures into a less flexible, more inefficient governmental form 
that is more dependent on the taxpayers.

[[Page 29757]]

    We have modified the regulation at Sec.  433.50 to address concerns 
regarding taxing authority as a requirement for an entity to be 
considered a unit of government. The regulation has been revised to 
indicate that a unit of government must have either taxing authority or 
direct access to tax revenues. We have added the phrase ``has direct 
access to tax revenues'' to recognize as governmental those entities 
that do not have taxing authority, and may not have immediate needs for 
tax support, but do have direct access to tax revenues of a related 
unit of government because of the direct responsibility of that unit of 
government for the provider.
    30C. Comment: Two commenters raised questions about special purpose 
districts. One asked CMS to clarify what is meant by the term ``special 
purpose district,'' while another stated that the provisions of the 
regulation seemed to eliminate the ability of special purpose districts 
to participate in funding Medicaid.
    30R. Response: As noted previously, we interpret the broad 
statutory language to rely on the characteristics of the entity in 
question rather than on its label. We believe that the statutory 
reference to special purpose district has to be read in the statutory 
context to refer to an entity that resembles the other entities in the 
list. By grouping ``special purpose districts'' with ``cities'' and 
``counties,'' we read the statute to refer to special purpose districts 
that share qualities generally held by cities and counties. One of 
those qualities, for example, is authority to impose taxes or directly 
access tax revenues. While there may be some entities that a State 
calls special purpose districts that do not have such authority, in 
context we read the statute to refer only to those entities that have 
qualities similar to cities and counties.
    31C. Comment: One commenter discussed hospital authorities, which 
have been given certain governmental powers but not the authority to 
tax in a State. In fact, the State's legislature specifically granted 
local governments the power to agree by contract with the hospital 
authorities to utilize tax revenues for their services. The commenter 
expresses concern that under the provisions of the regulation, all 
hospital authorities in the State would not qualify as a unit of 
government, per the proposed language about contracts at Sec.  
433.50(a)(1)(ii)(B).
    31R. Response: The regulatory text at Sec.  433.50(a)(1)(ii)(B) 
specifies that a contractual arrangement with the State or local 
government is not the ``primary or sole basis for the health care 
provider to receive tax revenues.'' This language suggests that the 
presence of a contractual arrangement does not automatically preclude a 
health care provider from being considered a unit of government. 
However, if the only way for a health care provider to access general 
tax revenue is under a contract for services with a unit of government, 
then the health care provider is likely not a unit of that government. 
States must apply all statutory and regulatory criteria to each 
individual health care provider to make initial determinations of 
governmental status.
    32C. Comment: One commenter wrote that the regulation's preamble on 
certified public expenditures indicates that the ``plain meaning of the 
Act'' precludes not-for-profit entities from financing the non-Federal 
share. The commenter expresses that there is no support provided for 
this statement in this section of the regulation. Therefore, the 
commenter asks CMS to provide relevant statutory provisions supporting 
the conclusion.
    32R. Response: Medicaid is a shared responsibility between Federal 
and State government. State governments may share their fiscal 
obligation to the Medicaid program with local governments according to 
the instruction of Congress. Under Public Law 102-234, the Congress 
made clear that States may allow governmental health care providers to 
participate in a State's fiscal obligation to the Medicaid program 
through the use of intergovernmental transfers and certified public 
expenditures.
    The provision of the regulation regarding certified public 
expenditures is a clarification to existing Federal statutory 
instruction at section 1903(w)(6)(A) of the Act. Consistent with this 
explicit statutory instruction, a certified public expenditure (CPE) 
means that State or local tax dollars were used to satisfy the cost of 
serving Medicaid individuals (and the cost of providing inpatient and 
outpatient hospital services to the uninsured for purposes of Medicaid 
DSH payments).
    Under the provisions of the regulation, all health care providers 
maintain some level of ability to participate in the CPE process. 
Governmentally-operated health care providers are able to certify their 
costs without having to demonstrate that State or local tax dollars 
were used to provide Medicaid services. This policy is based on the 
fact that governmentally-operated health care providers always have the 
ability to access State and/or local tax dollars as an integral 
component of State or local government. Governmentally-operated health 
care providers need only produce cost documentation via national, 
standardized cost reporting to receive Federal matching funds as a 
percentage of such allowable Medicaid (and DSH) costs.
    Non-governmentally-operated health care providers may also produce 
cost documentation to support the costs of providing services to 
Medicaid individuals (and certain uninsured costs for purposes of 
Medicaid DSH payments). However, in order to maintain consistency with 
the Federal statutory instruction governing CPEs, a State or local 
government must actually certify that tax dollars were provided to the 
non-governmentally-operated health care provider. Federal matching 
funds can be available, to the extent consistent with the approved 
State plan, for allowable Medicaid costs incurred by the non-
governmentally-operated health care provider that are funded with such 
State and/or local tax support.
    33C. Comment: One commenter requested that if the proposed 
definition of unit of government is adopted, that CMS clarify its 
interpretation of nonpublic provider.
    33R. Response: The term ``nonpublic provider'' is referenced in 
section 1903(w)(3)(B) of the Act for purposes of evaluating a broad-
based health care related tax. This rule addresses only the 
governmental exception from provider tax and donation rules, and does 
not address the substance of the provider tax and donation rules. 
Changes to those rules are outside the scope of the proposed rule and 
would be more appropriately addressed in separate rulemaking. 
Therefore, we do not find it necessary to further clarify the term 
``nonpublic provider'' in this rule.
    34C. Comment: Multiple commenters described concerns regarding 
Medicaid Behavioral Health Plans that have been characterized as 
government entities by a county or group of counties to manage the 
risk-based contract. The commenters stated that under this arrangement, 
local dollars are paid to the health plan for Medicaid match and these 
funds are then submitted to the State to cover the match. The 
commenters are concerned that this IGT agreement does not meet the 
definition of a unit of government since the plans were not given 
taxing authority and the counties do not have the legal obligation of 
the plan's debts. The commenters requested that the proposed regulation 
explicitly state that local dollars will be considered valid IGTs if 
they originated at a unit of government regardless of the entity that 
submits the payment to the State.
    34R. Response: Entities that are not units of government can not 
make IGTs or CPEs regardless of where the entity

[[Page 29758]]

gets funding. Section 1903(w)(6)(A) specifically refers to funding 
transferred or certified from ``units of government'' and does not 
provide a basis for tracing the source of funding transferred or 
certified from other entities. Any transfer of funds from a non-
governmentally-operated health care provider to a State constitutes a 
provider-related donation, not an intergovernmental transfer. In the 
situation discussed by commenters, the parties may want to explore 
restructuring their relationship to provide that the local unit of 
government make an IGT to the State directly.
    35C. Comment: Many commenters disagreed with any suggestion that 
not-for-profit status in and of itself should disqualify an entity as a 
unit of government. The commenters noted that many traditional public 
health care providers are nonprofit corporations under Section 
501(c)(3) of the Internal Revenue Code, and these health care providers 
not only have a public-oriented mission but are subject to public 
oversight and receive substantial financial support from the 
communities in which they operate.
    Further, they argued that the fact that an enterprise is organized 
in corporate form is not inconsistent with its being a public entity. 
The commenters cited examples of federal public entities that operate 
in corporate form, including the Federal Deposit Insurance Corporation, 
the Tennessee Valley Authority, and the Communications Satellite 
Corporation.
    Similarly, multiple commenters observed that frequently, State laws 
creating hospital districts allow the hospital to operate as a 
501(c)(3) nonprofit corporation, while the authorizing legislation 
vests the hospital with governmental status. The commenters assert that 
hospitals operated under these hospital district laws have, until this 
rulemaking, been viewed as public hospitals.
    Many other commenters stated that nonprofit corporations have many 
attributes of public entities and should therefore be allowed to 
qualify for purposes of financing the non-Federal share of Medicaid. 
The commenters remarked that not for profit corporations are required 
to serve a ``public interest,'' 26 CFR. Sec.  1.501(c)(3)-l(d)(1)(ii). 
They note that unlike for-profit corporations, there are no 
shareholders, and no private persons can have any ownership interest in 
the nonprofit corporation. Nonprofit corporations can have ``members'' 
(though this is not required), but members have no ownership interest 
in the assets or business of the nonprofit corporation. Further, the 
commenters observe that when a nonprofit corporation terminates its 
operations, its assets must (depending on the applicable State law) be 
contributed either to another nonprofit or to the federal, State, or 
local government for a public purpose. In other words, once assets are 
committed to a benevolent purpose being carded out through a nonprofit 
corporation, those assets must remain available for a benevolent 
purpose. The commenters also point out that localities or hospital 
districts frequently choose to organize a hospital as a 501(c)(3) 
organization in order to ensure that the hospital will be able to 
accept private charitable donations, which would be permitted under 
Section 1903(w) of the Act. These commenters essentially argue that the 
public-oriented nature of non-profit corporations should be sufficient 
to allow such corporations to be considered tantamount to units of 
government for purposes of Medicaid financing.
    35R. Response: While it may be that nonprofit corporations have 
some public service qualities that governmental units have, there is no 
question that they are not units of government. Section 1903(w) 
contains severe penalties on the use of donations from health care 
providers to finance the non-federal share of the Medicaid program, but 
includes an exception for funding transferred or expenditures certified 
by units of government. There is nothing in the Medicaid statute that 
would indicate non-governmental ``public'' units could help a State 
finance its share of Medicaid payments.
    Medicaid is a shared responsibility between Federal and State 
government. State governments may share their fiscal obligation to the 
Medicaid program with local governments according to the instruction of 
Congress. Under Public Law 102-234, the Congress made clear that States 
may allow governmentally-operated health care providers to participate 
in a State's fiscal obligation to the Medicaid program through the use 
of intergovernmental transfers and certified public expenditures. 
However, the Congress was also clear that States may not receive funds 
from non-governmentally-operated health care providers for purposes of 
financing Medicaid payments.
    This final rule will assist States in identifying the universe of 
governmentally-operated health care providers that could receive 
Medicaid revenues up to the full cost of providing services to Medicaid 
individuals and clarifies which types of health care providers can 
participate in financing of the non-Federal share of Medicaid payments.
    36C. Comment: A number of commenters noted that the Medicare 
regulation governing location requirments for determining whether a 
facility has provider-based status recognize that a unit of State or 
local government may ``formally grant governmental powers'' to a health 
care provider organized as a public or nonprofit corporation. See 42 
CFR Sec.  413.65(e)(3)(ii)(B). The commenters offer this to suggest 
that there are instances in which a nonprofit corporation may be 
considered governmental.
    36R. Response: The provisions of the regulation are limited to the 
purposes of Medicaid payment and financing, and are based on the 
statutory provisions governing those issues. This regulation does not 
affect Medicare provider-based status location requirements. States 
will need to apply Medicaid statutory and regulatory criteria to each 
individual health care provider to make determinations of governmental 
status for purposes of the Medicaid program.
    37C. Comment: Many commenters questioned the rationale for 
including taxing authority, or the ability to access funding as an 
integral part of a government with taxing authority, as a requirement 
for a health care provider to qualify as a unit of government under the 
provisions of the regulation.
    37R. Response: As discussed previously, we read the statutory 
definition of governmental entities to require certain common 
qualities, such as taxing authority, or the ability to directly access 
tax funding. Moreover, we believe this requirement is consistent with 
the overall statutory rationale. The governmental exception from 
provider tax and donation restrictions at section 1903(w)(6)(A) of the 
Act is limited to the ``use of funds where such funds are derived from 
State or local taxes'' (with a special provision for State university 
teach hospitals that receive appropriated funds which we discuss in the 
following response). We read the exception to be intended to permit 
wide flexibility in the use of tax funds, whether State or local. The 
limitation of this exception to the use of tax funds supports our 
interpretation that the reference to ``units of government'' was 
intended only to include entities with access to such tax funds.
    As important, the purpose of the provider tax and donation 
restrictions in general was to prevent situations in which the health 
care provider contributed a non-federal share of claimed expenditures 
but was

[[Page 29759]]

essentially repaid through Medicaid or other payments. The provision at 
section 1903(w)(6)(A) of the Act is based on the rationale that such 
repayment does not occur when the health care provider uses state or 
local tax funding for its contribution. To give that full effect, the 
health care provider needs to have either taxing authority or direct 
access to tax funding.
    38C. Comment: A number of commenters noted that the provisions of 
the regulation were silent on the explicit reference in section 
1903(w)(6)(A) of the Act to ``funds appropriated to State university 
teaching hospitals'' as being permissible sources of the non-Federal 
share. These commenters argued that the provisions of the regulation 
violated Congressional intent with respect to funding arrangements 
involving such institutions.
    38R. Response: We agree with this comment and we revised Sec.  
433.50(a)(i) and (ii) to include appropriations to State university 
teaching hospitals, and to define ``State university teaching 
hospital.'' We believe the specific provision that State university 
teaching hospitals could transfer funds derived from State 
appropriations rather than State or local tax revenues is only 
necessary because the statutory provisions otherwise embody the general 
principle that units of government must have taxing authority or direct 
access to tax funds. The State university teaching hospital exception 
makes that general principle clear, and we are revising the provisions 
of the regulation to reflect that exception.
    39C. Comment: A number of commenters pointed out that State law 
typically looks beyond the presence of taxing authority to other 
indicia of governmental status. For example, courts may look to whether 
an entity enjoys sovereign immunity, whether its employees are public 
employees, whether it is governed by a publicly appointed board, 
whether it receives public funding, and whether its enabling statute 
declares it to be a political subdivision or a public entity. These 
examples were provided to suggest that CMS look beyond just taxing 
authority as the standard of determining whether or not an entity is a 
unit of government.
    39R. Response: This regulation addresses governmental status for a 
very limited purpose and therefore we look only to criteria that are 
related to that purpose. For purposes of Medicaid payment and 
financing, the relevant characteristics of a governmental entity are 
those that relate to its financial organization including the source of 
funding and liability for its debts. These characteristics relate 
specifically to issues raised by the Medicaid statute. The provision of 
the regulation requiring that a unit of government must have access to 
tax revenues is consistent with the Congressional instruction contained 
in section 1903(w) of the Social Security Act.
    As discussed previously, we read the statutory definition of 
governmental entities to require certain common qualities, such as 
taxing authority, or the ability to directly access tax funding. 
Moreover, we believe this requirement is consistent with the overall 
statutory rationale. The governmental exception from provider tax and 
donation restrictions at section 1903(w)(6)(A) of the Act is limited to 
the ``use of funds where such funds are derived from State or local 
taxes'' (with a special provision for State university teach hospitals 
that receive appropriated funds which we discuss in the following 
response). We read the exception to be intended to permit wide 
flexibility in the use of tax funds, whether State or local. The 
limitation of this exception to the use of tax funds supports our 
interpretation that the reference to ``units of government'' was 
intended only to include entities with access to such tax funds.
    40C. Comment: A number of commenters questioned CMS' meaning with 
respect to a unit of government with `` taxing authority'' because this 
term was not defined in the regulatory text or the preamble, leaving 
units of government vulnerable to arbitrary or inconsistent use of this 
term in applying the provisions of the regulation.
    40R. Response: We do not believe that this term is generally 
regarded as ambiguous, but we are clarifying in this response and in 
the regulation text at Sec.  433.50(a)(1)(ii)(B) that we meant to refer 
to ``taxing authority or direct access to tax revenues.'' We believe 
that, in general, States have clear legal parameters setting forth 
those entities that have authority under their law to levy taxes. In 
addition, tax levies have particular treatment for purposes of federal 
and state taxes, and the distinction between tax levies and user fees 
is generally clear. We intend to defer to determinations by the State 
and the applicable tax authorities as to whether an entity has 
authority to impose taxes. The added phrase ``or direct access to tax 
revenues'' permits flexibility for those entities which have direct 
access to taxes that are imposed by a parent or related entity. For 
example, when a tax is imposed and collected by the State itself but is 
dedicated to the use of a municipality or other entity, that entity 
would satisfy the criteria of direct access to tax funds.
    41C. Comment: A commenter asked if a legislatively created entity 
constitutes a ``unit of government'' if it does not have taxing 
authority but received government appropriations. Similarly, the 
commenter asked whether an entity that does not receive government 
appropriations, but has legislatively-established revenue raising 
authority or performs a legislatively-mandated function, would qualify 
as a unit of government.
    41R. Response: In response to comments such as this one, we have 
modified the regulation at Sec.  433.50 to make clear that a unit of 
government has either taxing authority or direct access to tax 
revenues. We have added the phrase ``has direct access to tax 
revenues'' to recognize as governmental those entities that do not have 
taxing authority, but do have direct access to tax revenues that are 
imposed by a related unit of government. By direct access, we do not 
mean simply that the entity receives appropriated funds or enters into 
a contractual arrangement with a unit of government. The entity must 
have the ability to receive funding as an integral part of a unit of 
government with taxing authority which is legally obligated to fund the 
health care provider's expenses, liabilities, and deficits.
    42C. Comment: A commenter asked if a legislatively created entity 
constitutes a ``unit of government'' if it does not have taxing 
authority but receives both a government appropriation and other 
revenues through its legislatively-established revenue raising 
authority. If the answer is yes, the inquirer asks if there are any 
limits on the amount or source of funds that such an entity may spend, 
transfer, or contribute as the non-Federal share of an expenditure 
eligible for FFP.
    42R. Response: The determination of governmental status is a fact-
specific determination and may depend on the precise circumstances. 
States must apply the Federal statutory and regulatory criteria to each 
individual health care provider to make initial determinations of 
governmental status. In this instance, it is relevant whether the 
entity has direct access to tax revenues as an integral part of a unit 
of government with taxing authority which is legally obligated to fund 
the health care provider's expenses, liabilities, and deficits.
    43C. Comment: A commenter asked if the proposed Sec.  
433.50(a)(1)(ii)(B), which speaks directly of health care providers, 
also includes governmental units

[[Page 29760]]

without taxing authority that are not health care providers.
    43R. Response: This provision of the regulation is only applicable 
to health care providers. However, we have revised Sec.  
433.50(a)(1)(i) to address the situation of governmental units that do 
not have direct taxing authority, but are able to directly access 
funding as an integral part of a unit of government with taxing 
authority which is legally obligated to fund the health care provider's 
expenses, liabilities, and deficits, so that a contractual arrangement 
with the State or local government is not the primary or sole basis for 
the health care provider to receive tax revenues.
    44C. Comment: A number of commenters inquired about whether or not 
appropriations made by a government for the benefit of a public or 
private university college of medicine, which operates a faculty 
practice plan, would be a permissible source of the non-Federal share 
of Medicaid expenditures.
    44R. Response: Governmentally-operated health care providers may 
use appropriated tax revenues to fund the non-Federal share of Medicaid 
expenditures through IGTs or CPEs. Governmentally-operated health care 
providers are not required to demonstrate that the funds transferred or 
certified are, in fact, tax revenues. A governmentally-operated health 
care provider is always able to access tax revenue, a characteristic of 
which reflects a health care provider's governmental status, and helps 
to define eligibility to participate in IGTs and/or CPEs.
    Under Public Law 102-234, Congress included an exception to a 
general prohibition on the receipt of voluntary contributions from 
health care providers by allowing units of government, including 
governmentally-operated health care providers, to participate in the 
intergovernmental transfer and certified public expenditure process. 
Specifically, section 1903(w)(6)(A) of the Social Security Act states:

    Notwithstanding the provisions of this subsection, the Secretary 
may not restrict States' use of funds where such funds are derived 
from State or local taxes (or funds appropriated to State university 
teaching hospitals) transferred from or certified by units of 
government within a State as the non-Federal share of expenditures 
under this title, regardless of whether the unit of government is 
also a health care provider, except as provided in section 
1902(a)(2), unless the transferred funds are derived by the unit of 
government from donations or taxes that would not otherwise be 
recognized as the no-Federal share under this section.

    This statutory language is very clear in its direction regarding 
eligibility to participate in financing the non-federal share of 
Medicaid payments. There is nothing in the Medicaid statute that would 
indicate non-governmental units could help a State finance its share of 
Medicaid payments, particularly in light of the significant statutory 
penalties States face for receiving provider-related donations as the 
non-Federal share of Medicaid payments (that is, non-bona fide 
provider-related donations).
    45C. Comment: One commenter asked CMS to modify the provisions of 
the regulation to recognize an entity as a unit of government even 
though the entity may not itself have taxing authority, so long as the 
entity's owner has taxing authority and can transfer funds or lend its 
bonding authority to the entity.
    45R. Response: We have modified the regulation at Sec.  433.50 to 
indicate that a unit of government has either taxing authority or 
direct access to tax revenues. We have added the phrase ``has direct 
access to tax revenues'' to recognize as governmental those entities 
that do not have taxing authority, but do have direct access to tax 
revenues that are imposed by a parent or related unit of government.
    For example, when a tax is imposed and collected by a State but is 
dedicated for use by a municipality or other entity, that entity would 
satisfy the criteria of direct access to tax revenues. Similarly, a 
county-operated hospital that is recognized in the county's budget to 
receive local tax subsidies via the county appropriation process, and 
without the need to contract for such tax revenues, would satisfy the 
criteria of direct access to tax revenues.
    46C. Comment: Multiple commenters noted that taxing authority is 
not a precondition for an entity to be a unit of government. These 
commenters observe that while no one would doubt that a municipality is 
a unit of government, States frequently restrict, and may (absent State 
constitutional considerations) entirely suspend, municipalities' powers 
of taxation. Thus, these commenters contend that CMS's requirement that 
a governmental entity must have `` taxing authority'' in order to be 
considered a unit of government whose funds may be used as the state 
share of Medicaid expenditures is adding a requirement that 
fundamentally interferes with a State's own internal governmental 
structure. Therefore, the commenters argue that CMS should omit taxing 
authority as a necessary precondition for unit of government status and 
defer to State decisions in this matter.
    46R. Response: The provisions of this regulation concerns the 
question of whether, in determining the amount of federal funds to 
which a State is entitled under the Medicaid program, transfers of 
funds to the State government from a Medicaid health care provider that 
is an entity other than the State government will be entitled to 
exemption from consideration as a provider tax or donation, and when 
expenditures of such an entity can be certified as ``public 
expenditures'' that constitute the non-Federal share of Medicaid 
expenditures. It also sets forth a consistent definition of entities 
that must be treated as governmental in determining the reasonableness 
of Medicaid payment rates. This regulation does not control how the 
State will organize itself. Moreover, the provisions of this regulation 
do not preclude entities that do not qualify as units of government 
from participating in the Medicaid program and contributing funds that 
are consistent with applicable provider tax and donation requirements.
    47C. Comment: Many commenters questioned CMS's authority to define 
a ``unit of government'' in the manner described in this regulation. 
Several commenters questioned the basis for the regulation's 
requirement that a health care provider must have taxing authority or 
be an integral part of a unit of government with taxing authority. In 
this regard, commenters asserted their belief that Congress provided 
greater latitude in the statute for States and localities to determine 
which entities are units of government.
    47R. Response: As discussed previously, we read the statutory 
definition of governmental entities to require certain common 
qualities, such as taxing authority, or the ability to directly access 
tax funding. Moreover, we believe this requirement is consistent with 
the overall statutory rationale. The governmental exception from 
provider tax and donation restrictions at section 1903(w)(6)(A) of the 
Act is limited to the ``use of funds where such funds are derived from 
State or local taxes'' (with a special provision for State university 
teach hospitals that receive appropriated funds which we discuss in the 
following response). An entity that has no taxing authority or direct 
access to tax revenues would be unable to qualify for that exception. 
Thus limitation of this exception to the use of tax funds supports our 
interpretation that the reference to ``units of government'' was 
intended only to include entities with access to such tax funds.

[[Page 29761]]

    We disagree that this definition removes flexibility to finance 
Medicaid programs with state or local tax funds. The accounting 
treatment for such financing, however, may need to change to ensure 
program integrity consistent with the requirements of the new 
regulatory definition. This definition means that, for permissible 
financing arrangements, the entity that has taxing authority or direct 
access to tax funds must be the entity that either transfers the funds 
to the control of the State Medicaid agency, or that certifies 
expenditures eligible for FFP. For example, if a hospital district does 
not have taxing authority or direct access to tax revenues, it would 
not meet the requirements as a unit of government. To the extent that a 
county government, which had taxing authority or direct access to tax 
revenues, was funding Medicaid services through payments to the 
hospital district, however, the county could use that funding to make 
intergovernmental transfers, or could (with supporting documentation 
from the hospital) certify public expenditures based on that funding.
    48C. Comment: A number of commenters noted statements in the 
provisions of the regulation that CMS is modifying provisions at Sec.  
433.50(a)(1) to make the definition of a unit of government consistent 
with section 1903(w)(7)(G) of the Act, but observed that the inclusion 
of `` taxing authority'' in the proposed regulatory provision is not 
found in section 1903(w)(7)(G) of the Act. Other commenters note that 
the term `` taxing authority'' is not found at section 1902(a)(2) of 
the Act either. Therefore, these commenters assert that the provisions 
of the regulation are inconsistent with the Social Security Act.
    48R. Response: As discussed previously, the various statutory 
references to, and definitions of, governmental entities appear to 
reflect an understanding that such entities have common qualities, one 
of which is taxing authority or the ability to directly access tax 
funding. As noted above, we read the statutory language at section 
1903(w)(7)(G) of the Act to refer to entities that have the qualities 
generally associated with all of the listed terms. Section 1902(a)(2) 
of the Act is silent on what ``local sources'' may contribute the non-
federal share of Medicaid expenditures and must be read in conjunction 
with section 1903(w) of the Act and the overall statutory rationale. 
The governmental exception from provider tax and donation restrictions 
at section 1903(w)(6)(A) of the Act is limited to the ``use of funds 
where such funds are derived from State or local taxes'' (with a 
special provision for State university teach hospitals that receive 
appropriated funds which we discuss in the following response). We read 
the exception to be intended to permit wide flexibility in the use of 
tax funds, whether State or local. The limitation of this exception to 
the use of tax funds supports our interpretation that the reference to 
``units of government'' was intended only to include entities with 
taxing authority or direct access to such tax funds.
    As important, the purpose of the provider tax and donation 
restrictions in general was to prevent situations in which the State 
claimed that the health care provider contributed a non-federal share 
of claimed expenditures but the health care provider may have been 
actually discounting its rate or repaid through Medicaid or other 
payments. The provision at section 1903(w)(6)(A) of the Act was based 
on the rationale that this concern does not arise when the health care 
provider is a governmental entity using state or local tax funding for 
its contribution. To give that full effect, the health care provider 
needs to have either taxing authority or direct access to tax funding.
    49C. Comment: Many commenters who questioned the basis for the 
requirement that a health care provider must have taxing authority or 
be an integral part of a unit of government with taxing authority 
offered characteristics that they thought should be recognized as 
indicative of governmental status. These characteristics include: The 
delegation of select governmental powers by the unit of government to 
the entity; criteria of governmental status used by the Internal 
Revenue Service (IRS); an entity's public mission; the power to issue 
bonds; exemption from income or property tax; governmental involvement 
in a health care provider's Board of Directors; government ownership of 
the property on which the health care provider operates; level of 
public oversight; provider agreements with a government to provide 
indigent care; rights of a health care provider to receive specific 
local tax revenues; creating and enabling legislative provisions; 
government authority to terminate an agreement for nonperformance; and 
financing of the health care provider's capital costs by the 
government.
    49R. Response: This regulation addresses governmental status for a 
very limited purpose and therefore we look only to criteria that are 
related to that purpose. For purposes of Medicaid payment and 
financing, the relevant characteristics of a governmental entity are 
those that relate to its financial organization including the source of 
funding and liability for its debts. These characteristics relate 
specifically to issues raised by the Medicaid statute. The provision of 
the regulation requiring that a unit of government must have access to 
tax revenues is consistent with the Congressional instruction contained 
in section 1903(w) of the Social Security Act.
    As discussed previously, we read the statutory definition of 
governmental entities to require certain common qualities, such as 
taxing authority, or the ability to directly access tax funding. 
Moreover, we believe this requirement is consistent with the overall 
statutory rationale. The governmental exception from provider tax and 
donation restrictions at section 1903(w)(6)(A) of the Act is limited to 
the ``use of funds where such funds are derived from State or local 
taxes.'' We read the exception to be intended to permit wide 
flexibility in the use of tax funds, whether State or local. The 
limitation of this exception to the use of tax funds supports our 
interpretation that the reference to ``units of government'' was 
intended only to include entities with access to such tax funds.
    50C. Comment: Several commenters cited section 1903(d)(1) of the 
Act to argue Congressional intent with respect to the types of entities 
that may participate in the financing of the non-Federal share of 
Medicaid. This section of the statute requires States to submit 
quarterly reports for purposes of drawing down the Federal share, in 
which they must identify ``the amount appropriated or made available by 
the State and its political subdivisions.'' The commenters observed 
that this reference to political subdivisions does not include a 
requirement that the subdivisions have taxing authority, suggesting 
that the regulation's linkage to taxing authority as a requirement for 
recognition as a unit of government belies Congressional intent.
    50R. Response: While the commenters did not cite to any definition 
of ``political subdivision'' of a State, the definition and criteria 
that we proposed for a unit of government is broader than a ``political 
subdivision'' of the State itself. That definition includes entities 
that are substantially independent of the State, but have been accorded 
tax authority or direct access to tax funding. If we were to restrict 
the ability to contribute the non-federal share only to political 
subdivisions of the State, that would not be consistent with the other 
relevant statutory provisions.
    51C. Comment: Multiple commenters discussed preamble language which

[[Page 29762]]

says that tax revenue that is contractually obligated between a 
governmental entity and a health care provider to provide indigent care 
is not considered a permissible source of the non-Federal share of 
funding for purposes of Medicaid payments, and argued that this 
restriction violates Section 1903(w)(6) of the Act, which states that 
the Secretary may not restrict any transfers or certifications ``where 
such funds are derived from State or local taxes.'' A number of 
commenters disagreed with this same language, claiming that CMS has no 
authority to limit how a health care provider and unit of government 
use tax revenue to best achieve the objective of providing indigent 
care.
    Other commenters recommended that CMS clarify that it will not view 
the transfer of taxpayer funding for a specific health care provider as 
an indirect provider donation and allow those appropriations to be 
considered IGTs. The commenters pointed to language in the preamble 
that stipulates that ``health care providers that forego tax revenue 
that has been contractually obligated for the provision of health care 
services to the indigent * * * are making provider-related donations.'' 
A commenter also questioned whether the following situation with 
respect to appropriated funds would be considered an indirect provider 
donation or an eligible IGT: a county that is statutorily required to 
provide a fixed appropriation to a private hospital, and the statute 
expressly allows that appropriation to be used as IGT. The commenter 
provided another scenario and questioned if this would quality as an 
appropriate IGT: a formerly public hospital received a State 
appropriation, which it currently uses as an IGT.
    51R. Response: Section 1903(w)(6)(A) of the Medicaid statute 
provides that only governmental units may transfer or certify funds 
based on governmental status, and separately indicates that the funds 
must be derived from state or local tax revenues. A non-governmental 
provider cannot transfer or certify funds (except consistent with 
provider donation rules) under any circumstances. If a non-governmental 
provider receives appropriated funds or other payments from a unit of 
government, that unit of government may certify any expenditures made 
to that non-governmental provider that would qualify for FFP as an 
expenditure under the State plan. Tax revenue that has been 
contractually or otherwise obligated to a non-governmentally-operated 
health care provider for non-Medicaid services is not a permissible 
source of the non-Federal share of Medicaid payments under the statute. 
If a health care provider would forego revenues from that governmental 
unit, it would be a donation from that non-governmental provider. A 
Medicaid payment that can be linked to a provider-related donation 
renders such donation non-bona-fide and thus an impermissible source of 
the non-Federal share. This is consistent with section 1903(w)(6)(A) of 
the Act, which permits transferred funds from a local government to the 
State to be used for purposes of financing the non-Federal share of 
Medicaid payments, ``unless the transferred funds are derived by the 
unit of government from donations or taxes that would not otherwise be 
recognized as the non-Federal share.''
    52C. Comment: A number of commenters noted the regulation's 
preamble statement that in order for tax funding to be eligible as the 
non-Federal share, it cannot be committed or earmarked for non-Medicaid 
activities. One such commenter stated that State or local 
appropriations are not precisely related to Medicaid activities and 
that the applicable allotments of tax revenues are committed for 
defined purposes, such as public assistance programs that include 
``Medicaid and other activities'' or ``Medicaid and other needy 
individuals.'' This commenter observed that the Departmental Appeals 
Board recognizes the difference between expenditures for these items 
and the accounting entries that determine Medicaid expenditures 
eligible for FFP. Governmental appropriations are routinely committed 
or earmarked for the former, while FFP is applicable only to the 
latter. Another commenter feared that this preamble language was 
ambiguous because government funding can be ``earmarked'' for a purpose 
other than Medicaid that is actually consistent with the use of funds 
for Medicaid. Therefore, these commenters believe that this provision 
of the regulation requires clarification and more explanation about how 
it would be applied.
    52R. Response: In response to this comment, we clarify that our 
intent was that we would not recognize as units of government qualified 
to contribute non-federal share those entities with access to tax funds 
that were committed or earmarked solely for non-Medicaid activities (or 
to recognize contributions in excess of the amount of funding available 
for Medicaid activities). Our concern was to preclude arrangements 
where entities whose access to tax funding was limited to non-Medicaid 
activities ``borrow'' those funds to contribute the non-federal share 
of Medicaid expenditures and then ``repay'' those funds from Medicaid 
reimbursements (with the result that the remaining Medicaid funding is 
federal only). We did not intend to suggest that it would be a problem 
if Medicaid was one of several permissible uses for the tax funding.
    53C. Comment: One commenter disagreed with the part of the 
regulation which says that tax revenue that is contractually obligated 
between a governmental entity and a health care provider to provide 
indigent care is not considered a permissible source of the non-Federal 
share of funding for purposes of Medicaid payments. The commenter 
indicated that CMS should permit funding under an indigent care 
contract to be transferred by the local government to the State to draw 
down Federal matching funds for Medicaid payments.
    53R. Response: Local government tax dollars that are not 
contractually committed for the purpose of indigent care services or 
any other non-Medicaid activity can be directly transferred by the 
local government to a State as the non-Federal share of Medicaid 
payments. But when a non-governmental provider forgoes payment to which 
it is contractually entitled from a local government, it would be 
making a provider donation.
    54C. Comment: One commenter stated their understanding of section 
1903(w)(6)(A) of the Act to indicate that as long as the funds used by 
a governmental entity for the non-federal share of Medicaid payments 
issue from or originate from local taxes, they would fall under the 
type of funds that may not be restricted by CMS. The commenter 
disagreed with CMS' position in the provision of the regulation that 
the non-federal share of Medicaid payments must be funded by taxes. The 
commenter requested that CMS clarify that all of an entity's revenues, 
whether received as direct appropriations from its local taxing 
authority or derived from such appropriations, which help to pay for 
capital improvements, employees and other costs, are public funds and 
can be used as the non-federal share of Medicaid payments.
    54R. Response: We disagree. Section 1903(w)(6)(A) of the Act 
protects IGTs and CPEs only when ``derived from State or local taxes 
(or funds appropriated to a State university teaching hospital).'' This 
statutory clause would not be necessary if any governmental entity 
revenues could be used for protected transactions. When funds are 
received by a health care provider in the course of its normal 
operations, those funds are not ``derived from State or local taxes'' 
unless they

[[Page 29763]]

are tax funds or are funds appropriated by a government entity from tax 
revenues and paid for Medicaid services at the health care provider. 
Funds appropriated from tax revenues and paid for non-Medicaid services 
at the health care provider lose their characteristic as ``derived from 
State or local taxes'' and, to the extent unexpended on the designated 
non-Medicaid services, would be profits derived from the provision of 
those services.
    Such funds could not be used to contribute the non-Federal share of 
Medicaid expenditures because they are derived from the operations of 
the health care provider, rather than from State or local tax revenues. 
We recognize that funds received for specific costs, such as capital 
improvements or employee costs, may in part fund the costs of Medicaid 
services. These funds could be used to fund the non-Federal share to 
the extent that those specific costs may be properly allocated to 
Medicaid services, in accordance with the governmentally-operated 
health care provider's approved cost allocation plan. We also recognize 
that funds from different sources can be commingled in health care 
provider accounts. As a result, in this regulation we are not requiring 
that governmentally-operated health care providers trace funding 
precisely. We are requiring that, to qualify as a unit of government, 
the entity must have taxing authority or direct access to State or 
local tax funds in at least the amount of the IGT or CPE; and we are 
requiring that a health care provider retain the full amount of the 
total computable payment claimed by the State under the Medicaid State 
plan.

B. ``Tool to Evaluate the Governmental Status of Providers'' Form

    55C. Comment: Several commenters noted that the ``Tool to Evaluate 
the Governmental Status of Providers'' form does not include an 
indication of the final result on the form and recommended that the 
form include such a final determination.
    55R. Response: We agree and we have revised the form to include an 
indication of the State's determination of a health care provider's 
governmental status. * * *
    56C. Comment: A few commenters noted that the ``Tool to Evaluate 
the Governmental Status of Providers'' form would need to be completed 
and submitted by all purportedly governmental providers in America 
within three months of the effective date of the regulation and 
suggested that CMS will not have the resources to review all these 
submissions and determine whether or not each health care provider is a 
``unit of government'' in a timely manner. Concern was expressed that 
delays by CMS in reaching a decision about whether or not entities are 
governmental may impede provider reimbursements.
    56R. Response: In this final rule, we are providing that States 
must apply the statutory and regulatory criteria to each individual 
health care provider to make initial determinations of governmental 
status. As we indicated in the proposed rule, we have developed a 
``Tool to Evaluate the Governmental Status of Health Care Providers.'' 
In response to comments on this rule, we have modified that form to 
allow States to indicate their initial determination of a health care 
provider's governmental status.
    States must apply the statutory and regulatory criteria to each 
individual health care provider to make initial determinations of 
governmental status. We have modified the ``Tool to Evaluate the 
Governmental Status of Health Care Providers'' to allow States to 
indicate their initial determination of a health care provider's 
governmental status.
    States will be required to maintain these determinations on file 
and will be required to submit these forms to CMS upon request, in 
connection with CMS review of Medicaid institutional and non-
institutional reimbursement State plan amendments involving 
governmental providers and with Medicaid or SCHIP financial management 
reviews. In addition, we intend to request, under our general authority 
to require supporting documentation for claimed expenditures, and the 
existing regulatory authority at 42 CFR Sec.  431.16, that States 
submit a complete list of governmentally-operated health care providers 
to the Associate Regional Administrator for Medicaid of each State's 
respective CMS Regional Office with the first quarterly expenditure 
report due after 90 days of the effective date of the regulation.
    CMS is not requiring States to complete the ``Tool to Evaluate the 
Governmental Status of Health care Providers'' form for each Indian 
tribe and tribal organization within the State, because the unique 
criteria for determining the governmental status of tribes and tribal 
organizations makes the tool inapplicable to these entities. However, 
CMS will require each State to identify the qualifying tribes and 
tribal organizations (per the criteria at Sec.  433.50) in any list of 
governmentally-operated health care providers submitted to CMS. 
Although tribal facilities are exempt from the Medicaid cost limit, the 
inclusion of tribes and tribal organizations in this list will 
comprehensively identify the universe of entities that have been 
determined by the State as eligible to participate in financing the 
non-Federal share of Medicaid payments.
    57C. Comment: A number of commenters asked for more details 
concerning CMS actions upon receipt of the ``Tool to Evaluate the 
Governmental Status of Providers'' form. Specifically, the commenters 
wanted more information on the timeframes for CMS decisions; how CMS 
will notify States of a determination; means for amending information 
previously provided; and avenues for appeal when States, local 
governments, or health care providers disagree with the decision as to 
whether or not a health care provider is found to be a unit of 
government.
    57R. Response: As discussed above, in response to comments, we have 
provided in the final rule that States must apply the statutory and 
regulatory criteria to each individual health care provider to make 
initial determinations of governmental status. We have modified the 
``Tool to Evaluate the Governmental Status of Health Care Providers'' 
to allow States to indicate their initial determination of a health 
care provider's governmental status. States may develop reasonable 
determination, notice and appeal processes for health care providers 
affected by State determinations as they deem appropriate. If CMS 
disagrees with a State's initial determination of governmental status, 
CMS intends to request a timely change in the State's determination 
prior to pursuing any other measures including, but not limited to, 
denial of Medicaid reimbursement SPAs and/or disallowances of claims 
for Federal financial participation. States can appeal such actions 
through existing appeal processes.
    58C. Comment: Multiple commenters commented on the administrative 
burden associated with completion of the ``Tool to Evaluate the 
Governmental Status of Providers'' form. These commenters stated that 
for some health care providers, completion of the form may require 
extensive legal research and analysis because of the potential for 
complicated legal implications. These commenters contend that the 
burden associated with completing the form is disproportionate to the 
form's utility, especially since it is not clear how CMS will 
ultimately use the form to determine governmental status.
    58R. Response: The ``Tool to Evaluate the Governmental Status of 
Health Care

[[Page 29764]]

Providers'' is designed to guide State decision making in applying the 
statutory and regulatory criteria regarding the definition of a unit of 
government. The provisions of the regulation were designed to ensure 
consistent application of the Federal statutory instructions regarding 
the definition of a unit of government. CMS recognizes that for 
purposes of Medicaid State financing legal and financial arrangements 
between health care providers and units of government vary on a case by 
case basis. We have developed standardized and impartial regulatory 
criteria based upon the Federal statute, which States must apply on a 
consistent basis to each health care provider within the State.
    CMS does not believe the information required in the form requires 
the extensive, legal research and analysis as the commenters suggest. 
CMS has the responsibility to ensure that the State's initial 
determinations are consistent with the Federal statutory and regulatory 
criteria and reserves the right to take any appropriate action 
including, but not limited to denial of Medicaid reimbursement State 
plan amendments and/or disallowances of claims for Federal financial 
participation, in the event of noncompliance with any provision of this 
regulation. States can appeal such actions through existing appeals 
processes.
    59C. Comment: One commenter recommended that instead of using the 
form, CMS require certifications and assurances from health care 
providers and State and local governments regarding their governmental 
status.
    59R. Response: We do not believe that certifications and assurances 
are adequate in determining compliance with Federal statutory and 
regulatory provisions regarding the unit of government definition.
    60C. Comment: One commenter argued that the Federal government 
should fund 100% of all costs associated with any mandate involving the 
completion of the questionnaire or submission of such information to 
CMS.
    60R. Response: Each State is responsible for the proper and 
efficient administration of its Medicaid program. Expenses incurred for 
administration of the Medicaid program are eligible for Federal 
matching funds at the regular 50 percent administrative matching rate.
    61C. Comment: A number of commenters asserted that the ``Tool to 
Evaluate the Governmental Status of Providers'' form is unnecessary 
because CMS should defer to States and local governments to define 
which entities are units of government for purposes of Medicaid 
financing, based on arguments such as statutory authority, principles 
of federalism, and marketplace incentives.
    61R. Response: The ``Tool to Evaluate the Governmental Status of 
Health Care Providers'' is designed to guide State decision making in 
applying the statutory and regulatory criteria regarding the definition 
of a unit of government. The provisions of the regulation were designed 
to ensure consistent application of the Federal statutory instructions 
regarding the definition of a unit of government for purposes of 
Medicaid reimbursement and State financing. CMS recognizes that States 
play a major role in the administration of the Medicaid program and 
that legal and financial arrangements between health care providers and 
units of government vary on a case by case basis. We have developed 
standardized and impartial regulatory criteria based upon Federal 
statute that States must apply on a consistent basis to each health 
care provider within the State.
    We considered the possibility of deferring to State determinations 
but we concluded that it was important for effective oversight review 
to receive standardized information and establish a clear, uniform and 
enforceable standard.
    We believe the form will be useful to States which will have to 
apply the statutory and regulatory criteria to each individual health 
care provider to make initial determinations of governmental status. 
CMS has the responsibility to ensure that the State's initial 
determinations are consistent with the Federal statutory and regulatory 
criteria and reserves the right to take any appropriate action 
including, but not limited to, denial of Medicaid reimbursement State 
plan amendments and/or disallowances of claims for Federal financial 
participation, in the event of noncompliance with any provision of this 
regulation.
    62C. Comment: One commenter asked CMS for more written guidance on 
the use of this form when the final regulation is published. 
Specifically, the commenter asked who is responsible for completing the 
form and what, if any, supporting documentation is required. Moreover, 
the commenter noticed that the form does not, in its current format, 
require an official signature.
    62R. Response: States must apply the statutory and regulatory 
criteria to each individual health care provider to make initial 
determinations of governmental status. We have modified the ``Tool to 
Evaluate the Governmental Status of Health Care Providers'' to require 
that an appropriate State official sign the State's initial 
determination regarding the governmental status of a health care 
provider. The State official that will be responsible for signing the 
form will be a decision of the State. Further, the State will determine 
what supporting documentation may be necessary on a case-by-case basis 
in support of its initial determination of a health care provider's 
governmental status.
    63C. Comment: A number of commenters noted that the provisions of 
the regulation suggest that a health care provider may be considered a 
unit of government if the health care provider appears on the unit of 
government's consolidated annual financial report. Likewise, the 
commenters observed, the provisions of the regulation mention a unit of 
government's liability for a health care provider's expenses, 
liabilities, and deficits in order for the health care provider to be 
considered a unit of government. However, it is not clear that 
responses to questions presented on the tool will lead to a final 
determination as to whether or not a particular entity is considered a 
unit of government as per the provisions of the regulation. Therefore, 
the commenters find a ``disconnect'' between the provisions of the 
regulation and the ``Tool to Evaluate the Governmental Status of 
Providers'' form. This disconnect was viewed as creating problems when 
States attempt to evaluate whether or not they can rely upon IGTs or 
CPEs from a particular health care provider in the future, and it may 
also contribute to unnecessary and protracted litigation of an 
apparently arbitrary determination by CMS about the governmental status 
of a health care provider.
    63R. Response: States must apply the statutory and regulatory 
criteria to each individual health care provider to make initial 
determinations of governmental status. We designed the ``Tool to 
Evaluate the Governmental Status of Health Care Providers'' to set up a 
process to collect and maintain information necessary for such 
determinations. We believe the form fully reflects the statutory and 
regulatory criteria necessary for States to make initial determinations 
of governmental status.
    We have modified the form to allow States to indicate their initial 
determination of a health care provider's governmental status. We 
understand that there will be challenges in implementing the 
determination process. As States apply the statutory and regulatory 
criteria, CMS will exercise oversight review and will issue guidance on 
the implementation of the

[[Page 29765]]

statutory and regulatory criteria if warranted.
    64C. Comment: One commenter asked CMS to provide instructions and/
or direction for the preparation and submission of the form to assist 
the State in analyzing the complex financial and organizational 
relationships which exist in the varied governmental units within the 
State. The commenter suggests that CMS provide the criteria and 
direction for the States to determine that a health care provider is 
unit of government with the provision that CMS may review or audit the 
State's determination.
    64R. Response: The ``Tool to Evaluate the Governmental Status of 
Health Care Providers'' is designed to guide State decision making in 
applying the statutory and regulatory criteria regarding the definition 
of a unit of government. The provisions of the regulation were designed 
to ensure consistent application of the Federal statutory instructions 
regarding the definition of a unit of government. CMS recognizes that 
for purposes of Medicaid State financing legal and financial 
arrangements between health care providers and units of government vary 
on a case by case basis. We have developed standardized and impartial 
regulatory criteria based upon the Federal statute, which States must 
apply on a consistent basis to each health care provider within the 
State. CMS believes the form fully reflects the statutory and 
regulatory criteria necessary for States to make initial determinations 
of governmental status.
    We understand that there will be challenges in implementing the 
determination process. As States apply the statutory and regulatory 
criteria, CMS will exercise oversight review and will issue guidance on 
the implementation of the statutory and regulatory criteria if 
warranted.
    65C. Comment: Multiple commenters inquired specifically about the 
State Medicaid agency's responsibility for identifying a health care 
provider as governmentally operated. If the provider has not identified 
itself as a governmental health care provider, must the State Medicaid 
agency establish procedures to make such an identification?
    65R. Response: It is the State's responsibility to make initial 
determinations regarding the governmental status of each health care 
provider. The ``Tool to Evaluate the Governmental Status of Providers'' 
form has been modified to reflect the State's initial determination, 
and a signature line to be signed by an appropriate State official has 
been added. States may develop procedures to facilitate the 
identification of a governmentally-operated health care provider and 
include appeals processes for health care providers affected by State 
determinations.
    66C. Comment: One commenter observed that CMS has collected 
information about the governmental status of health care providers in 
the past and stated that based on information previously obtained by 
CMS, the ``Tool to Evaluate the Governmental Status of Providers'' form 
is unnecessary and wasteful.
    66R. Response: It is unclear as to what information was previously 
provided to CMS regarding governmental status of health care providers. 
The ``Tool to Evaluate the Governmental Status of Health Care 
Providers'' is designed to guide State decision making in applying the 
statutory and regulatory criteria regarding the definition of a unit of 
government. The provisions of the regulation were designed to ensure 
consistent application of the Federal statutory instructions regarding 
the definition of a unit of government. We have developed standardized 
and impartial regulatory criteria based upon Federal statute that 
States must apply on a consistent basis to each health care provider 
within the State.
    CMS has the responsibility to ensure that the initial 
determinations are consistent with the Federal statutory and regulatory 
criteria and reserves the right to take any appropriate action 
including, but not limited to, denial of Medicaid reimbursement State 
plan amendments and/or disallowances of claims for Federal financial 
participation, in the event of noncompliance with any provision of this 
regulation.
    67C. Comment: One commenter noted that the questionnaire ``Tool to 
Evaluate the Governmental Status of Providers'' form would need to be 
completed and submitted by all school districts in America within three 
months of the effective date of the regulation and suggested that CMS 
will not have the resources to review all these submissions and 
determine whether or not each school district is a ``unit of 
government'' in a timely manner. The commenter believes it is obvious 
that school districts are governmental and should therefore be exempt 
from the requirement to complete the questionnaire.
    67R. Response: States must apply the statutory and regulatory 
criteria to each individual health care provider to make initial 
determinations of governmental status. We have modified the ``Tool to 
Evaluate the Governmental Status of Health Care Providers'' to allow 
States to indicate their initial determination of a health care 
provider's governmental status.
    States will be required to maintain these determinations on file 
and will be required to submit these forms to CMS upon request, in 
connection with CMS review of Medicaid institutional and non-
institutional reimbursement State plan amendments involving 
governmental providers and with Medicaid or SCHIP financial management 
reviews.

C. Funds From Units of Government as the State Share of Financial 
Participation (Sec.  433.51)

1. Intergovernmental Transfers (IGTs)
    68C. Comment: One commenter suggested that Congress intended that 
section 1903(w)(7)(G), which defines the term ``unit of local 
government,'' was only applicable to section 1903(w)(1)(A) of the Act, 
and was not applicable to section 1903(w)(6)(A) of the Act. The writer 
noted the absence of the word ``local'' in section 1903(w)(6)(A) and 
suggested that such an omission was deliberate because Congress meant 
something different in this Section. Specifically, the commenter 
claimed that Congress used the narrower term ``unit of local 
government'' to define those government entities subject to the 
prohibition on provider donations and taxes (1903(w)(1)(A)), but 
recognized that other government entities may permissibly make IGTs, 
and thus purposely used the broader and different term ``unit of 
government'' in the IGT section of the statute (1903(w)(6)(A)). 
Therefore, the writer suggests, CMS is misguided in applying the 
statute's ``unit of local government'' reference to section 
1903(w)(6)(A) of the Act.
    68R. Response: As discussed previously, we are attempting to 
interpret the statutory references and definitions of governmental 
entities to ensure uniformity and consistency. We agree that we could 
have adopted different operational definitions for different purposes, 
but we concluded that such an approach would be confusing and was 
unnecessary. Our reading requires certain common qualities, one of 
which is taxing authority, or the ability to directly access tax 
funding. As noted above, we read the statutory language at section 
1903(w)(7)(G) of the Act to refer to entities that have the qualities 
generally associated with the specifically identified listed terms. One 
of those qualities, which is referenced in the governmental exception 
at section

[[Page 29766]]

1903(w)(6)(A) of the Act, is taxing authority or the ability to 
directly access tax funding. Even though sections 1903(w)(6)(A) and 
1903(w)(7)(G) of the Act are not directly binding for all statutory 
purposes, we sought a definition that would be consistent with readings 
of both statutory provisions.
    69C. Comment: One commenter quoted prior CMS statements from 
regulations published in 2001 and 2002, wherein CMS did not take 
regulatory action with respect to intergovernmental transfers, 
suggesting that CMS is now not only contradicting itself but also 
imposing restrictions on IGTs that Congress never intended.
    69R. Response: The provisions of this regulation continue to 
protect the use of IGTs; the regulation merely sets out in clear terms 
the circumstances in which the provisions of section 1903(w)(6)(A) of 
the Act provides that an IGT from a governmentally-operated health care 
provider would not trigger review as a provider tax or donation. This 
regulation supersedes prior CMS statements on the issue and would 
provide important clarity in an area that has been the subject of much 
confusion. Furthermore, we disagree with the commenters' contention 
concerning congressional intent. In section 1903(w)(6)(A) of the Act, 
the Medicaid statute clearly protects only IGTs or certified public 
expenditures that are ``derived from State or local taxes (or funds 
appropriated to State university teaching hospitals) transferred or 
certified by units of government within a state.'' To the extent that 
the provisions of this regulation impose restrictions on IGTs, such 
restrictions are consistent with this statutory provision and serve to 
clarify and give meaning to the statutory language.
    70C. Comment: Many commenters stated that the provisions of the 
regulation require sources of all IGTs must be state or local taxes and 
that such a restriction on IGT funding is inconsistent with the 
Medicaid statute. These commenters noted that governments derive their 
funding from a variety of sources, not just tax proceeds, and such 
funds are no less governmental due to their source. Some of the non-tax 
sources of governmental revenue that were cited include patient care 
revenues from other third party payers, penalties, fees, grants, earned 
interest, library fines, restaurant inspection fees, vending machine 
sales, traffic fines, unreserved general fund balances, sale or lease 
of public resources, legal settlements and judgments, revenue from bond 
issuances, tobacco settlement funds, and gifts. These commenters 
suggested that CMS should allow all public funding, regardless of 
source, to be used as the non-Federal share of Medicaid expenditures. A 
number of commenters cited Section 1902(a)(2) of the Act, which permits 
up to 60 percent of the non-Federal share to come from ``local 
sources,'' without further restriction. This citation was given to 
counter a perceived CMS position that the provisions of the regulation 
require that the sources of all IGTs must be state or local taxes. 
Several other commenters suggested that CMS should allow all public 
funding, regardless of source, to be used as the non-Federal share of 
Medicaid expenditures, and that CMS has no statutory authority to limit 
the sources of transferred funds to tax revenue only.
    70R. Response: Provisions regarding non-federal share financing 
were established in recognition of the Federal Medicaid statute at 
section 1903(w), which places severe statutory restriction on States' 
receipt of funds from health care providers to fund Medicaid payments. 
(see Public Law 102-234, section 2, Prohibition on Use of Voluntary 
Contributions, and Limitation on the Use of Provider-Specific Taxes to 
Obtain Financial Participation under Medicaid.''). Under Public Law 
102-234, the Congress included an exception to a general prohibition on 
the receipt of voluntary contributions from health care providers by 
allowing units of government, including governmentally-operated health 
care providers, to participate in financing of the non-Federal share 
via intergovernmental transfers and certified public expenditures. 
Specifically, section 1903(w)(6)(A) of the Social Security Act states:

    Notwithstanding the provisions of this subsection, the Secretary 
may not restrict States' use of funds where such funds are derived 
from State or local taxes (or funds appropriated to State university 
teaching hospitals) transferred from or certified by units of 
government within a State as the non-Federal share of expenditures 
under this title, regardless of whether the unit of government is 
also a health care provider, except as provided in section 
1902(a)(2), unless the transferred funds are derived by the unit of 
government from donations or taxes that would not otherwise be 
recognized as the no-Federal share under this section.

This statutory language allows funding derived from State or local 
taxes to be used for purposes of financing the non-Federal share of 
Medicaid payments. CMS recognizes that units of government that are not 
health care providers may collect revenue from a variety of sources 
(including fees, grants, earned interest, fines, sale or lease of 
public resources, legal settlements and judgments, revenue from bond 
issuances, tobacco settlement funds) that are ultimately deposited into 
the government's general fund, which is used to finance the 
government's operations. We find such general fund revenues to be 
acceptable sources of financing the non-Federal share of Medicaid 
payments, as long as the general fund does not derive any of its 
revenue from impermissible sources (such as, ``recycled'' Medicaid 
payments, Federal grants precluded from use as State match, 
impermissible taxes, non-bona fide provider-related donations).
    Governmentally-operated health care providers may maintain accounts 
separate from the general fund to finance the operations of the 
governmentally-operated health care provider. The governmentally-
operated health care provider's account may include patient care 
revenues from other third party payers and other revenues similar to 
those listed above. Such revenues would also be acceptable sources of 
financing the non-Federal share of Medicaid payments, as long as the 
governmentally-operated health care provider's operating account does 
not derive any of its revenue from impermissible sources (such as, 
``recycled'' Medicaid payments, Federal grants precluded from use as 
State match, impermissible taxes, non-bona fide provider-related 
donations).
    As previously explained, governmentally-operated health care 
providers are not required to demonstrate that funds transferred are, 
in fact, tax revenues. A governmentally-operated health care provider 
is always able to access tax revenue, a characteristic of which 
reflects a health care provider's governmental status, and helps to 
define eligibility to participate in IGTs.
    71C. Comment: A number of commenters asked CMS to clarify that 
intragovernmental transfers (transfers within a unit of government, 
such as a transfer from the State's mental health agency to the State 
Medicaid Agency) are not considered ``intergovernmental transfers'' for 
purposes of Sec.  433.51.
    71R. Response: Neither the Medicaid statute nor Federal regulation 
uses the term ``intragovernmental transfer.'' For purposes of the 
Medicaid statute, a transfer of funding between any governmental entity 
within a State to the State Medicaid Agency is considered an 
intergovernmental transfer, irrespective of whether or not those 
entities are operated by the same unit of government (e.g., a State 
Department of Mental Health

[[Page 29767]]

transferring funds to a State Medicaid agency).
    72C. Comment: One commenter recommended that CMS permit IGTs from 
units of government in other States (like governmentally operated 
border hospitals) to be considered permissible sources of financing the 
non-Federal share. The commenter argues that it is illogical that 
States are required to reimburse such out-of-state health care 
providers the same as in-state health care providers but cannot rely 
upon those out-of-state governmental health care providers for 
assistance with financing.
    72R. Response: A governmentally-operated health care provider in 
one State is not under the governmental control of another State. 
Therefore, funds transferred by a governmentally-operated health care 
provider to a State Medicaid Agency in another State are considered 
provider-related donations. See Georgia Department of Community Health, 
DAB No. 1973 (2005).
    73C. Comment: One commenter asked that the regulation explicitly 
state the local dollars will be considered valid IGTs if they 
originated at a unit of government, regardless of the entity that 
actually transfers the payment to the State. This commenter 
specifically mentions Medicaid Behavioral Health Plans, which receive 
payments from local governments and, in turn, forward those payments to 
the State Medicaid Agency as matching funds to pay for the non-Federal 
share. Another commenter requested that CMS allow any payments made to 
health care providers by governmental entities responsible for 
providing health care services to be used as IGTs.
    73R. Response: Any time state or local tax dollars are used to make 
``payments'' for services to health care providers, such payments are 
considered revenues of the health care provider and are no longer 
considered State or local tax dollars. Governmentally-operated health 
care providers may participate in intergovernmental transfers (IGTs) 
and use operating revenues to make such transfers. Non-governmentally-
operated health care providers cannot participate in IGTs, and 
contributions of their operating revenue constitutes a provider-related 
donation. A Medicaid payment that can be linked to a provider-related 
donation renders such donation non-bona fide and thus an impermissible 
source of the non-Federal share.
    74C. Comment: Several commenters noted past abuses involving 
intergovernmental transfers and expressed support for CMS efforts to 
end such abusive practices. However, the commenters contended that the 
provisions of the regulation reach too far, beyond the termination of 
abusive IGTs, and have the impact of drawing millions of Federal funds 
away from health care providers and States that were not ``recycling'' 
Federal funds through IGTs.
    74R. Response: The provision of the regulation that addresses a 
unit of government codifies the existing statutory criteria for a unit 
of government that can participate in financing the non-federal share 
of Medicaid expenditures. This codification of existing Federal statute 
was established in an effort to assist States in identifying the 
universe of governmentally-operated health care providers that could 
receive Medicaid revenues up to the full cost of providing services to 
Medicaid individuals and clarifies which types of health care providers 
can participate in financing of the non-Federal share of Medicaid 
payments.
    A health care provider that is not recognized as governmentally-
operated under the Federal statutory and regulatory criteria would not 
be affected by the cost limitation on Medicaid payments. Therefore, 
such health care providers may receive Medicaid payments up to the 
applicable regulatory upper payment limit, to the extent States use 
permissible sources of non-federal share funding to make such payments. 
Furthermore, a health care provider that is not recognized as 
governmentally-operated by a State when applying the statutory criteria 
would not be subjected to non-federal share obligations under a State's 
Medicaid program. For any health care provider previously obligated to 
fund certain Medicaid payments, total Medicaid revenues to that 
facility can be sustained through alternative permissible sources of 
non-federal share funding. Health care providers determined to be 
ineligible to participate in the State financing of Medicaid payments 
can actually realize greater net Medicaid revenues if State or local 
government funding sources are utilized to fund non-federal share 
obligations to Medicaid payments that may have been historically 
financed by non-governmentally-operated health care providers.
    75C. Comment: One commenter requested that CMS allow the use of 
IGTs to finance payments for categorical Medicaid payments. The 
commenter also requested that CMS confirm the use of IGTs to finance 
Medicaid payments approved in the State plan.
    75R. Response: Intergovernmental transfers, consistent with 
statutory and regulatory provisions, are an allowable source of 
Medicaid financing for any payment authorized under the Medicaid State 
plan.
    76C. Comment: One commenter noted that it will be administratively 
burdensome to have all school districts within the state demonstrate 
that their intergovernmental transfers are paid from tax revenues. In 
addition, the commenter states that the process of collecting the State 
match from each school district before the district's claims are paid 
cannot be implemented without significant changes to the State's MMIS, 
which would be a massive undertaking.
    76R. Response: CMS recognizes that units of government may collect 
revenue from a variety of sources (including fees, grants, earned 
interest, fines, sale or lease of public resources, legal settlements 
and judgments, revenue from bond issuances, tobacco settlement funds) 
that are ultimately deposited into the government's general fund, which 
is used to finance the government's operations. Generally, we find such 
revenues to be acceptable sources of financing the non-Federal share of 
Medicaid payments, as long as the unit of government does not attempt 
to finance Medicaid payments using revenue from impermissible sources 
(such as, ``recycled'' Medicaid payments, Federal grants precluded from 
use as State match, impermissible taxes, non-bona fide provider-related 
donations).
    Funds may be transferred by units of government that are not health 
care providers to the State Medicaid agency either before or after the 
payment to the provider is made, provided that the requirements of 
Sec.  447.207 are satisfied. A principal concern in evaluating 
compliance with Sec.  447.207 will be the determination as to whether 
or not the funding obligation to the non-Federal share of Medicaid 
payments has been fully satisfied by the State or local government. 
IGTs from a local or other State Agency unit of government's general 
fund may be considered a permissible source of the non-Federal share of 
Medicaid payments when: (1) Monies from the general fund are 
transferred to the State Medicaid agency; (2) such monies are used to 
fund the non-Federal share of Medicaid payments to the governmentally-
operated health care provider; (3) the health care provider deposits 
such Medicaid payments into its operating account (a governmentally-
operated health care provider will always maintain an operating account 
that is separate from the general fund managed by the corresponding 
unit of

[[Page 29768]]

government); and (4) no portion of Medicaid payments deposited into the 
operating account is sent back to the general fund to replenish the 
loss of funds resulting from the IGT. These conditions would 
demonstrate that the burden of the non-Federal share of the Medicaid 
payment was satisfied by the local government or other State Agency.
    Governmentally-operated health care providers may only transfer 
prior to receiving a Medicaid payment to ensure funds were actually 
available to the governmentally-operated health care provider to 
satisfy the non-Federal share obligation to the Medicaid payment it 
receives. To permit non-Federal share transfer obligations made by a 
governmentally-operated health care provider after the Medicaid payment 
is received would allow a Medicaid Agency to ``loan'' the non-Federal 
share obligation to the governmentally-operated health care provider. 
Upon receipt of the Medicaid payment, the governmentally-operated 
health care provider would be able to ``return'' the ``loan'' to the 
Medicaid Agency via its non-Federal share transfer obligation. The end 
result of such a post-payment IGT would be that a State is able to 
direct Federal matching funds into a governmentally-operated health 
care provider without any unit of government satisfying the non-Federal 
share obligation. The State could then use the same funds to make 
additional Medicaid payments and attract new Federal matching funds.
2. Certified Public Expenditures (CPE)
    77C. Comment: Two commenters expressed that ``only hospitals that 
meet the new definition of public hospital and are reimbursed on a cost 
basis would be eligible to use CPEs to help states fund their 
programs,'' claiming that this would result in fewer dollars available 
to pay for care for the nation's most vulnerable people.
    77R. Response: There is no new definition of a public hospital 
under the provisions of this regulation. The Federal Medicaid statute 
does not include a term nor discussion that references a ``public'' 
health care provider for purposes of State Medicaid financing. The 
Federal Medicaid statute at section 1903(w) of the Act places severe 
statutory restriction on States' receipt of funds from health care 
providers to fund Medicaid payments. This section of the statute 
includes an exception to the general prohibition on the receipt of 
voluntary contributions from health care providers by allowing units of 
government, including governmentally-operated health care providers, to 
participate in the certified public expenditure process.
    The provision of the regulation regarding certified public 
expenditures is a clarification to existing Federal statutory 
instruction at 1903(w)(6)(A). Consistent with this explicit statutory 
instruction, a certified public expenditure means that State or local 
tax dollars were used to satisfy the cost of serving Medicaid 
individuals (and the cost of providing inpatient and outpatient 
hospital services to the uninsured for purposes of Medicaid DSH 
payments).
    Under the provisions of the regulation, all health care providers 
maintain some level of ability to participate in the certified public 
expenditure (CPE) process. Governmentally-operated health care 
providers are able to certify their costs without having to demonstrate 
that State or local tax dollars were used to provide Medicaid services. 
This policy is based on the fact that governmentally-operated health 
care providers always have the ability to directly access State and/or 
local tax dollars as an integral component of State or local 
government. Governmentally-operated health care providers need only 
produce cost documentation via national, standardized cost reporting to 
receive Federal matching funds as a percentage of such allowable 
Medicaid (and DSH) costs.
    Non-governmentally-operated health care providers may also produce 
cost documentation to support the costs of providing services to 
Medicaid individuals (and certain uninsured costs for purposes of 
Medicaid DSH payments). However, in order to maintain consistency with 
the Federal statutory instruction governing CPEs, a State or local 
government must actually certify that tax dollars were provided to the 
non-governmentally-operated health care provider. Federal matching 
funds will be available as a percentage of the allowable Medicaid costs 
incurred by the non-governmentally-operated health care provider up to 
the level of such State and/or local tax support.
    78C. Comment: A number of commenters opined that when a public 
entity is contractually obligated to reimburse private faculty 
physicians, which are in turn obligated to provide services to the 
public entity's patients, those public payments should qualify as CPEs. 
However, the commenters stated a belief that it was unclear what, if 
any, expenditures by public entities qualify as CPEs, and that the 
required documentation and approval process for such CPEs appear 
arbitrary. The commenters thus recommended that CMS should defer to the 
services and payment methodologies approved in the Medicaid State Plan 
and that however the public entity pays the health care provider should 
qualify as a CPE.
    78R. Response: The Federal Medicaid statute does not include a term 
nor discussion that references a ``public'' health care provider for 
purposes of State Medicaid financing. The Federal Medicaid statute at 
section 1903(w) places severe statutory restriction on States' receipt 
of funds from health care providers to fund Medicaid payments. This 
section of the statute includes an exception to the general prohibition 
on the receipt of voluntary contributions from health care providers by 
allowing units of government, including governmentally-operated health 
care providers, to participate in the certified public expenditure 
process.
    The options available to a unit of government for purposes of 
compliance with the CPE provisions of the regulation depend on whether 
or not the unit of government is the provider of the service. A 
governmental entity that is not a health care provider and that pays 
for a covered Medicaid service furnished by a health care provider 
(whether governmentally-operated or not) can certify its actual 
expenditure in an amount equal to the Medicaid State plan rate (or the 
approved provisions of a waiver or demonstration, if applicable) for 
the service. In this case, the CPE would represent the expenditure by 
the governmental unit to the service provider on behalf of the State 
Medicaid agency(and would not necessarily be related to the actual cost 
to the health care provider for providing the service).
    If the unit of government is the health care provider, then it may 
generate a CPE from its own costs if the Medicaid State plan (or the 
approved provisions of a waiver or demonstration, if applicable) 
contains cost reimbursement methodology. If this is the case, the 
governmentally-operated health care provider may certify the costs that 
it actually incurred that would be reimbursed under the Medicaid State 
plan. If the Medicaid State plan does not contain an actual cost 
reimbursement methodology, then the governmentally-operated health care 
provider may not use a CPE because it would not be able to establish an 
expenditure under the authority of the Medicaid State plan. This is 
consistent with the requirements of 45 CFR 95.13, where there was no 
cost incurred that would be recognized under the Medicaid State plan. A 
governmentally-operated health care provider cannot establish an 
expenditure under the Medicaid State

[[Page 29769]]

plan by asserting that it would pay itself the Medicaid State plan 
rate.
    79C. Comment: Several commenters stated that they thought the 
burden associated with documenting certified public expenditures under 
the proposed regulation is excessive. This view was emphasized for 
expenditures eligible for FFP which are not currently subject to cost 
reporting.
    79R. Response: The documentation requirements for CPEs are 
necessary and appropriate. We have examined CPE arrangements in many 
States that include various service categories within the Medicaid 
program. We note that currently there are a variety of practices used 
by State and local governments in submitting a CPE as the basis of 
matching FFP for the provision of Medicaid services with little to no 
State oversight. Different practices often make it difficult to (1) 
Align claimed expenditures with specific services covered under the 
State plan or identifiable administrative activities; (2) properly 
identify the actual cost to the governmental entity of providing 
services to Medicaid individuals or performing administrative 
activities; and (3) audit and review Medicaid claims to ensure that 
Medicaid payments are appropriately made.
    Further, we found that in many instances State Medicaid agencies do 
not currently review the CPE submitted by another unit of government to 
confirm that the CPE properly reflects the actual expenditure by the 
unit of government for providing Medicaid services or performing 
administrative activities. These circumstances do not serve to advance 
or promote the fiscal integrity of the Medicaid program. By 
establishing minimum standards for the documentation supporting CPEs, 
we anticipate that the provisions of this regulation would serve to 
enhance the fiscal integrity of CPE practices within the Medicaid 
program.
    The provision of the regulation regarding certified public 
expenditures is also a clarification to existing Federal statutory 
instruction at 1903(w)(6)(A). Consistent with this explicit statutory 
instruction, a certified public expenditure means that State or local 
tax dollars were used to satisfy the cost of serving Medicaid 
individuals (and the cost of providing inpatient and outpatient 
hospital services to the uninsured for purposes of Medicaid DSH 
payments). It is not clear what method other than identification of the 
cost of providing services to Medicaid individuals (and certain 
uninsured costs for purposes of Medicaid DSH payments) would be 
appropriate to make Federal matching funds available for purposes of 
health care providers certifying public expenditures.
    The cost documentation process is necessary to demonstrate the 
services that have been provided to Medicaid individuals. The burden 
associated with cost reporting for hospitals and nursing facilities 
should be minimal because nationally recognized cost reports are 
already utilized by these health care providers. For non-hospital and 
non-nursing facility services in Medicaid, we note that a nationally 
recognized, standard cost report does not exist. Because of this, we 
are publishing a standardized cost reporting form that can be used to 
document the costs of providing non-institutional services to Medicaid 
individuals. The purpose of this standardized form is to minimize the 
burden associated with the review of expenditures for non-institutional 
services provided to Medicaid individuals.
    CMS has developed a general Medicaid Cost Reporting Protocol 
available on the CMS Web site at http://www.cms.hhs.gov/MedicaidGenInfo/Downloads/Cost Limits Regulation CMS-2258-FC.zip that 
specifically addresses methods under which institutional and non-
institutional Medicaid costs will be determined for purposes of CPEs.
    80C. Comment: One commenter asked if the State's obligation to 
demonstrate that a certifying entity is a unit of government, is a one-
time obligation, or must the State so certify to support each and every 
CPE.
    80R. Response: Section 433.51(b)(2) requires that ``certified 
public expenditures must be * * * supported by auditable documentation 
* * * that explains whether the contributing unit of government is 
within the scope of the exception to limitations on provider-related 
taxes and donations.'' Therefore, the unit of government must attest to 
its governmental status and produce the necessary cost documentation 
for each CPE submitted to the Medicaid Agency, on which Federal 
matching funds would be claimed. States will have governmentally-
operated health care provider determinations on file to verify the 
governmental status of the certifying health care provider.
    A governmental entity that is not a health care provider which pays 
for a covered Medicaid service furnished by a health care provider 
(whether governmentally-operated or not) can certify its actual 
expenditure, in an amount equal to the Medicaid State plan rate (or the 
approved provisions of a waiver or demonstration, if applicable) for 
the service. In this case, the CPE would represent the expenditure by 
the governmental unit to the service provider (and would not 
necessarily be related to the actual cost to the health care provider 
for providing the service) on behalf of the State Medicaid agency. The 
governmental entity that is not a health care provider must submit a 
certification statement to the State Medicaid agency attesting that the 
total computable amount of its claimed expenditures are eligible for 
FFP, in accordance with the Medicaid State plan and the revised 
provisions of Sec.  433.51. That certification must be submitted and 
used as the basis for a State claim for FFP within 2 years from the 
date of the expenditure.
    81C. Comment: One commenter expressed concern about a statement in 
the preamble that ``certification must be submitted and used as the 
basis for a State claim for FFP within two years from the date of 
expenditure,'' claiming that the Medicaid statute does not presently 
impose such a two-year limit.
    81R. Response: A CPE means that State or local tax dollars were 
used to satisfy the costs of providing services to Medicaid 
individuals. Federal matching funds are available as a percentage of 
such costs, incurred or rates paid under the authority of the Medicaid 
State plan, in recognition that a unit of government has satisfied the 
Medicaid payment in full (that is, both State and Federal share) for 
services provided to Medicaid individuals.
    The statement within the preamble of the regulation was included to 
ensure compliance with section 1132(a)(2) of the Act and 45 CFR 95.7 
which require that any claim by a State for payment with respect to an 
expenditure made be filed within the 2 year period.
    CMS has developed a general Medicaid Cost Reporting Protocol 
available on the CMS website that specifically addresses methods under 
which institutional and non-institutional Medicaid costs will be 
determined for purposes of CPEs.
    82C. Comment: A number of commenters stated that the administrative 
burden would be placed on the State if it is required to periodically 
audit and review certified public expenditures as stipulated in the 
proposed regulation.
    82R. Response: The provision of the regulation regarding certified 
public expenditures clarifies and implements the statutory instruction 
at 1903(w)(6)(A). Consistent with this explicit statutory instruction, 
a certified public expenditure means that State or local tax dollars 
were used to satisfy the cost of serving Medicaid individuals (and the 
cost of providing inpatient and outpatient hospital services to the

[[Page 29770]]

uninsured for purposes of Medicaid DSH payments). CMS believes States 
would support the establishment of periodic audit and review to ensure 
the fiscal integrity of CPE practices within their Medicaid programs.
    For hospital and nursing facility services, nationally recognized 
cost reports are already available and are already audited by the 
Medicare fiscal intermediary. Therefore, the State's burden to review 
these cost reports should be minimal. For non-hospital and non-nursing 
facility services in Medicaid, we note that a nationally recognized, 
standard cost report does not exist. Because of this, we are publishing 
a standardized cost reporting form that can be used to document the 
costs of providing non-institutional services to Medicaid individuals. 
The purpose of this standardized form is to minimize the burden 
associated with the review of expenditures for non-institutional 
services.
    CMS has developed a general Medicaid Cost Reporting Protocol 
available on the CMS website that specifically addresses the methods 
under which institutional and non-institutional costs will be 
determined for purposes of CPEs.
    83C. Comment: One commenter noted the new mandates required of 
States and local governments with respect to CPEs and expressed the 
opinion that the Federal government should fund 100 percent of all 
costs associated with these mandates.
    83R. Response: Each State is responsible for the proper and 
efficient administration of its Medicaid program. Expenses incurred for 
administration of the Medicaid program are eligible for Federal 
matching funds at the regular 50 percent administrative matching rate.
    84C. Comment: Numerous commenters recommended that CMS permit the 
use of CPEs for health care providers regardless of the payment 
methodology provided under the State plan. These commenters indicated 
that health care providers will incur costs associated with providing 
care to Medicaid individuals whether they are paid on a cost basis or 
not. An example was provided. If a health care provider incurs $100 in 
cost in providing care to a Medicaid individual, but the payment 
methodology is a prospective one that results in a $90 payment, the 
health care provider could still certify that it incurred $100 in costs 
in connection with care for that individual. Because the payment is 
limited to $90, however, only $90 of the certification would be 
eligible for federal match. These commenters also argue that when 
payment is not based on a cost methodology, CMS should allow health 
care providers to certify costs associated with care to Medicaid 
individuals not to exceed the amount of payments provided under the 
State plan methodology. Other commenters stipulated that once CMS has 
approved a payment methodology in the State's plan, demonstration of 
the expenditure, other than the usual claim for the Medicaid service 
provided, should not be necessary.
    84R. Response: Medicaid State plan rate methodologies are 
incompatible with a governmentally-operated health care provider's use 
of certified public expenditures. The Medicaid State plan is the 
vehicle for determining expenditures that are eligible for Federal 
matching funds. Section 433.51 states that the CPE must, itself, be 
eligible for FFP. If the State plan does not contain an actual cost 
reimbursement methodology, then the governmentally-operated health care 
provider may not use a CPE because it would not be able to establish an 
expenditure under the Medicaid State plan, consistent with the 
requirements of 45 CFR 95.13, where there was no cost incurred that 
would be recognized under the Medicaid State plan. A health care 
provider cannot establish an expenditure under the Medicaid State plan 
by asserting that it would pay itself the Medicaid State plan rate. A 
cost reimbursement methodology specified within the Medicaid State plan 
would allow for reimbursement as a percentage of the governmentally-
operated health care provider's cost of services to Medicaid 
individuals.
    85C. Comment: One commenter is particularly concerned that the 
proposed regulation would require proof of actual Medicaid expenditures 
in order to CPE. The commenter stipulated that the Medicaid statute 
does not specifically limit the use of certifications of expenditures 
to Medicaid costs, but to expenditures under the Medicaid statute, 
which also include DSH payments. Therefore, CPEs could only be used to 
fund Medicaid expenditures that are stated on a cost report and would 
prevent governmental providers from using CPEs for DSH as well as for 
other costs of caring for Medicaid individuals not reflected in cost 
reporting methodologies.
    85R. Response: The provisions of the regulation do not prohibit a 
State from utilizing CPEs for purposes of DSH payments, nor for non-
institutional services provided to Medicaid individuals. Only certain 
hospitals within a State are eligible to receive DSH payments. DSH 
payments are limited to each qualifying hospital's uncompensated care 
costs associated with providing inpatient and outpatient hospital 
services to Medicaid individuals and to individuals with no source of 
third party coverage for the inpatient and outpatient hospital services 
they received. These costs would be derived from the Medicare 2552-96 
hospital cost report, a nationally recognized cost report which all 
hospitals utilize. To determine the costs eligible for purposes of CPE, 
States and governmentally-operated hospitals would utilize audited 
hospital financial statements and information from the Medicaid 
Management Information System (MMIS) to properly allocate the eligible 
Medicaid and uninsured costs from the hospital cost report.
    CMS has developed a general Medicaid Cost Reporting Protocol 
available on the CMS website that specifically addresses the methods 
under which institutional and non-institutional costs will be 
determined for purposes of CPEs.
    86C. Comment: One commenter recommended that CMS modify the 
proposed regulation to allow a payment and corresponding CPE based on a 
current, inflated cost report without any reconciliation process and 
that any changes to costs will be captured in future cost reports.
    86R. Response: The CPE process inherently requires a reconciliation 
of the certifying unit of government's actual costs of providing 
services to Medicaid individuals. Under a Medicaid cost reimbursement 
payment system funded by CPEs, States may utilize most recently filed 
cost reports to develop interim Medicaid payment rates and may trend 
these interim rates by an applicable health care-related index. Interim 
reconciliations must be performed by reconciling the interim Medicaid 
payment rates to the filed cost report for the spending year in which 
interim payment rates were made. Final reconciliation must also be 
performed by reconciling the interim payments and interim adjustments 
to the finalized cost report for the spending year in which interim 
payment rates were made.
    87C. Comment: One commenter noted that they currently offset 
Medicaid expenditures using CPEs through the UPL financing to 
outpatient hospitals, nursing facilities and home health agencies. The 
commenter specifically requested that this offset continue to be 
allowed, but only when applied to Medicaid expenditures.
    87R. Response: It is not clear what ``offsetting Medicaid 
expenditures using CPEs through UPL financing'' means. A CPE means that 
State or local tax dollars were used to satisfy the cost of serving 
Medicaid individuals. Historically,

[[Page 29771]]

Medicaid upper payment limits (UPLs) for governmentally health care 
providers were not limited to the cost of providing services to 
Medicaid individuals and often ``UPL payments'' were made in excess of 
Medicaid costs. However, UPL payments that were made in excess of 
Medicaid costs could not be funded through CPEs based on the statutory 
definition, which limits the CPE funding source to allowable Medicaid 
(and DSH) cost.
    Under the provisions of this regulation, the UPL for 
governmentally-operated health care providers is Medicaid cost. Any 
revenues received by a governmentally-operated health care provider 
under the authority of the Medicaid State plan must be offset prior to 
determining if any uncompensated Medicaid costs exist that would be 
eligible under the CPE funding source.
    88C. Comment: One commenter asked what the CPE requirements are 
when a unit of government makes a payment to a health care provider not 
operated by a unit of government.
    88R. Response: A governmental entity that is not a health care 
provider which pays for a covered Medicaid service furnished by a 
health care provider (whether governmentally-operated or not) can 
certify its actual expenditure, in an amount equal to the Medicaid 
State plan rate (or the approved provisions of a waiver or 
demonstration, if applicable) for the service. In this case, the CPE 
would represent the expenditure by the governmental unit to the service 
provider (and would not necessarily be related to the actual cost to 
the health care provider for providing the service). The governmental 
entity that is not a health care provider must submit a certification 
statement to the State Medicaid agency attesting that the total 
computable amount of its claimed expenditures are eligible for FFP, in 
accordance with the Medicaid State plan and the revised provisions of 
Sec.  433.51. That certification must be submitted and used as the 
basis for a State claim for FFP within 2 years of the expenditure 
consistent with filing requirements at section 1132(a)(2) of the Act 
and 45 CFR 95.7.
    89C. Comment: A few commenters asked whether it would it be 
possible for a unit of government that pays a private university for 
physician services to certify those funds under Medicaid, if the 
services provided by those physicians are approved under the State plan 
amendment, and would it be possible for State universities to certify 
as an expenditure the portion of a faculty physicians' salary spent 
treating Medicaid individuals.
    89R. Response: The first part of the question relates to a unit of 
government making payments to a private health care provider. A 
governmental entity that is not a health care provider which pays for a 
covered Medicaid service furnished by a health care provider (whether 
governmental or not) can certify its actual expenditure, in an amount 
equal to the Medicaid State plan rate (or the approved provisions of a 
waiver or demonstration, if applicable) for the service. In this case, 
the CPE would represent the expenditure by the governmental unit to the 
service provider (and would not necessarily be related to the actual 
cost to the health care provider for providing the service).
    The second part of the question raises the possibility of a State 
university certifying the expenditures for the portion of a faculty 
physician's salary associated with the delivery of clinical services to 
Medicaid individuals. CMS notes that the relationships between a 
faculty physician's clinical practice and the State university vary on 
a case by case basis. For example, some State universities require 
faculty physicians to provide clinical services in private faculty 
practice groups, while other State universities consider faculty 
physicians employees of the university when providing clinical care. In 
light of these arrangements, the response to the second part of this 
question can only be answered based on whether or not the State 
university is considered a unit of government (State university 
teaching hospitals are recognized as units of government in the statute 
and regulation) and whether or not the faculty physician is actually 
considered an integral part of that unit of government when delivering 
clinical care. If the State university is a unit of government and is 
the health care provider of the physician services, then the State 
university teaching hospital may generate a CPE from its own costs if 
the Medicaid State plan (or the approved provisions of a waiver or 
demonstration, if applicable) contains an actual cost reimbursement 
methodology. If this is the case, the State university may certify the 
costs that it actually incurred that would be paid under the Medicaid 
State plan. If the State plan does not contain an actual cost 
reimbursement methodology, then the State university may not use a CPE 
because it would not be able to establish an expenditure under the 
plan, consistent with the requirements of 45 CFR 95.13.
    90C. Comment: One commenter noted that the preamble to the 
regulation indicated that a claimable expenditure must involve a shift 
of funds (either by an actual transfer or a debit in the accounting 
records of the contributing unit of government and a credit in the 
records of a provider of medical services) and cannot merely be a 
refund or reduction in accounts receivable. The commenter stated that 
this restriction is unclear and appears unnecessary. The commenter 
described that government health care providers are directly funded by 
legislative appropriations and/or recurring revenues, then these health 
care providers certify allowable Medicaid expenditures through the 
submission of claims for covered services. The commenter went on to 
state that these claims are valued at the Medicaid reimbursement rate 
in the approved State plan and support the State's claim for FFP. 
Therefore, the commenter argued, there is no need for further 
accounting transactions by the health care provider or governmental 
entity.
    90R. Response: According to 45 CFR 95.13(b), for expenditures for 
services under the Medicaid program, an expenditure is made ``in the 
quarter in which any State agency made a payment to the service 
provider.'' There is an alternate rule for administration or training 
expenditures at 45 CFR 95.13(d), under which the expenditure is made in 
the quarter to which the costs were allocated or, for non-cash 
expenditures, in the quarter in which ``the expenditure was recorded in 
the accounting records of any State agency in accordance with generally 
accepted accounting principles.'' The State Medicaid Manual, at section 
2560.4.G.1.a(1), indicates that ``the expenditure is made when it is 
paid or recorded, whichever is earlier, by any State agency.'' These 
authorities clearly indicate that there must be a record of an actual 
expenditure, either through cash or a transfer of funds in accounting 
records, in order for the expenditure to be considered eligible for 
Federal Financial Participation (FFP).
    Moreover, as defined at 45 CFR 95.13(b), a Medicaid expenditure 
occurs when any State agency makes a payment to the service provider. 
Pursuant to Sec.  433.10(a), the expenditure must be a total computable 
payment, including both Federal and State share, which forms the basis 
of the claim to draw down the corresponding FFP in accordance with the 
Federal Medical Assistance Percentage (FMAP) rate. These provisions 
clearly demonstrate that a unit of government cannot merely submit 
claims that would be considered somehow equivalent to certified public 
expenditures in order for the State to receive Federal matching funds.

[[Page 29772]]

    The options available to a unit of government for purposes of 
compliance with the CPE provisions of the regulation depend on whether 
or not the unit of government is the provider of the service. A 
governmental entity that is not a health care provider and that pays 
for a covered Medicaid service furnished by a health care provider 
(whether governmentally-operated or not) can certify its actual 
expenditure in an amount equal to the Medicaid State plan rate (or the 
approved provisions of a waiver or demonstration, if applicable) for 
the service. In this case, the CPE would represent the expenditure by 
the governmental unit to the service provider on behalf of the State 
Medicaid agency (and would not necessarily be related to the actual 
cost to the health care provider for providing the service).
    If the unit of government is the health care provider, then it may 
generate a CPE from its own costs if the Medicaid State plan (or the 
approved provisions of a waiver or demonstration, if applicable) 
contains a cost reimbursement methodology. If this is the case, the 
governmentally-operated health care provider may certify the costs that 
it actually incurred that would be reimbursed under the Medicaid State 
plan. If the Medicaid State plan does not contain an actual cost 
reimbursement methodology, then the governmentally-operated health care 
provider may not use a CPE because it would not be able to establish an 
expenditure under the authority of the Medicaid State plan. This is 
consistent with the requirements of 45 CFR 95.13, where there was no 
cost incurred that would be recognized under the Medicaid State plan. A 
governmentally-operated health care provider cannot establish an 
expenditure under the Medicaid State plan by asserting that it would 
pay itself the Medicaid State plan rate.
    91C. Comment: A few commenters disagreed that a CPE equals 100 
percent of a total computable Medicaid expenditure. The commenter 
stated that a certifying governmental unit may fund all or part of the 
cost within the health care provider. For example, the commenter noted 
that a governmental health care provider or entity may be responsible 
for funding the cost of prospective rate increases while the State 
Medicaid agency continues payments at the base period rate.
    91R. Response: Statutory and regulatory provisions require that an 
expenditure must be a total computable payment, including both Federal 
and State share, in order to form the basis of a State's claim to draw 
down the corresponding FFP in accordance with the Federal Medical 
Assistance Percentage (FMAP) rate. It is possible that a State uses two 
different funding sources for two different payments under different 
reimbursement methodologies in the Medicaid State Plan. For instance, 
the State Medicaid agency may use general fund appropriations to 
finance the non-Federal share of base Medicaid payments to a 
governmentally-operated health care provider. Under a separate 
reimbursement methodology in the approved Medicaid State Plan, the 
governmentally-operated health care provider may be eligible to receive 
reimbursement for its Medicaid costs in excess of base Medicaid 
payments received. Under the latter reimbursement methodology, the 
governmentally-operated health care provider could certify the 
uncompensated portion of its Medicaid costs (that is, total Medicaid 
costs minus total Medicaid revenues) and Federal financial 
participation would be available as a percentage of its total 
computable costs less revenues received as a CPE eligible for 
additional FFP.
    The options available to a unit of government for purposes of 
compliance with the CPE provisions of the regulation depend on whether 
or not the unit of government is the provider of the service. A 
governmental entity that is not a health care provider and that pays 
for a covered Medicaid service furnished by a health care provider 
(whether governmentally-operated or not) can certify its actual 
expenditure in an amount equal to the Medicaid State plan rate (or the 
approved provisions of a waiver or demonstration, if applicable) for 
the service. In this case, the CPE would represent the expenditure by 
the governmental unit to the service provider on behalf of the State 
Medicaid agency (and would not necessarily be related to the actual 
cost to the health care provider for providing the service).
    If the unit of government is the health care provider, then it may 
generate a CPE from its own costs if the Medicaid State plan (or the 
approved provisions of a waiver or demonstration, if applicable) 
contains a cost reimbursement methodology. If this is the case, the 
governmentally-operated health care provider may certify the costs that 
it actually incurred that would be reimbursed under the Medicaid State 
plan. If the Medicaid State plan does not contain an actual cost 
reimbursement methodology, then the governmentally-operated health care 
provider may not use a CPE because it would not be able to establish an 
expenditure under the authority of the Medicaid State plan. This is 
consistent with the requirements of 45 CFR 95.13, where there was no 
cost incurred that would be recognized under the Medicaid State plan. A 
governmentally-operated health care provider cannot establish an 
expenditure under the Medicaid State plan by asserting that it would 
pay itself the Medicaid State plan rate.
    92C. Comment: One commenter argued that the requirement of a CPE in 
the school setting is unnecessary because the majority of Medicaid 
costs in schools are funded ``up front'' using local tax dollars to 
cover the cost of services on a per child basis. Therefore, school 
districts are not making money on Medicaid reimbursements relative to 
the outlay of actual costs.
    92R. Response: The provision of the regulation regarding certified 
public expenditures is a clarification to existing Federal statutory 
instruction at 1903(w)(6)(A). Consistent with this explicit statutory 
instruction, a certified public expenditure means that State or local 
tax dollars were used to satisfy the cost of serving Medicaid 
individuals (and the cost of providing inpatient and outpatient 
hospital services to the uninsured for purposes of Medicaid DSH 
payments). The cost documentation process is necessary to demonstrate 
that services have been provided to Medicaid individuals. Federal 
financial participation is available as a percentage of the total 
allowable costs. It is not clear what method other than identification 
of the cost of providing services to Medicaid individuals would be 
appropriate to make Federal matching funds available for purposes of 
health care providers certifying public expenditures.

D. Cost Limit for Providers Operated by Units of Government (Sec.  
447.206)

    93C. Comment: Numerous commenters argued strongly that CMS lacks 
the statutory authority to impose a provider specific cost limit. The 
commenters did not believe that CMS has the authority to change the 
existing upper payment limit (UPL) regulations in order to implement 
this new limit. These commenters believe that the NPRM represents a 
significant and unjustified departure from CMS' earlier understandings 
and implementation of Congressional intent and in some cases direct 
Congressional direction. Further, the commenters stated that Congress 
itself has rejected cost-based reimbursement principles and has 
historically through passage of various amendments to the Social 
Security Act (including the Boren Amendment in 1980 and its repeal in 
1997) endorsed State flexibility in establishing

[[Page 29773]]

reimbursement rates for Medicaid providers.
    Several commenters noted that the current Administration has 
repeatedly asked Congress to impose a cost limit on payments to public 
health care providers and Congress has refused to legislate this 
action. The commenters believe that because the Administration's 
request and the Congress' refusal to legislate only highlight the lack 
of authority for the proposed cost limit. Other commenters specified 
that State Medicaid programs feature a variety of targeted supplemental 
payments that enable States to tailor their Medicaid programs to meet 
the unique needs of their population. Eliminating the aggregate nature 
of the UPL restricts States' flexibility to address local needs through 
reimbursement policies and runs counter to the Administration's 
commitment and Congress' efforts to enhance State flexibility in 
managing their Medicaid program. Other commenters mentioned that the 
proposed cost limit is contrary to section 1902(a)(13) of the Act, 
which has always been interpreted to support rate setting flexibility 
on the part of States. One commenter questioned why CMS wants to limit 
States' flexibility in distributing supplemental payments.
    93R. Response: We disagree with this comment. Under section 
1902(a)(30)(A) of the Act, the Secretary has broad authority to set 
upper payment limits to ensure that Medicaid payments are ``consistent 
with efficiency, effectiveness and quality of care.'' While section 
1902(a)(13) of the Act no longer contains any general requirements that 
States pay for Medicaid institutional services on a cost, or cost-
related basis, the Secretary retains the authority and responsibility 
to ensure that Medicaid payments are reasonable. Under the principles 
of Office of Management and Budget Circular A-87, governmental grantees 
and subgrantees are generally limited to reasonable costs and, as that 
term is defined, there is no provision for profit or other amounts 
above cost. A provider-specific cost limit is consistent with those 
principles.
    Moreover, a provider-specific cost limit does not restrict State 
flexibility to use flexible rate systems for governmentally-operated 
health care providers that might, for example, encourage certain types 
of care or include performance incentives. All such a limit does is 
ensure that any such flexible rate system not result in payment in 
excess of actual documented costs. Such a limit is not designed to 
restrict the ability of the State to address local needs, since States 
may provide for payment of the full cost of Medicaid services.
    94C. Comment: Another commenter stated that States are in a better 
position to decide how best to use their Medicaid resources and this 
proposed regulation would increase Federal control over how States 
spend their Medicaid funds. Most commenters recommended that the 
proposed cost limit be eliminated for all types of health care 
providers and the current Medicare UPL for government providers be 
maintained. Other commenters pointed out that if a State employs a 
prospective payment system the prospective rate is an estimate and it 
will not correspond precisely to the actual costs incurred. (S.D. Dept. 
of Soc. Servs., DAB No. 934 (1988)). According to the commenter, the 
DAB held that these rates were not subject to later adjustment based on 
actual costs and there was no unfound profit when payments exceeded 
costs. The commenters noted in other decisions the DAB has 
distinguished the costs incurred by providers from the rates charged by 
providers to the State, and it has held that the latter are what form 
the basis of the State's claims for expenditures.
    Several other commenters cited specific Departmental Appeals Board 
(DAB) decisions that reviewed CMS' authority to hold government health 
care providers to a different standard than applied to private health 
care providers, or to limit government health care providers to actual-
cost reimbursement. The commenters cited one DAB decision (Ill. Dept. 
of Pub. Aid, DAB No. 467 (1983)) that stated ``cost principles [do] not 
impose an actual cost ceiling on claims for reimbursement for medical 
assistance provided by state-owned [facilities],'' and that a State 
does not impermissibly profit where its claim for FFP is based on the 
cost it incurs in reimbursing facilities according to a prospective 
class rate.
    94R. Response: The cited DAB decisions were issued in the absence 
of rulemaking under the authority of section 1902(a)(30)(A) to ensure 
that provider rates are consistent with efficiency, economy and quality 
of care. This final rule establishes CMS authority to implement an 
provider-specific upper payment limit based on documented costs of 
furnishing covered Medicaid services to eligible individuals. A 
provider-specific cost limit does not restrict State flexibility to use 
flexible rate systems for governmentally-operated health care providers 
that might, for example, encourage certain types of care or include 
performance incentives. All such a limit does is require that any such 
flexible rate system not result in payment in excess of actual 
documented costs. In this context, we anticipate that the provider-
specific payment limits would only affect health care providers who are 
diverting Medicaid funds for other purposes, since that is the only 
circumstance in which Medicaid payments would not align with Medicaid 
costs. This circumstance necessarily results in a diminution of the 
resources available for care to Medicaid individuals.
    By requiring that Medicaid payments align with Medicaid costs, we 
are ensuring that governmentally-operated providers use resources 
available through Medicaid payment rates to serve the Medicaid 
individuals. In other words, because anticipated Medicaid payments are 
an element in setting budgets, we anticipate that limiting matchable 
Medicaid revenues to Medicaid costs will result in the expansion of 
resources available to serve Medicaid individuals. With respect to the 
comment regarding the use of prospective rate systems, several OIG 
audits have found that such prospective systems have not resulted in 
accurate determinations of uncompensated care costs related to the 
disproportionate share hospital hospital-specific limits. Thus, we have 
elected not to provide any special rule for prospective payment systems 
in the new upper payment provisions.
    The cited Departmental Appeals Board cases were decided under a 
different regulatory framework and do not limit our authority to issue 
new regulations to address the issue of governmentally-operated health 
care providers. Moreover, as States have evolved specialized payment 
systems to address the needs of governmentally-operated health care 
providers, it has become necessary to ensure the reasonableness of such 
payment systems using a specialized upper payment limit measure.
    95C. Comment: Numerous comments disagreed with the change to the 
existing UPL regulations. The commenters argued that the new provider-
specific limit for governmentally-operated providers will potentially 
create a system where Medicaid payments for private facilities could be 
higher than payments to governmentally-operated health care providers 
for the same services. These commenters urged CMS to reconsider these 
changes and that if health care providers must be held to an individual 
UPL test, the standard for determining the UPL for both private and 
government operated health care

[[Page 29774]]

providers be at least the same standard that exists currently. Other 
commenters recommended that the current aggregate UPLs based on 
Medicare payment principles for all categories of health care providers 
be maintained. Another commenter recommended that CMS could achieve its 
goals by revising the institutional and acute care Medicaid UPL 
calculations to no more than allowable Medicare cost for each of the 
three classes cited in Sec.  447.272.
    95R. Response: The provider-specific cost-based upper payment limit 
for governmentally-operated health care providers does not necessarily 
mean that governmentally-operated health care providers will receive 
lower rates than private health care providers. Governmentally-operated 
health care providers not receiving Medicaid payments in excess of 
costs, would not be adversely impacted by the Medicaid cost limit and 
would actually be eligible to receive greater Medicaid revenues, up to 
the cost limit. Non-governmentally-operated health care providers are 
not affected by the cost limit provision of the regulation and may 
therefore continue to receive Medicaid payments in excess of the cost 
of providing services to Medicaid individuals within existing Federal 
requirements. While the provisions of the regulation do not impose a 
Medicaid cost limit on private health care providers, we have found 
during recent reviews of Medicaid reimbursement methodologies, States 
typically reimburse private health care providers at rates less than 
the cost of serving Medicaid eligible individuals.
    In other words, governmentally-operated health care providers that 
need additional Medicaid funds to serve their Medicaid individuals will 
continue to have access to those funds. By requiring that Medicaid 
payments align with Medicaid costs, we are ensuring that 
governmentally-operated health providers use resources available 
through Medicaid payment rates to serve Medicaid individuals. It is 
true that the provider-specific payment limits would prevent health 
care providers from diverting Medicaid funds for other purposes since, 
in that circumstance, Medicaid payments would not align with Medicaid 
costs. Thus, the provider-specific limits protect Medicaid individuals 
by ensuring that Medicaid resources are available for their care. We 
anticipate that, because Medicaid revenues are an element in setting 
budgets, the provider-specific limit will actually result in the 
expansion of resources available to serve Medicaid individuals.
    96C. Comment: Other commenters pointed out that in the past CMS has 
expressly recognized the potential financial implications of limiting 
reimbursement to an individual health care provider's cost and the 
importance of the aggregate UPL system for preserving access to 
Medicaid services, particularly with regard to safety-net providers. In 
fact, commenters noted that CMS, in response to comments within the 
2002 final UPL rule, reasoned that a State could increase payments for 
particular hospitals and decrease payment levels at other county and 
local hospitals where the low-income patient load was less heavy to 
ensure that funding to more intensively utilized public hospitals was 
not jeopardized.
    96R. Response: We do not believe that the new upper payment limit 
will jeopardize access to Medicaid services. Indeed, the new limit will 
ensure that Medicaid revenues are used to support Medicaid services and 
are not diverted for other purposes. Consistent with the new upper 
payment limit, States could increase payments for particular hospitals 
and decrease payment levels at other county and local hospitals where 
the low-income patient load was less heavy to ensure that funding to 
more intensively utilized public hospitals was not jeopardized. 
Medicaid payments can continue to effectively reimburse governmentally-
operated health care providers that serve high low-income patient 
loads, both through payment of the full cost of Medicaid services, and 
through disproportionate share hospital payments for uncompensated care 
costs. Non-governmentally-operated health care providers are not 
affected by the cost limit provision of the regulation and may 
therefore continue to receive Medicaid payments in excess of the cost 
of providing services to Medicaid individuals within existing Federal 
requirements. While the provisions of the regulation do not impose a 
Medicaid cost limit on private health care providers, we have found 
during recent reviews of Medicaid reimbursement methodologies, States 
typically reimburse private health care providers at rates less than 
the cost of serving Medicaid eligible individuals.
    97C. Comment: Several commenters commented that CMS has failed to 
explain why it is changing its position regarding the flexibility 
afforded to states under the current UPL program. These commenters 
asserted that CMS, through court documents and its 2002 UPL final rule 
reinforced this concept of State flexibility. They believe that is 
disregarding without explanation its prior approach to give States 
flexibility under the UPL system to address the special needs, 
including the financial distress, of health care providers through 
supplemental payments. The commenters also stated that while CMS says 
that it has examined State Medicaid financing arrangements and found 
that ``many'' States are making supplemental payments to government-
operated health care providers in excess of cost and that this excess 
payment is then used to subsidize health care operations unrelated to 
Medicaid, or is returned to the State as a source of revenue, CMS 
provides no data or factual support. Commenters noted that the proposed 
regulation lacked information on how many States are making such 
``excess payments'' or any specific information regarding how health 
care providers are using these excess payments.
    97R. Response: The preamble to the proposed regulation contained a 
detailed description of the concerns that led to this issuance. 
Specifically, we found that many States make supplemental payments to 
governmentally-operated health care providers that are in excess of 
cost. These health care providers, in turn, use that excess of Medicaid 
revenue over cost to subsidize health care (or other) operations that 
are unrelated to Medicaid, or they may return a portion of the 
supplemental payments in excess of cost to the States as a source of 
revenue. These practices effectively divert Medicaid funds to non-
Medicaid purposes, or overstate the total computable expenditure that 
is being made. We do not think it is necessary to identify specific 
States which may have proposed or may have implemented such 
arrangements described in this regulation. We have worked with those 
States to eliminate such arrangements whenever we discover them. This 
process can be politically delicate. Listing States and questionable 
arrangements would not serve the public interest. The States themselves 
sought to protect their financing methodologies from scrutiny and kept 
these matters from the public eye. Since 2003, we have worked 
successfully with 30 States in a consistent manner to terminate certain 
payment arrangements that did not meet statutory requirements and 
worked with States to develop alternative methods of financing.
    98C. Comment: A few commenters asserted that the current practice 
of following Medicare payment principles would not result in excessive 
payments to providers. Their first point is that CMS is the agency that 
sets Medicare payment rates. Second, the commenters pointed to CMS' 
2002 final rule

[[Page 29775]]

implementing UPL requirements and the position that at the time 
Medicare payment principles resulted in reasonable payment rates and 
that States should retain flexibility to make enhanced payments to 
selected public hospitals under the aggregate limit. They noted that 
CMS indicated in the 2002 final rule that the UPL as implemented would 
assure that payments were consistent with efficiency, economy and 
quality of care. The commenters stated that CMS has offered no logical 
basis for changing these determinations or offered any explanation as 
to why Medicare payments are not reasonable for government health care 
providers.
    98R. Response: Medicare rates do not distinguish between 
governmentally-operated and non-governmentally-operated health care 
providers. Furthermore, because Medicare is not a federal-state 
program, but is federal-only, the incentive structure for 
governmentally-operated health care providers is different. The 
Medicaid program is jointly funded by Federal, State, and local 
governments. We do not find it appropriate that units of State or local 
government would ``profit'' from Federal taxpayer dollars that are 
intended to match a percentage of the cost of providing services to 
Medicaid individuals.
    The new upper payment limit for governmentally-operated health care 
providers will more accurately ensure efficient and effective payment 
levels for the full cost of Medicaid services, and will ensure that 
higher Medicaid payments result in improved quality of care for 
Medicaid individuals. Governmentally-operated health care providers 
would be able to receive full payment for Medicaid costs, and those 
with particularly high costs to provide Medicaid services would be able 
to receive Medicaid payments to support those costs. The provider-
specific payment limits would limit health care providers from 
diverting excess Medicaid funds for other purposes since, in that 
circumstance, Medicaid payments would not align with Medicaid costs. In 
doing so, the provider-specific limits protect Medicaid individuals by 
ensuring that Medicaid resources are available for their care. We 
anticipate that, because Medicaid revenues are an element in setting 
budgets, the provider-specific limit will actually result in the 
expansion of resources available to serve Medicaid individuals.
    99C. Comment: Several commenters stated that the provisions of the 
regulation violates section 705(a) of the Medicare, Medicaid and SCHIP 
Benefits Improvement and Protection Act of 2000 (BIPA). The commenters 
specify that through BIPA, Congress provided CMS explicit instruction 
to adopt an aggregate Medicare-related upper payment limit (UPL). The 
commenters argued that the proposed cost limit deviates significantly 
from Congress' clear mandate that UPLs: (1) Be aggregate limits and (2) 
include a category of facilities that are ``not State-owned or 
operated.'' Congress explicitly endorsed the establishment of a UPL 
based on Medicare payment principles, not costs.
    99R. Response: The conditions set forth in section 705(a) of BIPA, 
to publish a final regulation based on the proposed regulation 
announced on October 5, 2000, were met by the publication of a final 
regulation on January 12, 2001, at 66 FR 3148. Section 705 of BIPA did 
not purport to remove the Secretary's authority to revise such 
regulation as necessary to interpret and implement the underlying 
statutory authority. However payments specifically permitted by section 
705 of BIPA are not subject to the upper payment limits provision of 
the regulation.
    100C. Comment: Numerous commenters disagreed with CMS' assertion 
that Medicaid payment in excess of cost to governmentally-operated 
health care providers is not consistent with the statutory principles 
of economy and efficiency as required by section 1902(a)(30)(A) of the 
Act. They asserted that if CMS' goal is to assure that Medicaid 
payments are consistent with economy and efficiency there is no basis 
for imposing a cost-based reimbursement system for government-operated 
health care providers. Other commenters stated that the provisions of 
the regulation will directly harm the ability of States to meet their 
statutory obligation to ensure access to care for Medicaid individuals. 
By prohibiting States from reimbursing a health care provider for more 
than costs, and restricting States from making enhanced payment to 
health care providers in financial need, CMS is imposing a funding 
restriction that will be passed on from the States to government health 
care providers. States, not CMS, as a result will be faced with the 
concerns from beneficiary advocates when access to care is compromised.
    100R. Response: We disagree with the premise that it could be 
consistent with efficiency and economy and quality of care to provide 
for payment to government providers in excess of cost for Medicaid 
services. Under the Medicaid program, the federal government shares 
with State and local governments in expenditures for medical 
assistance; it is not consistent with that relationship for the federal 
government to share in amounts in excess of the actual cost of medical 
assistance to State and local governments. Payment above the actual 
cost of medical assistance effectively diverts funding from the 
purposes authorized by the federal statute to be used for other, 
unauthorized purposes.
    We also disagree with the premise that the new upper payment limit 
will jeopardize access to Medicaid services. Payment to government 
providers may cover the full cost of Medicaid services. Indeed, the new 
limit will ensure that Medicaid revenues are used to support Medicaid 
services and are not diverted for other purposes.
    Under the new upper payment limit, States may continue to make 
increased Medicaid payments for particular governmentally-operated 
health care providers that have higher cost structures because of high 
low-income patient loads and decreased payment levels for other 
governmentally-operated health care providers with lower cost 
structures because they serve fewer low-income patient loads. These 
payments may provide full payment for the costs of serving Medicaid 
individuals. Governmentally-operated health care providers not 
receiving Medicaid payments in excess of costs would not be adversely 
impacted by the cost limit and would actually be eligible to receive 
greater Medicaid revenues up to the cost limit.
    We recognize that some States have made excessive payments in an 
attempt to address burdens providers may face in furnishing non-
Medicaid uncompensated care. While that goal is laudable, Medicaid 
funding is limited to authorized purposes. In general, those purposes 
are limited under section 1905(a) of the Act to covering costs of 
covered services for eligible individuals. The Medicaid statute 
expressly permits States to make disproportionate share hospital 
payments up to specified limits, which can address certain non-Medicaid 
costs. If Congress had wished to provide other mechanisms to address 
non-Medicaid costs, it could have done so.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net health care providers, are not affected by 
the cost limit provision of the regulation and may therefore continue 
to receive Medicaid payments in excess of the cost of providing 
services to Medicaid individuals within existing Federal requirements.

[[Page 29776]]

    101C. Comment: One commenter stated that creating a new payment 
system through the rule making process instead of the legislative 
process does not allow for provider or public assistance. The commenter 
further stated that the ability to only provide comment on the rule by 
its nature sets up antagonistic positions instead of collaborative and 
creative programs.
    101R. Response: The provisions of this regulation do not create a 
new payment system for governmentally-operated health care providers. 
States still have flexibility to determine the appropriate payment 
system. This regulation is part of the Secretary's Federal oversight 
responsibility to ensure that Medicaid payments are consistent with 
statutory requirements. The Secretary is exercising that authority 
through the rule making process, as required under the Administrative 
Procedure Act. We do not believe that process is antagonistic and we 
regret that the commenter sees it as such. We value the comments 
received and have considered them carefully. Moreover, the development 
of this regulation has been strongly influenced by ongoing Medicaid 
State plan processes, in which States have the opportunity to explain 
and justify their practices. In those processes, CMS tries to work 
collaboratively with States to develop the framework for State Medicaid 
programs that should embody the statutory goals of the Medicaid 
program. This regulation addresses payment practices that do not appear 
to embody the statutory goals of the program but are, instead, designed 
to divert Medicaid funding for use for other purposes, and that do not 
directly benefit Medicaid eligible individuals.
    102C. Comment: A few commenters questioned how the proposed cost 
limit interrelates with existing UPL transition provisions. Some 
commenters were confused since the UPLs as modified by the proposed 
regulation would be individual limits, as opposed to aggregate, yet the 
UPL transition amounts to be phased out are still an aggregate amount. 
They questioned whether the excess amount to be phased out supposed to 
be now an individual provider-specific amount. The commenters were 
particularly concerned since proposed Sec.  447.206 provides for no 
exception to reflect transition payments. Other commenters specifically 
requested that the proposed regulation incorporate these statutorily-
mandated transition provisions, similar to how they are handled in the 
current regulations at Sec. Sec.  447.272 and 447.321. Another 
commenter expressed dissatisfaction that those States that are still 
out of compliance with the last round of changes to the UPL rules due 
to the transition period they received will also not have to conform to 
the new cost limit provisions by the September 1, 2007 effective date. 
The commenter was upset that those that had previous occurrences of 
Medicaid financing abuses will be allowed to continue transitioning out 
of their abusive systems, while States who have not abused Medicaid 
financing will have to come into immediate compliance. The commenter 
implored CMS to develop a fair implementation process and standardized 
implementation date that does not continue to reward those that are not 
currently in compliance.
    102R. Response: The provisions of the regulation did not make any 
changes to existing UPL transition periods in the regulations at 
Sec. Sec.  447.272 and 447.321, which means that any remaining UPL 
transition payments can continue to be made through the end of 
previously established transition periods. Only States that qualified 
for 8-year transition periods continue to make UPL transition payments. 
These UPL transition periods are experiencing a significant phase-down 
(that is, affected States have phased down to 10 percent of the excess 
in 2008) and all transition periods expire at the end of Federal fiscal 
year 2008.
    States with remaining UPL transition periods will be permitted to 
make their UPL transition payments to health care providers as they 
deem appropriate. Such UPL transition payments, payment levels of which 
have been previously determined, should not be factored into a specific 
health care provider's cost limit to demonstrate compliance with the 
new provisions at Sec.  447.206. We have modified the regulation at 
Sec. Sec.  447.272(c)(3) and 447.321(c)(3) to recognize that such 
transition payments, as expressly authorized by section 705 of BIPA, 
are not subject to the Medicaid cost limit.
    103C. Comment: One commenter questioned whether the new hospital-
specific test is performed separately for outpatient and inpatient 
hospital services or in the aggregate.
    103R. Response: For purposes of compliance with the cost limit on 
Medicaid payments, each type of service reimbursed under the authority 
of the Medicaid State plan must be evaluated separately, irrespective 
of whether a governmentally-operated health care provider delivers more 
than one service eligible under the Medicaid State plan. Therefore, the 
inpatient and outpatient hospital-specific Medicaid cost limits must be 
calculated separately.
    104C. Comment: One commenter requested clarification of whether the 
cost limit applies solely to non-state government hospitals and not to 
private hospitals.
    104R. Response: The Medicaid cost limit provision of the regulation 
applies to all health care providers that are operated by a unit of 
government as defined in Sec.  433.50, including hospitals. Private 
hospitals and other private health care providers are not subject to 
the cost limit provision at Sec.  447.206.
    105C. Comment: Several commenters stated that the proposed 
regulation is in direct conflict with advances that many States have 
made in recent years related to health care provider reimbursements. 
For example, some commenters noted that many States have developed DRG 
reimbursement systems consistent with the Medicare so that hospitals 
are reimbursed by the same methodology. Because of the proposed 
regulation's requirements for cost reconciliation and recoupment of any 
payments above cost, there is the potential that significant funds 
would have to be recouped annually if the DRG system is maintained. In 
fact, States will be forced to abandon the DRG system for government 
operated hospitals and return to the antiquated and inefficient cost-
based system. Several other commenters stated that hospital 
reimbursement systems have evolved following the model of the Medicare 
program and its use of prospective payment systems. These reimbursement 
systems are intended to improve efficiency by rewarding hospitals that 
can keep costs below the amount paid. One commenter also noted that 
their PPS rates should not be equated to reasonable cost, due to the 
cumulative difference between medical inflation and the Medicare 
Economic Index.
    105R. Response: The Medicaid program is jointly funded by Federal, 
State, and local governments. We do not find it appropriate that units 
of State or local government would ``profit'' from Federal taxpayer 
dollars that are intended to match a percentage of the cost of 
providing services to Medicaid individuals. Nevertheless, as we have 
examined Medicaid financing arrangements across the country, we have 
found that many States make payments to governmentally-operated 
providers that are in excess of cost. These health care providers, in 
turn, use the excess of Medicaid revenue over cost to subsidize health 
care operations that are unrelated to Medicaid, or they may return a 
portion of such payments to the State as a source of revenue. In either 
case, we do not find that Medicaid payments in excess of cost to

[[Page 29777]]

governmentally-operated health care providers are consistent with the 
statutory principles of economy and efficiency as required by section 
1902(a)(30)(A) of the Act, nor do we find such excessive payments to be 
consistent with the statutory structure requiring that the Federal 
government match a percentage of State or local government expenditures 
for the provision of services to Medicaid individuals.
    In addition, the proposed regulation does not require States to 
abandon existing DRG based payment systems or any other existing 
Medicaid reimbursement rate methodologies currently utilized to pay 
governmentally-operated health care providers. Under the Medicaid cost 
limit, States may continue to use existing Medicaid reimbursement rate 
methodologies, but will need to compare such rates to the actual cost 
of providing services to Medicaid individuals and make reconciling 
adjustments in the event of overpayments to a particular 
governmentally-operated health care provider. States may find such cost 
reconciliations to be useful inasmuch as they will permit States to 
better analyze the reasonableness of their Medicaid reimbursement 
rates.
    106C. Comment: Many commenters stated that Medicare rates and the 
ability to calculate payments in the aggregate are reasonable because 
Medicare rates are reasonable and are not excessive and afford States 
the flexibility necessary to target resources to needy areas. One 
commenter questioned why CMS believed Medicare rates to be excessive. 
Medicare's prospective payment system recognizes that some health care 
providers will incur costs above Medicare rates and others will incur 
costs that are below payment rates and achieve a level of Medicare 
profit. It is the opportunity for this profit incentive that helps 
health care providers focus on costs and pursue efficiency. Prospective 
payment rates are set at a rate that in the aggregate ensure a savings 
to the Medicare program. States should be allowed to utilize payment 
rate differentials to incentivise desired provider behaviors.
    106R. Response: Current upper payment limits are based on aggregate 
estimates of Medicare payments and are therefore calculated on a 
hypothetical basis, since the services at issue are not actually 
Medicare services. Under the current UPL, many States provide 
supplemental UPL payments (up to the aggregate UPL, based on the 
aggregate estimate of Medicare payments) to fund the non-Medicaid costs 
of governmentally-operated health care providers. The current limit 
based on a hypothetical measure is difficult to administer because the 
actual services at issue are Medicaid services, and yet aggregate 
hypothetical estimates of payments by another program create the 
ceiling for Medicaid payments. The Medicaid cost limit at Sec.  447.206 
is directly based on Medicaid services provided by a specific 
governmentally-operated health care provider; therefore, it is 
auditable and tangible, and it would substantially align Medicaid 
payments to the costs of serving Medicaid individuals.
    The Medicaid program is jointly funded by Federal, State, and local 
governments. We do not find it appropriate that units of State or local 
government would ``profit'' from Federal taxpayer dollars that are 
intended to match a percentage of the cost of providing services to 
Medicaid individuals.
    107C. Comment: Several commenters stated that the cost limit would 
prevent states from adopting payment methodologies that are economic 
and efficient and that promote quality and access. Therefore, the cost 
limit is in conflict with section 1902(a)(30)(A) of the Social Security 
Act. Under the proposed cost limit, States will no longer be able to 
meet the requirements of this statutory provision.
    107R. Response: We disagree with the premise that it could be 
consistent with efficiency and economy and quality of care to routinely 
provide for payment in excess of cost for Medicaid services. The new 
limit will ensure that Medicaid revenues are used to support Medicaid 
services and are not diverted for other purposes. Under the new upper 
payment limit, States may continue to have increased Medicaid payments 
for particular governmentally-operated health care providers with high 
low-income patient loads and decreased payment levels at other 
governmentally-operated health care providers where the low-income 
patient load is less. These payments may provide full payment for the 
costs of serving Medicaid individuals. Governmentally-operated health 
care providers not receiving Medicaid payments in excess of costs would 
not be adversely impacted by the cost limit and would actually be 
eligible to receive greater Medicaid revenues up to the cost limit. The 
Medicaid cost limit provision should not force cuts to the Medicaid 
program, nor affect access to services. This will ensure that funding 
to governmentally-operated health care providers intensively used by 
Medicaid individuals is not jeopardized. In addition, to address the 
burden of non-Medicaid uncompensated care incurred by hospitals, 
Congress has specifically provided for States to make disproportionate 
share hospital payments. To the extent that more flexibility is 
desired, States are not precluded from developing demonstration 
projects to test new payment methodologies.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net health care providers, are not affected by 
the cost limit provision of the regulation and may therefore continue 
to receive Medicaid payments in excess of the cost of providing 
services to Medicaid individuals within existing Federal requirements. 
It is unclear how a limit that does not apply to non-governmentally-
operated health care providers would reduce services or limit access to 
Medicaid individuals or to the uninsured.
    108C. Comment: Several commenters stated that the proposed cost 
limit defies simplicity of administration and ignores the best interest 
of Medicaid individuals as required by section 1902(a)(19) of the Act. 
The proposed cost limit would not enable States to meet the 
requirements of this statutory provision.
    108R. Response: We clearly understand that the provisions of this 
regulation will impose an administrative burden on governmentally-
operated health care providers and States to document the allowability 
of Medicaid claims through cost reporting. This burden is reasonable, 
however, because most such health care providers are already reporting 
costs in other contexts. The relevant cost data would have been fully 
or partially developed for a Medicare hospital cost report, for a 
Single Audit Act financial statement, or for other audited financial 
statements. While some adjustment may be necessary for data developed 
for other purposes, this is not an unreasonable burden. Moreover, this 
regulation would protect the best interests of Medicaid individuals 
because it prevents States or health care providers from diverting 
Medicaid funds for other purposes than Medicaid, and ensures that 
Medicaid resources are available for care to Medicaid individuals. We 
anticipate that, because Medicaid revenues are an element in setting 
budgets, the provider-specific limit will actually result in the 
expansion of resources available to serve Medicaid individuals.
    109C. Comment: A few commenters specified that CMS cites the 
statutory restrictions on matching only Medicaid

[[Page 29778]]

expenditures as the basis of limiting payments to cost for pubic 
providers. The commenters argued that the statutory restrictions only 
apply to States' expenditures. Therefore when a State makes a payment 
for Medicaid covered services, it is that payment by the State which is 
recognized as the medical assistance expenditure for which Federal 
matching is made and not the provider's expenditures in rendering the 
services. The commenters further stated that Congress has never 
attempted to legislate what a health care provider can do with its 
Medicaid payments once they have been earned for services rendered. 
Further, the commenters stated that Congress has never precluded health 
care providers from using Medicaid revenues to care for the uninsured 
and Congress did not intend there to be exclusive sources of funding 
that health care providers could use for covering services to the 
uninsured.
    109R. Response: We agree that allowable Medicaid payments made to a 
health care provider belong to the health care provider. Through this 
regulation, however, we intended to provide that a quality of an 
allowable Medicaid payment is that the health care provider receive and 
retain the payment for its own purposes, rather than returning it or 
diverting it for other purposes. Because this may not have been clear, 
we have revised Sec.  447.207 to make that distinction clear. The 
provision at Sec.  447.207 was intended to address those instances in 
which States make claims that are based on health care provider 
payments that are never actually made, are based on amounts paid with 
such conditions that the health care provider never actually becomes 
the beneficial owner of the funding (for example, when the health care 
provider is required to return the funding to a State agency or State 
directed purpose), or are otherwise diverted from use for Medicaid 
services by operation of law, contract or other mechanism. When the 
health care provider is not permitted to receive and retain the funds, 
the regulation would reflect the fact that the provider is not the 
beneficial owner of the funds. It should be noted that the Federal 
Medicaid statute does not include a term nor discussion that references 
a ``public'' health care provider for purposes of State Medicaid 
financing.
    110C. Comment: A few commenters expressed concern that the cost 
limit could affect current DSH calculations and requested 
clarification. Several other commenters stated that the proposed cost 
limit would not appear to impact the manner in which several States 
currently calculate Medicaid DSH payments. Many States' DSH payments 
are prospectively established using a prior year base period trended 
forward to the DSH payment period and represent the unreimbursed costs 
of the uninsured and Medicaid HMO enrollees. The commenters questioned 
whether the proposed cost limit will require States to annually review 
the actual unreimbursed costs of the uninsured and Medicaid HMO 
enrollees of DSH hospitals operated by units of government to ensure 
that the Medicaid DSH payments did not exceed the actual costs of 
providing inpatient and outpatient hospital services during the DSH 
payment period. If so, then the proposed regulation should be modified 
to allow for the consistent application of a prospective DSH payment 
methodology.
    110R. Response: The provisions of the regulation would require an 
examination of Medicaid HMO revenues to determine compliance with the 
Medicaid cost limit, but would not require an examination of the 
uninsured costs for purposes of the Medicaid cost limit.
    The Medicaid cost limit provision is consistent with the statutory 
establishment of the hospital specific DSH limit, enacted under the 
Omnibus Budget Reconciliation Act of 1993 (OBRA `93). DSH payments are 
limited to each qualifying hospital's uncompensated care costs of 
providing inpatient and outpatient hospital services to Medicaid 
individuals and to individuals with no source of third party coverage 
for the inpatient and outpatient hospital services they received. Under 
the Medicare Modernization Act of 2005 (MMA), Congress enacted DSH 
audit and reporting requirements to ensure compliance with the OBRA `93 
hospital-specific DSH limits. For purposes of DSH payments, States may 
utilize a prospective DSH payment methodology, but need to ensure 
actual DSH payments do not exceed actual eligible DSH costs under the 
hospital-specific limit consistent with OBRA `93 and the MMA. It should 
be noted that HMO revenues must be considered in the calculation of the 
hospital-specific DSH limit.
    111C. Comment: Several commenters requested that CMS clarify that 
the cost limit based on the ``cost of providing covered Medicaid 
services to eligible Medicaid recipients'' does not exclude costs for 
disproportionate share hospital payments. The commenters were concerned 
that proposed Sec.  447.206(c)(1) specifies that ``all health care 
providers that are operated by units of government are limited to 
reimbursement not in excess of the individual provider's cost of 
providing covered Medicaid services to eligible Medicaid recipients.'' 
The commenters believed this would preclude any Medicaid reimbursement 
to governmental providers for costs of care for patients who are not 
eligible Medicaid individuals.
    The commenters questioned whether it is CMS' intent to either (1) 
apply the cost limit only to fee-for-service payments by the state 
agency for services provided to Medicaid individuals while relying on 
separate statutory or waiver-based authority to impose cost limits on 
DSH, or (2) to apply the cost limit more broadly than the language of 
the proposed regulation would suggest. If the limit is to apply only to 
fee-for-service rates, then DSH should be explicitly exempted. If the 
limit is to be more broadly applied, then costs for the uninsured or 
non-covered Medicaid services for purposes of DSH payments must be 
included. CMS should also clarify that the limitation to cost of 
Medicaid services for Medicaid individuals is not intended to limit 
Medicaid DSH payments.
    111R. Response: We have modified the regulation to clarify that the 
Medicaid cost limit provision does not directly apply to DSH payments. 
Non-Medicaid costs should not be included in the calculation of the 
Medicaid cost limit. The Medicaid cost limit provision is consistent 
with the statutory establishment of the hospital specific DSH limit, 
enacted under the Omnibus Budget Reconciliation Act of 1993 (OBRA `93). 
DSH payments are limited to each qualifying hospital's uncompensated 
care costs of providing inpatient and outpatient hospital services to 
Medicaid individuals and to individuals with no source of third party 
coverage for the inpatient and outpatient hospital services they 
received. Under the Medicare Modernization Act of 2005 (MMA), Congress 
enacted DSH audit and reporting requirements to ensure compliance with 
the OBRA `93 hospital-specific DSH limits. For purposes of DSH 
payments, States may utilize a prospective DSH payment methodology, but 
need to ensure actual DSH payments do not exceed actual eligible DSH 
costs under the hospital-specific limit consistent with OBRA `93 and 
MMA.
    112C. Comment: A few commenters stated that the cost limit would 
have a devastating effect on hospitals in low DSH States. The 
commenters indicated that the adequacy of DSH allotments is declining 
as costs climb and insurance coverage drops. As DSH has fallen behind, 
other types of supplemental

[[Page 29779]]

payments have become an even more important source of support for these 
safety net hospitals in low DSH States. If these non-DSH supplemental 
payments are eliminated, the ability of governmental hospitals to 
continue to provide high volumes of care to the uninsured will be 
undermined. Still other commenters stated that the proposed cost limit 
would cause DSH funds to be distributed away from private hospitals to 
cover increased losses in public hospitals.
    112R. Response: Under the cost limit of the regulation, Medicaid 
will continue to be permitted to pay for its share of costs associated 
with a governmentally-operated health care provider's services that 
benefit Medicaid individuals in accordance with applicable statutory 
and regulatory requirements. However, when Medicaid is viewed as a 
primary source of revenue for a government's non-Medicaid activities, 
no matter how noble such activities may be, the statutory purpose of 
the Medicaid program has been undermined.
    We note that the Congress has expressly provided for certain kinds 
of limited Federal participation in the costs of providing services to 
non-Medicaid individuals and public health activities. Examples of 
limited Congressional authorization of Federal financing for non-
Medicaid individuals and public health activities include the 
following. The Congress authorized disproportionate share hospital 
(DSH) payments to assist hospitals that serve a disproportionate share 
of low income individuals which may include hospitals that furnish 
significant amounts of inpatient hospital services and outpatient 
hospital services to individuals with no source of third party coverage 
(that is, the uninsured). Under section 4723 of the Balanced Budget Act 
of 1997, the Congress also provided direct funding to the States to 
offset expenditures on behalf of aliens. Additional funding for 
payments to eligible health care providers for emergency health 
services to undocumented aliens was also provided by Congress under 
Section 1011 of the Medicare Modernization Act. The Congress has 
periodically, and as recently as the Deficit Reduction Act of 2005 
(DRA, Pub. L. 109-171, enacted on February 8, 2006), adjusted FMAPs for 
certain States and certain activities such as an enhanced FMAP to 
create incentives for States to assist individuals in institutions 
return to their homes. These examples are provided to illustrate that 
the Congress has previously authorized limited Federal financing of 
non-Medicaid individuals and public health activities, but has not to 
date authorized wider use of Federal Medicaid funding for these 
purposes. Indeed, the Congress indicated that Medicaid funding was not 
to be used for non-Medicaid purposes when in the Balanced Budget Act of 
1997 (BBA, Pub.L.105-33, enacted on August 5, 1997), it added section 
1903(i)(17) to the Act to prohibit the use of FFP ``with respect to any 
amount expended for roads, bridges, stadiums, or any other item or 
service not covered under a State plan under this title.'' Non-Medicaid 
individuals and non-Medicaid services simply are not eligible for 
Federal reimbursements except where expressly provided for by the 
Congress.
    The Medicaid cost limit provision of the regulation will ensure 
that governmentally-operated health care providers may receive up to 
100 percent of the cost of serving Medicaid individuals, while non-
Medicaid costs to the governmentally-operated health care provider will 
be more appropriately borne by those who are obligated to finance non-
Medicaid costs.
    113C. Comment: Several other commenters are concerned that since 
proposed Sec.  447.206 is applicable to DSH payments, DSH payments 
could then not exceed the cost of services to Medicaid individuals. The 
commenters argued that then DSH payments could not reflect a hospital's 
uncompensated costs of care rendered to uninsured individuals and this 
would be in direct conflict with sections 1902(a)(13)(A) and 1923(g) of 
the Act. The commenters requested that DSH payments be expressly 
excluded from the proposed cost limit. In addition, other commenters 
stated that any willing government entity should have the ability to 
pay for the non-federal share of DSH payments through either IGTs or 
CPEs.
    113R. Response: We have modified the regulation text to clarify 
that the Medicaid cost limit provision does not directly apply to DSH 
payments. The Medicaid cost limit provision is consistent with the 
statutory establishment of the hospital specific DSH limit, enacted 
under the Omnibus Budget Reconciliation Act of 1993 (OBRA `93). DSH 
payments are limited to each qualifying hospital's uncompensated care 
costs of providing inpatient and outpatient hospital services to 
Medicaid individuals and to individuals with no source of third party 
coverage for the inpatient and outpatient hospital services they 
received. Under the Medicare Modernization Act of 2005 (MMA), Congress 
enacted DSH audit and reporting requirements to ensure compliance with 
the OBRA `93 hospital-specific DSH limits. Finally, governmentally-
operated health care providers are eligible to participate in IGTs and/
or CPEs consistent with section 1903(w)(6)(A) of the Act.
    Although there is already an exception for DSH payments in Sec.  
447.272(c)(2), we have made other conforming changes. Sections 
447.206(c) and 447.321(c) have been modified to include express 
exceptions to exclude DSH payments from the determination of the 
individual health care provider's cost of providing covered Medicaid 
services to eligible Medicaid individuals.
    114C. Comment: One commenter noted that if a governmentally 
operated health care provider is reimbursed its full Medicaid costs, 
only the unreimbursed costs associated with the uninsured will be used 
to calculate its allowable DSH payment. The commenter urged CMS to 
maintain the current method of determining DSH payments.
    114R. Response: The Medicaid cost limit provision is consistent 
with the statutory establishment of the hospital specific DSH limit, 
enacted under the Omnibus Budget Reconciliation Act of 1993 (OBRA `93). 
DSH payments are limited to each qualifying hospital's uncompensated 
care costs of providing inpatient and outpatient hospital services to 
Medicaid individuals and to individuals with no source of third party 
coverage for the inpatient and outpatient hospital services they 
received. Under the Medicare Modernization Act of 2005 (MMA), Congress 
enacted DSH audit and reporting requirements to ensure compliance with 
the OBRA `93 hospital-specific DSH limits.
    115C. Comment: One commenter requested clarification on how this 
proposed cost limit impacts health care providers who provide services 
at no charge, but are allowed to bill Medicaid for such services. The 
commenter specifically asked whether the provisions of the regulation 
prevent a health care provider from billing Medicaid for those services 
the health care provider generally provides at no charge or generally 
provides to low-income individuals at no charge.
    115R. Response: The provisions of this regulation do not impact 
those policies.
    116C. Comment: A few commenters expressed concern with the impact 
the proposed cost limit would have on payments to federally qualified 
health centers (FQHCs) and rural health clinics (RHCs). Section 
1902(bb) of the Act

[[Page 29780]]

requires States to pay for services provided by FQHCs and RHCs through 
rates that are prospectively determined (based on historical costs). 
Reimbursement to these types of entities has evolved over the years 
away from cost reimbursement and towards a prospective payment system 
that encourages efficiency. This was Congress's explicit direction. The 
proposed cost limit is in direct conflict with section 1902(bb) of the 
Act. Other commenters requested clarification that FQHCs are entitled 
to receive reimbursement through their prospective payment rates in 
accordance with the statute. Other commenters recommended that the 
final regulation clarify that FQHCs and RHCs be exempt from the cost 
settlement requirements.
    116R. Response: The commenters correctly noted that section 
1902(bb) of the Act requires States to pay for services provided by 
FQHCs and RHCs through rates that are prospectively determined, based 
on a base year trended forward according to the Medicare Economic 
Index. Most FQHCs and RHCs are not governmentally operated. However, 
based on the statutory provision cited above, in order to address 
limited instances where the FQHC or RHC may be governmentally operated, 
we are amending the ``exceptions'' paragraph of the proposed Medicaid 
cost limit at Sec.  447.206(b) to exempt FQHCs and RHCs from the cost 
limit.
    117C. Comment: Several commenters requested that the proposed cost 
limit only apply to institutional governmental health care providers 
and not professional health care providers that may be employed by or 
affiliated with governmental entities. The commenters state that while 
the proposed regulation is clear that the limit applies not just to 
hospital and nursing facility providers, but also to ``non-hospital and 
non-nursing facility services'', it is unclear beyond this the scope of 
the term ``provider.'' The commenter asked whether the cost limit 
extends to professionals employed by governmental entities. These 
commenters request that the proposed regulation not be extended this 
far, as cost-based methodologies are particularly inappropriate for 
professional services. Another commenter stated that if the cost limit 
does apply to professional providers, it is unclear how to determine 
whether such providers are an ``integral part'' of a unit of government 
or are ``operated by'' a unit of government. A cost limit would be 
inappropriate for professional services, and the commenter urges CMS 
not to apply the cost limit provisions to professionals. One commenter 
requested additional clarification that CPEs can be made for 
physicians, which are not subject to cost based reimbursement 
methodologies.
    117R. Response: The proposed cost limit applies to all 
governmentally-operated Medicaid health care providers, including 
governmentally-operated entities that are paid by the State as health 
care providers for professional services. Whether or not a specific 
health care provider is subject to the Medicaid cost limit will depend 
on whether or not the health care provider is considered a unit of 
government under Sec.  433.50. CMS recognizes that legal and financial 
arrangements between health care providers and units of government vary 
on a case by case basis. Therefore, CMS has developed standardized and 
impartial regulatory criteria based upon Federal statute that States 
must apply on a consistent basis to each health care provider within 
the State to make initial determinations of governmental status. 
Finally, we note that individual physicians can be involved in CPE 
practices only indirectly; if they are paid by a unit of government 
able to participate in Medicaid financing, that unit of government can 
claim a CPE for actual payments that are consistent with the payment 
methods under the approved Medicaid State plan.
    118C. Comment: One commenter stated that they have an approved 
Medicaid supplemental payment for ambulance services, and the commenter 
specifically requested that the cost limit should not be applied to 
ambulance services. The commenter stipulated that Medicare would not 
include ambulance services for purposes of cost-based reimbursement, as 
ambulance services are reimbursed by Medicare through a fee schedule.
    118R. Response: The proposed cost limit applies to all 
governmentally-operated Medicaid health care providers, including 
ambulance providers. Whether or not a specific health care provider is 
subject to the Medicaid cost limit will depend on whether or not the 
health care provider is considered a unit of government under Sec.  
433.50. There is no statutory or regulatory basis to require Medicaid 
reimbursement policy for the provision of ambulance services to follow 
Medicare reimbursement policy for such services.
    119C. Comment: Several commenters were concerned that by limiting 
payments to providers, including physical therapists, trauma care, 
neonatal intensive care, emergency physicians and departments, burn 
units, many of these health care providers will be forced to 
significantly reduce the number of Medicaid individuals that they treat 
and may in fact choose to withdraw their enrollment from the Medicaid 
program completely. Other commenters stated that Medicaid reimbursement 
rates in a majority of the States are already very low in comparison to 
Medicare and private insurers. Another commenter stated that as fewer 
physicians accept Medicaid, more and more Medicaid individuals will end 
up in Emergency Room Departments, leading to what the recent Institute 
of Medicine report on the future of emergency care predicts is an over 
crossed emergency care system staggering under growing levels of 
uncompensated physician and hospital care. One commenter stated that 
such a policy would endanger the ability of public hospitals to ensure 
quality and patient safety and maintain vital and irreplaceable 
community services. Other commenters were concerned that the proposed 
cost limit will be harmful to the continuing viability of the range of 
services available to seriously mentally ill adults and children living 
in our communities. Another commenter noted that because States with 
public hospitals will likely favor their public hospitals in the 
distribution of available resources, the commenter believed that 
reducing the overall pool of resources available to States would end up 
hurting private, non-profit safety-net hospitals. Other commenters 
indicated that the proposed regulation will prohibit the ability of 
States to sufficiently fund their portion of Medicaid matching funds, 
effectively limiting the delivery of necessary healthcare services to 
low-income Americans. Finally, one commenter recommended that the 
proposed regulation be modified to limit all Medicaid reimbursements to 
a hospital's cost of care serving Medicaid and uninsured individuals, 
regardless of whether the facility is deemed to be a unit of 
government.
    119R. Response: CMS agrees that Medicaid is a vitally important 
program that serves very vulnerable individuals, and the Federal 
government remains committed to funding its share of the cost of 
providing Medicaid services to eligible individuals. Many of the 
expressed concerns about the potential impact of the cost limit are 
overstated. Under the provisions of the regulation, governmentally-
operated health care providers will be permitted to receive up to 100 
percent of the cost of serving Medicaid individuals. It does not appear 
that limiting Medicaid reimbursement

[[Page 29781]]

to the full cost or providing services to Medicaid individuals would 
adversely affect a governmentally-operated health care provider, unless 
the health care provider had been historically receiving Medicaid 
payments above cost and using excess Medicaid revenues to subsidize 
other costs outside of the Medicaid program. In such a situation, the 
proposed cost limit could cause a net reduction in Medicaid revenue to 
the health care provider, but the amount of the reduction would 
directly correspond with the amount of Medicaid revenues that had been 
used for non-Medicaid purposes. Governmentally-operated health care 
providers not receiving Medicaid payments in excess of costs, would not 
be adversely impacted by the Medicaid cost limit and would actually be 
eligible to receive greater Medicaid revenues, up to the cost limit. In 
either case, the cost limit provision should not force health care 
providers to reduce the number of Medicaid individuals they treat or 
withdraw from the Medicaid program.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net health care providers, are not affected by 
the cost limit provision of the regulation and may therefore continue 
to receive Medicaid payments in excess of the cost of providing 
services to Medicaid individuals within existing Federal requirements. 
It remains unclear how a limit that does not apply to public hospitals 
could adversely impact quality and patient safety and vital community 
services.
    Moreover, the provisions of the regulation reaffirms State Medicaid 
financing policy requiring that health care providers be allowed to 
fully retain their Medicaid payments, another provision of which 
clearly demonstrates the Federal government's intent to protect the 
nation's public safety net and its ability to continue delivering 
critical health care services to Medicaid individuals and the 
uninsured. Any health care providers that become ineligible to 
participate in the State financing of Medicaid payments following the 
effective date of the provisions of this regulation can realize greater 
net revenues if State or local government funding sources are utilized 
to fund non-Federal share obligations to Medicaid payments historically 
financed by non-governmentally-operated ``public'' health care 
providers.
    120C. Comment: Numerous commenters argued that governmental health 
care providers, who disproportionately serve the uninsured, should not 
be subject to a more restrictive limit than private health care 
providers. Imposing such a limit would undermine important policy 
goals, including quality, patient safety, emergency preparedness, 
enhancing access to primary and preventive care, reducing costly and 
inappropriate use of hospital emergency rooms, adoption of electronic 
medical records and reducing health disparities, shared by the 
Administration and health care providers. Further, the commenters noted 
that in the heightened security-conscious post-9/11 world, public 
hospitals play a critical role in local emergency preparedness efforts, 
enhancing their readiness to combat both manmade and natural disasters 
and epidemics. The commenters do not believe that CMS considered the 
impact of the cost limit on shared policy initiatives that HHS itself 
has established as key goals of America's complex health care system.
    120R. Response: We understand that governmentally-operated health 
care providers have numerous goals and objectives that extend beyond 
the Medicaid program and that Medicaid individuals may ultimately 
benefit from the governmentally-operated health care provider's broader 
activities. Under the cost limit of the regulation, Medicaid will 
continue to be permitted to pay for its share of costs associated with 
a governmentally-operated health care provider's services that benefit 
Medicaid individuals in accordance with applicable statutory and 
regulatory requirements. However, when Medicaid is viewed as a primary 
source of revenue for a government's non-Medicaid activities, no matter 
how noble such activities may be, the statutory purpose of the Medicaid 
program has been undermined.
    We note that the Congress has expressly provided for certain kinds 
of limited Federal participation in the costs of providing services to 
non-Medicaid individuals and public health activities. Examples of 
limited Congressional authorization of Federal financing for non-
Medicaid individuals and public health activities include the 
following. The Congress authorized disproportionate share hospital 
(DSH) payments to assist hospitals that serve a disproportionate share 
of low income individuals which may include hospitals that furnish 
significant amounts of inpatient hospital services and outpatient 
hospital services to individuals with no source of third party coverage 
(that is, the uninsured). Under section 4723 of the Balanced Budget Act 
of 1997, the Congress also provided direct funding to the States to 
offset expenditures on behalf of aliens. Additional funding for 
payments to eligible health care providers for emergency health 
services to undocumented aliens was also provided by Congress under 
Section 1011 of the Medicare Modernization Act. The Congress has 
periodically, and as recently as the Deficit Reduction Act of 2005 
(DRA, Pub. L. 109-171, enacted on February 8, 2006), adjusted FMAPs for 
certain States and certain activities such as an enhanced FMAP to 
create incentives for States to assist individuals in institutions 
return to their homes. These examples are provided to illustrate that 
the Congress has previously authorized limited Federal financing of 
non-Medicaid individuals and public health activities, but has not to 
date authorized wider use of Federal Medicaid funding for these 
purposes. Indeed, the Congress indicated that Medicaid funding was not 
to be used for non-Medicaid purposes when in the Balanced Budget Act of 
1997 (BBA, Pub.L.105-33, enacted on August 5, 1997), it added section 
1903(i)(17) to the Act to prohibit the use of FFP ``with respect to any 
amount expended for roads, bridges, stadiums, or any other item or 
service not covered under a State plan under this title.'' Non-Medicaid 
individuals and non-Medicaid services simply are not eligible for 
Federal reimbursements except where expressly provided for by the 
Congress.
    The Medicaid cost limit provision of the regulation will ensure 
that governmentally-operated health care providers may receive up to 
100 percent of the cost of serving Medicaid individuals, while non-
Medicaid costs to the governmentally-operated health care provider will 
be more appropriately borne by those who are obliged to finance non-
Medicaid costs.
    121C. Comment: A few commenters stated their concern that the 
proposed regulation could adversely affect inpatient capacity and 
community access to vital services, such as trauma centers, at a time 
when the Nation is faced with significant threats to the public. One 
commenter stated that if this proposed regulation is allowed to be 
implemented many individuals, including children, the working poor, and 
the elderly will no longer be able to obtain needed health care 
services. Several commenters indicated that they will be forced to make 
cuts to the Medicaid program that would affect participant eligibility 
and a reduction in benefits and services provided. Another commenter 
was concerned that as health care providers cut back on the number of 
uninsured they can treat, these individuals will go to health centers, 
which have already realized a

[[Page 29782]]

128 percent increase in number of uninsured treated over the past 
fifteen years, thus overwhelming their critical safety net.
    121R. Response: CMS agrees that Medicaid is a vitally important 
program that serves very vulnerable individuals, and the Federal 
government remains committed to funding its share of the cost of 
providing Medicaid services to eligible individuals. Many of the 
expressed concerns about the potential impact of the cost limit are 
overstated. Under the provisions of the regulation, governmentally-
operated health care providers will be permitted to receive up to 100 
percent of the cost of serving Medicaid individuals. It does not appear 
that limiting Medicaid reimbursement to the full cost of providing 
services to Medicaid individuals would adversely impact a 
governmentally-operated health care provider, unless the health care 
provider had been historically receiving Medicaid payments above cost 
and using excess Medicaid revenues to subsidize costs outside of the 
Medicaid program. In such a situation, the proposed cost limit could 
cause a net reduction in Medicaid revenue to the health care provider, 
but the amount of the reduction would directly correspond with the 
amount of Medicaid revenues that had been used for non-Medicaid 
purposes. Governmentally-operated health care providers not receiving 
Medicaid payments in excess of costs would not be adversely impacted by 
the cost limit and would actually be eligible to receive greater 
Medicaid revenues up to the cost limit. In either case, the cost limit 
provision should not force cuts to the Medicaid program, nor affect 
eligibility, benefits and services.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net hospitals, are not affected by the cost 
limit provision of the regulation and may therefore continue to receive 
Medicaid payments in excess of the cost of providing services to 
Medicaid individuals within existing Federal requirements. It is 
unclear how a limit that does not apply to public hospitals would 
reduce services or limit access to Medicaid individuals or to the 
uninsured.
    Moreover, the provision of the regulation that requires that health 
care providers be allowed to fully retain their Medicaid payments 
demonstrates the Federal government's intent to protect the nation's 
public safety net and its ability to continue delivering critical 
health care services to Medicaid individuals and the uninsured. This 
ensures that the full amount of Medicaid payment is available to 
support services to this vulnerable population. Moreover, health care 
providers that become ineligible to participate in financing of 
Medicaid payments following the effective date of the provisions of 
this regulation can realize greater net revenues if State or local 
government funding sources are utilized to fund non-Federal share 
obligations to Medicaid payments historically financed by non-
governmentally-operated ``public'' health care providers.
    122C. Comment: A couple of commenters were concerned that as the 
Medicaid program is streamlined to become more efficient and cost-
effective, optional services, such as physical therapy will be 
marginalized. The commenters stated that elimination of such services 
could lead to more institutionalized care and the development of more 
severe health conditions.
    122R. Response: Optional services, like physical therapy, which 
tend to reduce institutionalized care and prevent more severe health 
conditions, should not be at risk of being eliminated as the Medicaid 
program becomes more efficient and cost effective. On the contrary, 
optional services that are preventative in nature would be increasingly 
desirable in an efficient and cost-effective health care delivery 
system. Nevertheless, decisions about coverage of optional services are 
made by the States, and the Federal government will continue to match 
State expenditures for such services as long as they are an approved 
part of the State's Medicaid program consistent with all applicable 
Federal statutory and regulatory requirements.
    123C. Comment: Numerous commenters pointed out that by prohibiting 
payments of costs other than the marginal expenses associated with 
treating Medicaid individuals, public providers will be uncompensated 
for the range of costs that underlie the delivery of healthcare to this 
vulnerable population. Other commenters stipulated that the Medicaid 
statue does not equate cost with efficiency, economy and quality of 
care and there are a number of points to indicate that payments in 
excess of an individual provider's cost may still be appropriate for a 
State's Medicaid program overall. Section 1902(a)(30)(A) of the Act 
requires that Medicaid payment be sufficient to enlist enough health 
care providers so that care and services are available to Medicaid 
individuals. The commenters specified that health care providers who 
rely most on Medicaid payments are typically those who also have high 
Medicare and charity care patient use. Therefore the proposed cost 
limit would severely limit their ability to generate the margins 
necessary to operate effectively, replace or add to capital assets, and 
plan for growth, thus resulting in a reduction in the amount of 
services offered. In addition, the commenters stated that DSH payments 
are inadequate in covering the cost of charity care and providing for 
any margin on Medicaid services.
    Other commenters stated that health care providers cannot survive 
without positive operating margins. Any well-run business needs to 
achieve some margin in order to invest in the future, establish a 
prudent reserve fund, and achieve the stability which will allow it 
access to needed capital. Particularly in public hospitals, margins on 
Medicare and commercial insurance alone are not sufficient to keep 
public hospitals solvent. Various commenters stated examples of levels 
of Medicaid and uninsured in public health care providers. One 
commenter noted that Medicare and commercial insurance amount to less 
than 45 percent of public hospitals' average net revenues, while self-
pay individuals comprise 24 percent of the population served in those 
hospitals. Therefore the commenters believed it is unfair to expect 
these health care providers, with their disproportionate share of 
uninsured populations to survive and thrive.
    Many commenters stated that States traditionally pay limited 
numbers of health care providers more than their Medicaid costs. Those 
health care providers that do receive payments above cost are located 
in areas where, in addition to caring for large numbers of Medicaid 
individuals, they also care for large numbers of uninsured individuals 
and without such payments the financial viability of these providers 
would be in jeopardy. These providers would be unable to serve all of 
their patients. These commenters believe it is entirely appropriate for 
Medicaid programs to pay some health care providers more than their 
costs. Hospitals that care for large numbers of Medicaid individuals 
inevitably care for larger numbers of uninsured individuals as well. 
Several health care providers also commented on the amount of 
supplemental Medicaid funding they receive and the fact that those 
payments are critical to their ability to serve as a health care safety 
net provider in their respective communities.
    Numerous other commenters pointed out all of the activities that 
health care providers use supplemental Medicaid payments to support are 
in fact integrally related to Medicaid. The commenters were disturbed 
that CMS

[[Page 29783]]

made allegations that these payments were not in fact used for Medicaid 
purposes. For example, one health care provider indicated that ensuring 
a strong emergency response capability is critical to ensuring that 
Medicaid individuals can receive care when needed. Another commenter 
indicated that their Medicaid payments above cost help offset other 
uncompensated costs, including physician staffing, costs of serving 
indigent patients, bad debt, etc. All of these commenters stated that 
these payments are critical to ensure adequate access. Other commenters 
noted these supplemental Medicaid payments above cost were approved by 
CMS through State plan amendments.
    123R. Response: CMS agrees that Medicaid is a vitally important 
program that serves very vulnerable populations, and the Federal 
government remains committed to funding its share of the cost of 
providing Medicaid services to eligible individuals. By providing for 
the ability to pay government providers the full cost of Medicaid 
services, we are recognizing that States may contribute a fair share of 
all costs necessary to operate the provider, including the costs of 
capital assets, strategic planning for growth, and other necessary 
administrative activities.
    Further, we understand that governmentally-operated health care 
providers have numerous goals and objectives that extend beyond the 
Medicaid program and that Medicaid individuals may ultimately benefit 
from the governmentally-operated health care provider's broader 
activities. Under the cost limit of the regulation, Medicaid will 
continue to be permitted to pay for its share of costs associated with 
a governmentally-operated health care provider's services that benefit 
Medicaid individuals in accordance with applicable statutory and 
regulatory requirements. However, when Medicaid is viewed as a primary 
source of revenue for a government's non-Medicaid activities, no matter 
how noble such activities may be, the statutory purpose of the Medicaid 
program has been undermined. We note that the Congress has expressly 
provided for certain kinds of limited Federal participation in the 
costs of providing services to non-Medicaid individuals and public 
health activities. Examples of limited Congressional authorization of 
Federal financing for non-Medicaid individuals and public health 
activities include the following. The Congress authorized 
disproportionate share hospital (DSH) payments to assist hospitals that 
serve a disproportionate share of low income individuals which may 
include hospitals that furnish significant amounts of inpatient 
hospital services and outpatient hospital services to individuals with 
no source of third party coverage (that is, the uninsured). Under 
section 4723 of the Balanced Budget Act of 1997, the Congress also 
provided direct funding to the States to offset expenditures on behalf 
of aliens. Additional funding for payments to eligible health care 
providers for emergency health services to undocumented aliens was also 
provided by Congress under Section 1011 of the Medicare Modernization 
Act. The Congress has periodically, and as recently as the Deficit 
Reduction Act of 2005 (DRA, Pub. L. 109-171, enacted on February 8, 
2006), adjusted FMAPs for certain States and certain activities such as 
an enhanced FMAP to create incentives for States to assist individuals 
in institutions return to their homes. These examples are provided to 
illustrate that the Congress has previously authorized limited Federal 
financing of non-Medicaid individuals and public health activities, but 
has not to date authorized wider use of Federal Medicaid funding for 
these purposes. Indeed, the Congress indicated that Medicaid funding 
was not to be used for non-Medicaid purposes when in the Balanced 
Budget Act of 1997 (BBA, Pub. L. 105-33, enacted on August 5, 1997), it 
added section 1903(i)(17) to the Act to prohibit the use of FFP ``with 
respect to any amount expended for roads, bridges, stadiums, or any 
other item or service not covered under a State plan under this 
title.'' Non-Medicaid individuals and non-Medicaid services simply are 
not eligible for Federal reimbursements except where expressly provided 
for by the Congress.
    Additionally, many of the expressed concerns about the potential 
impact of the cost limit are overstated. Under the provisions of the 
regulation, governmentally-operated health care providers will be 
permitted to receive up to 100 percent of the cost of serving Medicaid 
individuals. We do not agree that an allowance for payments up to cost 
would violate the provision of section 1902(a)(30)(A) of the Act which 
requires that Medicaid payment be sufficient to enlist enough health 
care providers so that care and services are available to Medicaid 
individuals because all of the health care provider's Medicaid costs 
can be satisfied. We are unclear how limiting Medicaid reimbursement to 
the full cost of providing services to Medicaid individuals would 
adversely affect a governmentally-operated health care provider, unless 
as some commenters note, the health care provider had been historically 
receiving Medicaid payments above cost and using excess Medicaid 
revenues to subsidize costs outside of the Medicaid program. In such a 
situation, the proposed cost limit could cause a net reduction in 
Medicaid revenue to the health care provider, but the amount of the 
reduction would directly correspond with the amount of Medicaid 
revenues that had been used for non-Medicaid purposes. We do not 
believe Medicaid is responsible to the profit margins of 
governmentally-operated health care providers and question the 
appropriateness of such a suggestion.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net hospitals referenced by the commenters, 
are not affected by the cost limit provision of the regulation and may 
therefore continue to receive Medicaid payments in excess of the cost 
of providing services to Medicaid individuals within existing Federal 
requirements. It is unclear how a limit that does not apply to non-
governmentally-operated ``public'' health care providers could 
adversely impact the financial viability of safety net health care 
providers or access to care for Medicaid and uninsured individuals.
    Moreover, one provision of the regulation reaffirms State Medicaid 
financing policy requiring that health care providers be allowed to 
fully retain their Medicaid payments, another provision of which 
clearly demonstrates the Federal government's intent to protect the 
nation's public safety net and its ability to continue delivering 
critical health care services to Medicaid individuals and the 
uninsured. Any health care providers that become ineligible to 
participate in the State financing of Medicaid payments following the 
effective date of the provisions of this regulation can realize greater 
net revenues if State or local government funding sources are utilized 
to fund non-Federal share obligations to Medicaid payments historically 
financed by non-governmentally-operated ``public'' health care 
providers.
    124C. Comment: Many commenters stated that cost-based payments and 
limits are inherently inefficient by rewarding providers with high 
costs. Commenters pointed out that prospective payment systems are 
structured to encourage health care providers to eliminate excess costs 
by allowing them to keep payments above costs as a reward for 
efficiency. A payment limit based on costs represents a sharp departure 
from CMS' efforts to

[[Page 29784]]

bring cost-effective market principles into federal health programs. 
Rather, this proposed cost limit would incentivize health care 
providers to increase costs and eschew efficiencies in order to 
preserve revenues.
    A few other commenters noted that a return to cost-based 
reimbursement for public providers will permit them to break even at 
best, while permitting costs to spiral upwards. These commenters urged 
CMS to proceed with the development of innovative ways to reimburse 
providers as opposed to reverting solely to cost based methodologies.
    124R. Response: This rule does not require cost based paymnt 
methodologies; States have flexibility to use any payment methodology 
that results in payment levels that do not exceed provider cost. To the 
extent that a State elects a cost based payment methodology, that 
method would be limited to government providers that, by their nature, 
are not seeking profit and have a high degree of public accountability. 
As a result, we do not believe the Medicaid cost limit will give 
incentives to health care providers to increase costs. Moreover, 
because we are strengthening the integrity of the funding of the non-
federal share of expenditures, our State and local partners will play a 
role in controlling excessive costs at government providers.
    The Medicare cost allocation process utilized for institutional 
health care providers is considered a key component in determining 
Medicaid cost under the provisions of the regulation. Institutional 
governmentally-operated health care providers (i.e., hospitals 
(encompassing both inpatient and outpatient hospital services, nursing 
facilities, and intermediate care facilities for the mentally retarded 
(ICFs/MR)) will be required to provide the State with data extracted 
from primary source documents as well as copies of the source 
documents. These documents would include the governmentally-operated 
health care provider's Medicare cost report (or Medicaid cost report 
for intermediate nursing facility care and ICFs/MR consistent with 
Medicare cost reporting principles), and audited financial statements 
that will be used in conjunction with information provided by the 
States' Medicaid Management Information Systems (MMIS).
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report does not 
currently exist. Because of this, we intend to publish a standardized 
cost reporting form to document the cost of such services. The purpose 
of this standardized form is to document in a uniform manner the cost 
of providing non-institutional services to Medicaid individuals. The 
period of time to which this cost report applies will be the Medicaid 
State plan rate year.
    CMS has developed a general Medicaid Cost Reporting Protocol that 
will be on the CMS website that specifically addresses the methods 
under which institutional and non-institutional Medicaid costs will be 
determined. The protocol was designed to provide States with detailed 
instructions to determine compliance with Federal requirements.
    Finally, it is important to note that non-governmentally-operated 
health care providers, including many of the ``public'' safety net 
health care providers referenced by the commenters, are not affected by 
the Medicaid cost limit provision of the regulation and may, therefore, 
continue to receive Medicaid payments in excess of the cost of 
providing services to Medicaid individuals within existing Federal 
requirements.
    125C. Comment: Numerous commenters stated that the proposed cost 
limit would impose enormous new administrative burdens on States and 
health care providers, since cost reconciliation processes could last 
for years beyond when services are provided. These commenters argued 
since this will have no impact on the quality or effectiveness of care 
provided to individuals, these requirements should be eliminated. 
Further, the precision gained by reconciling payments to actual costs 
for the payment year as determined by a finalized cost report is not 
worth the massive diversion of resources. The commenters recommended 
that CMS revise the proposed regulation to allow States to calculate 
the cost limit on a prospective basis and allow States to invest the 
savings in services that will benefit patients.
    125R. Response: We do not believe the cost limit will impose 
significant administrative burden on States particularly since such 
limit applies only to governmentally-operated health care providers.
    For purposes of institutional governmentally-operated health care 
providers, the Medicaid cost limit determination will rely on existing 
reporting tools used by institutional health care providers. States 
will not be required to audit financial and cost information provided 
by individual institutional governmentally-operated health care 
providers as part of the Medicaid cost limit review. Each of the source 
documents is subject to reporting and auditing rules specific to the 
original purpose of that document and independent of the Medicaid cost 
limit and State review process. The State must render an determination 
on the cost limit methodology applied to the source documents but will 
not be required to validate the accuracy of the information and data 
within the source documents.
    For non-institutional services provided to Medicaid eligible 
individuals, we note that a nationally recognized, standard cost report 
does not exist. Because of this, we intend to publish a standardized 
cost reporting form to document the cost of such services. The purpose 
of this standardized form is to document in a uniform manner the cost 
of providing non-institutional services to Medicaid individuals. The 
period of time to which this cost report applies will be the Medicaid 
State plan rate year.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally operated non-institutional health care 
providers sufficient time to develop and implement Medicaid cost 
documentation and reporting processes consistent with the cost report 
template issued by CMS (including but not limited to changes in State/
provider reporting systems, changes to the Medicaid State plan, changes 
to time studies, establish periodic review and audit processes, etc.), 
States will not be required to document and report cost information 
associated with non-institutional Medicaid services until the State's 
Medicaid State plan rate year 2009. Actual submission of the State's 
summary report on the Medicaid cost limit for non-institutional 
services will not be due to CMS until December 31, 2011, which allows 
States an opportunity to implement periodic review and audit processes 
for Medicaid non-institutional costs starting in Medicaid State plan 
rate year 2009.
    CMS has developed a general Medicaid Cost Reporting Protocol that 
will be on the CMS website that specifically addresses the methods 
under which institutional and non-institutional Medicaid costs will be 
determined. The protocol was designed to provide States with detailed 
instructions to determine compliance with Federal requirements.
    126C. Comment: A few commenters believe this will create little 
real benefit to health care providers and will result in substantial 
administrative burden. They are also concerned these new documentation 
standards will also subject Medicaid providers to

[[Page 29785]]

unwarranted allegations of False Claims Act violations. These 
commenters take their obligations to report Medicaid expenditures 
properly and believe that because of this, CMS can ensure the accuracy 
of Medicaid claims without imposing burdensome certification 
requirement. Another commenter questioned how the administrative burden 
would be minimized. Another commenter stated that CMS is requiring 
States to implement interim rate methodologies with retrospective 
determination of whether the payments exceeded the provider's cost to 
provide the services. Development and implementation of these processes 
for providers, States and units of government will result in 
significantly increased administrative and auditing workloads.
    126R. Response: We agree with the commenters that most Medicaid 
health care providers take seriously their obligations to report 
Medicaid expenditures properly. While we recognize that increased 
efforts in cost reporting will increase fiscal accountability among 
units of government involved in the delivery of Medicaid services, we 
do not believe that this will produce a disproportionate number of 
meritless claims alleging violations of the False Claims Act. Moreover, 
we do not believe the Medicaid cost limit will impose significant 
administrative burden on States particularly since such limit applies 
only to governmentally-operated health care providers.
    For purposes of institutional governmentally-operated health care 
providers, the Medicaid cost limit determination will rely on existing 
cost reporting tools used by institutional health care providers. 
States will not be required to audit financial and cost information 
provided by individual institutional governmentally-operated health 
care providers as part of the Medicaid cost limit review. Each of the 
source documents is subject to reporting and auditing rules specific to 
the original purpose of that document and independent of the Medicaid 
cost limit and State review process. The State must render an 
determination on the cost limit methodology applied to the source 
documents but will not be required to validate the accuracy of the 
information and data within the source documents.
    For non-institutional services provided to Medicaid eligible 
individuals, we note that a nationally recognized, standard cost report 
does not exist. Because of this, we are publishing a standardized cost 
reporting form to document the costs of such services. The purpose of 
this standardized form is to document in a uniform manner the cost of 
providing non-institutional services to Medicaid individuals. The 
period of time to which this cost report applies will be the Medicaid 
State plan rate year.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally operated non-institutional health care 
providers sufficient time to develop and implement Medicaid cost 
documentation and reporting processes consistent with the cost report 
template issued by CMS (including but not limited to changes in State/
provider reporting systems, changes to the Medicaid State plan, changes 
to time studies, establish periodic review and audit processes, etc.), 
States will not be required to document and report cost information 
associated with non-institutional Medicaid services until the State's 
Medicaid State plan rate year 2009. Actual submission of the State's 
summary report on the Medicaid cost limit for non-institutional 
services will not be due to CMS until December 31, 2011, which allows 
States an opportunity to implement periodic review and audit processes 
for Medicaid non-institutional costs starting in Medicaid State plan 
rate year 2009.
    CMS has developed a general Medicaid Cost Reporting Protocol that 
will be on the CMS website that specifically addresses the methods 
under which institutional and non-institutional Medicaid costs will be 
determined.
    127C. Comment: One commenter indicated that cost reconciliation 
will be a ``big win'' for consulting companies that specialize in 
Medicaid and health care data. States short on resources will be forced 
to pay their high administrative fees to comply with these new 
requirements.
    127R. Response: CMS has developed a general Medicaid Cost Reporting 
Protocol that will be on the CMS website that specifically addresses 
the methods under which institutional and non-institutional Medicaid 
costs will be determined. The protocol was designed to provide States 
with detailed instructions to determine compliance with the Federal 
requirements and should not necessarily require the input from entities 
independent of the State and governmentally-operated health care 
providers. It is important to note that States must follow the 
instructional protocol and cannot deviate from such instructions. 
Determinations made by States that are inconsistent with the Federal 
requirements could result in disallowance action.
    128C. Comment: A few commenters stated that even when cost limits 
are applied, CMS should reconsider the requirement for interim and 
final payment rates for all public providers. The commenters indicated 
that prospective payment rates such as DRG-based payments or case-mix 
adjusted per diem rates are often below costs. Requiring States to use 
interim and settle-up payment methodologies adds a costly level of 
administrative burden and produces no cost savings at all. Further, the 
commenters noted that savings generated by subjecting cost-based 
prospective payment rates that are periodically updated for inflation 
to retrospective reconciliation would not be sufficient to justify the 
added administrative costs of the reconciliation process.
    128R. Response: It is important to note that ``public'' providers 
are not subject to the Medicaid cost limit. Only governmentally-
operated health care providers will be subject to the Medicaid cost 
limit. Non-governmentally-operated health care providers, including 
many of the ``public'' safety net hospitals, are not affected by the 
cost limit provision of the regulation and may therefore continue to 
receive Medicaid payments in excess of the cost of providing services 
to Medicaid individuals within existing Federal requirements.
    The Medicaid cost limit provision neither requires nor precludes 
interim and final Medicaid payment rates for governmentally-operated 
health care providers. The Medicaid cost limit provision also does not 
require States to abandon existing DRG based payment systems or any 
other existing Medicaid reimbursement rate methodologies currently 
utilized to pay governmentally-operated health care providers. Under 
the Medicaid cost limit, States may continue to use existing Medicaid 
reimbursement rate methodologies, but will need to compare such rates 
to the actual cost of providing services to Medicaid individuals and 
make reconciling adjustments in the event of overpayments to a 
governmentally-operated health care provider. The Medicaid cost limit 
provision does not require Medicaid payments to be equal to a 
governmentally-operated health care provider's cost of providing 
services to Medicaid individuals. The Medicaid cost limit provision 
instead stipulates that Medicaid payments must be no more than a 
governmentally-operated health care provider's cost of such services.
    129C. Comment: Many commenters stated that because the proposed 
cost

[[Page 29786]]

limit makes all payments received by public providers interim and 
subject to retrospective reconciliation to costs, this will cause 
severe financial hardships for public providers. Finally, the 
commenters indicated that States do not have the necessary 
administrative procedures and mechanisms in place to conduct the audits 
and appeals necessary to implement the proposed cost limit.
    129R. Response: It is important to note that ``public'' providers 
are not subject to the Medicaid cost limit. Only governmentally-
operated health care providers will be subject to the Medicaid cost 
limit. Non-governmentally-operated health care providers, including 
many of the ``public'' safety net health care providers, are not 
affected by the cost limit provision of the regulation and may 
therefore continue to receive Medicaid payments in excess of the cost 
of providing services to Medicaid individuals within existing Federal 
requirements.
    The Medicaid cost limit provision does not make all payments 
received by governmentally operated health providers ``interim'' in 
nature. The Medicaid cost limit provision also does not require States 
to replace existing Medicaid reimbursement rate methodologies currently 
utilized to pay governmentally-operated health care providers. Under 
the Medicaid cost limit, States may continue to use existing Medicaid 
reimbursement rate methodologies, but will need to compare such rates 
to the actual cost of providing services to Medicaid individuals and 
make reconciling adjustments in the event of overpayments to a 
governmentally operated provider.
    The Medicaid cost limit provision does not require Medicaid 
payments to be equal to a governmentally-operated health care 
provider's cost of providing services to Medicaid individuals. The 
Medicaid cost limit provision instead stipulates that Medicaid payments 
must be no more than a governmentally-operated health care provider's 
cost for such services.
    We do not believe the cost limit will impose significant 
administrative burden on States particularly since such limit applies 
only to governmentally-operated health care providers. These providers 
are governmental partners in providing health care and anticipate that 
there will be a degree of cooperation in complying with State 
implementation of these Medicaid requirements.
    For purposes of institutional governmentally-operated health care 
providers, the Medicaid cost limit determination will rely on existing 
cost reporting tools used by institutional health care providers. 
States will not be required to audit financial and cost information 
provided by individual institutional governmentally-operated health 
care providers as part of the Medicaid cost limit review. Each of the 
source documents is subject to reporting and auditing rules specific to 
the original purpose of that document and independent of the Medicaid 
cost limit and State review process. The State must render a 
determination on the cost limit methodology applied to the source 
documents but will not be required to validate the accuracy of the 
information and data within the source documents.
    130C. Comment: One commenter noted that the proposed requirement to 
develop a cost-based rate for each public provider with cost settlement 
after the fact is a tremendous financial and administrative burden. The 
commenter explained that CMS allows States to develop statewide 
reimbursement methodologies for specific services delivered by public 
providers and that States often do this through statewide time study 
methodologies. The commenter indicated that the proposed cost limit 
would require each provider to develop a cost-based rate for each 
service which would require individual time studies, necessitating much 
larger sample sizes and much more extensive data analysis.
    130R. Response: It is important to note that ``public'' providers 
are not subject to the Medicaid cost limit. Only governmentally-
operated health care providers will be subject to the cost limit. Non-
governmentally-operated health care providers, including many of the 
``public'' safety net health care providers referenced by the 
commenters, are not affected by the Medicaid cost limit provision of 
the regulation and may therefore continue to receive Medicaid payments 
in excess of the cost of providing services to Medicaid individuals 
within existing Federal requirements.
    The Medicaid cost limit provision also does not require the 
development of a cost-based rate for governmentally-operated health 
care providers, nor does it require States to abandon existing Medicaid 
reimbursement rate methodologies currently utilized to pay 
governmentally-operated health care providers. Under the Medicaid cost 
limit provision, States may continue to use existing Medicaid 
reimbursement rate methodologies, but will need to compare such rates 
to the individual health care provider's actual cost of providing 
services to Medicaid individuals and make reconciling adjustments in 
the event of overpayments to a governmentally operated provider.
    As important, the cost upper payment limit is provider-specific but 
it does not require reconciliation of every individual service to cost. 
Moreover, this regulation would not require time studies or sampling. 
These methods are used to determine the cost of Medicaid when the 
provider does not have other methods of establishing the proportion of 
costs attributable to the Medicaid program. In some circumstances, 
these methods may be less expensive and more efficient than maintaining 
detailed records of individual service encounters and patient 
eligibility.
    131C. Comment: One commenter discussed the unique nature of 
frontier States and the need to purchase a broad range and volume of 
Medicaid services out-of-state and the increased new workload 
associated by the provisions of this regulation. This commenter noted 
that this will require the State to make the cost limit determination 
through an audit of the unit of government or governmental health 
provider or monitor and accept the servicing State's cost limit 
determination and make the retrospectively calculated refund of any 
overpayment to CMS.
    131R. Response: We recognize that certain health care providers 
deliver services to Medicaid individuals that reside in another State 
and are reimbursed for those services from other States. Under the 
Medicaid cost limit provision of the regulation, a governmentally-
operated health care provider will not be required to differentiate 
Medicaid payments received and the Medicaid costs incurred based upon 
Medicaid individuals' State of residence. For purposes of the Medicaid 
cost limit, States must consider a governmentally-operated health care 
provider's total Medicaid revenues received and the total Medicaid 
costs incurred for providing services to Medicaid individuals, 
regardless of the State of residence of a specific Medicaid eligible 
individual. A State is only responsible to ensure compliance with the 
Medicaid cost limit for the governmentally-operated health care 
providers located in the State, and not for governmentally-operated 
health care providers in another State. This approach simplifies the 
implementation and demonstration of the Medicaid cost limit for States 
and governmentally-operated providers.
    132C. Comment: Many commenters asserted that the proposed cost 
limit will create an administrative burden on

[[Page 29787]]

States and health care providers that will be inefficient, time 
consuming and redundant. The proposed changes impose onerous reporting 
and accounting processes to government systems, including schools, 
which would likely not be beneficial to the end result of a Medicaid 
payment for the effort required. These commenters urge CMS to eliminate 
the individual provider cost limit and consider a reasonable 
measurement to ensure a proper and efficient reimbursement limitation 
without the unnecessary administrative burden.
    132R. Response: We do not believe the Medicaid cost limit will 
imposes significant administrative burden on States particularly since 
such limit applies only to governmentally-operated health care 
providers.
    For purposes of institutional governmentally-operated health care 
providers, the Medicaid cost limit determination will rely on existing 
reporting tools used by institutional health care providers. States 
will not be required to audit financial and cost information provided 
by individual institutional governmentally-operated health care 
providers as part of the Medicaid cost limit review. Each of the source 
documents is subject to reporting and auditing rules specific to the 
original purpose of that document and independent of the Medicaid cost 
limit and State review process. The State must render a determination 
on the cost limit methodology applied to the source documents but will 
not be required to validate the accuracy of the information and data 
within the source documents.
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report does not 
currently exist. Because of this, we are publishing a standardized cost 
reporting form to document the costs of such services. The purpose of 
this standardized form is to document in a uniform manner the cost of 
providing non-institutional services to Medicaid individuals. The 
period of time to which this cost report applies will be the Medicaid 
State plan rate year.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally operated non-institutional health care 
providers sufficient time to develop and implement Medicaid cost 
documentation and reporting processes consistent with the cost report 
template issued by CMS (including but not limited to changes in State/
provider reporting systems, changes to the Medicaid State plan, changes 
to time studies, establish periodic review and audit processes, etc.), 
States will not be required to document and report cost information 
associated with non-institutional Medicaid services until the State's 
Medicaid State plan rate year 2009. Actual submission of the State's 
summary report on the Medicaid cost limit for non-institutional 
services will not be due to CMS until December 31, 2011, which allows 
States an opportunity to implement periodic review and audit processes 
for Medicaid non-institutional costs starting in Medicaid State plan 
rate year 2009.
    CMS has developed a general Medicaid Cost Reporting Protocol that 
will be on the CMS Web site that specifically addresses the methods 
under which institutional and non-institutional Medicaid costs will be 
determined.
    133C. Comment: Many commenters believe that it is unreasonable to 
impose a lower limit on Medicaid reimbursements to governmental 
providers than private providers. Most commenters stated it was unclear 
why CMS believes that rates we would continue to allow states to pay 
private providers are excessive with respect to government providers. 
Another commenter mentioned that public hospitals do not have access to 
the kind of non-patient care revenues (investment income) that other 
private hospital systems do.
    Other commenters stated that if the proposed cost limit is 
consistent with section 1902(a)(30)(A) of the Act, then there is no 
rational basis for distinguishing between public and private providers. 
Requiring differential treatment of public and private Medicaid 
providers is inconsistent with the equal protection clause of the 
Constitution as well as CMS' own repeated statements regarding the 
importance of payment equality for all categories of Medicaid 
providers. In fact, in its 2002 final UPL rule CMS agreed that ``one 
group of providers should not have a financial benefit over another 
group of providers who provide the same type of services.'' CMS went on 
to explain that its intent was ``to treat all facilities equally, and 
apply the same aggregate UPL for each group of facilities, regardless 
of who owns or operates the facilities.''
    133R. Response: Although these commenters assume that this 
regulation would impose a lower limit on government providers than on 
private providers, this is not necessarily true. This rule would permit 
payment of the full cost of Medicaid services to government providers, 
which could exceed the payments available under limits based on 
Medicare payment methodologies (for example the Medicare inpatient 
prospective payment system).
    As we discussed in the preamble to the provisions of the 
regulation, there are different incentives at work in setting Medicaid 
payment rates to governmentally-operated health care providers that are 
not relevant for private health care providers. There is the potential 
for an inherent conflict of interest in setting Medicaid payment rates 
to governmentally-operated health care providers, arising from the 
ability of governmental providers to contribute the non-federal share 
of Medicaid expenditures and from the interrelated nature of 
governmental units within a State. Limits based on documented costs 
results in an objective basis to assess whether a rate is consistent 
with efficiency, economy and quality of care, because it provides for 
full payment for the costs of furnishing covered services to eligible 
individuals.
    The rational basis for distinguishing between governmentally-
operated and private health care providers is shown by the 
preponderance of States that have separate payment methodologies for 
governmentally-operated and private health care providers.
    In our 2002 issuance, this was not an issue upon which we focused; 
this regulation reflects additional consideration and analysis obtained 
through oversight reviews of Medicaid State plans and programs.
    134C. Comment: One commenter stated that given the limited 
definition of ``unit of government'', there are providers who today 
receive payments in excess of cost. Since CMS does not limit payment to 
those providers to cost, it should not apply a cost limit to public 
providers either.
    Another commenter provided an example of how States design their 
reimbursement systems to differentiate payments between an acute care 
hospital and a psychiatric care facility. The commenter stated that 
public and private entities in the acute care hospital category would 
be paid the same rate based on the services they provide and the State 
would develop a separate rate for a psychiatric care facility and apply 
it to both the public and private entities. The commenter stated that 
the proposed cost limit would force States to dismantle this reasonable 
payment methodology.
    134R. Response: The Federal Medicaid statute does not reference 
``public'' health care providers for purposes of State Medicaid 
financing, but only health care providers operated by units of 
government. The regulation limits governmentally-operated health

[[Page 29788]]

care providers to reimbursements that do not exceed the individual 
provider's cost of serving Medicaid eligible individuals. This 
regulation does not preclude States from using the same payment methods 
for governmental and private providers, as long as governmental 
providers are not paid in excess of cost. To the extent that private 
providers are paid less than their full cost, this rule would give 
States flexibility to pay governmental providers at a higher rate than 
private providers. This rule allows governmentally-operated Medicaid 
providers to be reimbursed for their full cost of providing services to 
Medicaid individuals. While the regulation does not impose a Medicaid 
cost limit on private health care providers, our reviews of Medicaid 
reimbursement methodologies indicate that some States reimburse private 
health care providers at rates that are less than the cost of serving 
Medicaid eligible individuals.
    The limit on reimbursement not to exceed cost for individual health 
care providers operated by units of government is consistent with 
statutory construction that the Federal government pays only its 
proportional cost for the delivery of Medicaid services. Because the 
Medicaid program is jointly funded by Federal, State, and local 
governments, we do not find it appropriate that units of State or local 
government would ``profit'' from Federal taxpayer dollars that are 
intended to match a percentage of the cost of providing services to 
Medicaid individuals.
    In addition, the provisions of the regulation do not force States 
to dismantle any of the existing Medicaid reimbursement rate 
methodologies they are currently utilizing to reimburse health care 
providers. Under the Medicaid cost limit, States may continue to use 
Medicaid reimbursement rate methodologies, but will need to compare 
such rates to the actual cost of providing services to Medicaid 
individuals and make reconciling adjustments in the event of 
overpayments to a particular governmentally-operated health care 
provider. States may find such cost reconciliations to be useful 
inasmuch as they will permit States to better analyze the 
reasonableness of their Medicaid reimbursement rates.
    We considered imposing cost limits on Medicaid payments to 
governmentally-operated health care providers only when those health 
care providers were paid differently than private health care 
providers. This approach, however, would have required considerably 
more oversight resources and would be subject to abuse. We foresaw that 
States could evade the intended limits by segmenting generally 
applicable payment rates in ways that effectively distinguished between 
governmentally-operated and private health care providers (for example, 
by developing a generally applicable payment rate that included a 
special payment for providers operating in a city with a population 
between 300,000 and 350,000 that has no less than 1350 beds and no more 
than 1360 beds). This outcome would not be consistent with the overall 
principle to end excessive payments to governmental providers.
    135C. Comment: One commenter stated that since CMS has noted on 
numerous occasions that States have no incentive to overpay providers 
if the providers cannot transfer funds back to the State, CMS should 
consider limiting the application of provider specific cost limits to 
only those instances in which payment methodologies for government 
providers differ from the payment methodologies for non-government 
providers. If payments to government and non-government providers are 
the same, the expense of cost reporting is not offset by any savings.
    135R. Response: We considered imposing cost limits on Medicaid 
payments to governmentally-operated health care providers only when 
those health care providers were paid differently than private health 
care providers. This approach, however, would have required 
considerably more oversight resources and would be subject to abuse. We 
foresaw that States could evade the intended limits by segmenting 
generally applicable payment rates in ways that effectively 
distinguished between governmentally-operated and private health care 
providers (for example, by developing a payment rate that included a 
special payment for health care providers operating in a city with a 
population between 300,000 and 350,000 that has no less than 1,350 beds 
and no more than 1,360 beds). This outcome would not be consistent with 
the overall principle to end excessive payments to governmentally-
operated health care providers.
    An upper payment limit based on documented cost provides a clear, 
objective test of the reasonableness of a payment methodology for 
government providers regardless of whether the provider participates in 
financing the Medicaid program. The cost limit on Medicaid 
reimbursement is consistent with the overall Federal, State and local 
partnership under which the Federal government pays only its 
proportional cost for the delivery of Medicaid services. It is not 
appropriate that units of State or local government would ``profit'' 
from Federal taxpayer dollars that are intended to match a percentage 
of the cost of providing services to Medicaid individuals.
    As important, a separate test for governmental providers that 
participate in financing the Medicaid program could be viewed as 
contrary to the statutory protection of such financing arrangements. 
State governments may share their fiscal obligation to the Medicaid 
program with local governments according to the instruction of 
Congress. Under Public Law 102-234, the Congress made clear that States 
may allow governmentally-operated health care providers to participate 
in a State's fiscal obligation to the Medicaid program through the use 
of intergovernmental transfers and certified public expenditures.
    Under this regulation, States may continue to pay governmentally-
operated and non-governmentally-operated health care providers under 
the same Medicaid reimbursement rate, as long as the applicable upper 
payment limits are met for each category of provider. The provisions of 
the regulation do not require States to dismantle any of the existing 
Medicaid reimbursement rate methodologies they are currently utilizing 
to reimburse providers. Under the Medicaid cost limit, States may 
continue to use existing Medicaid reimbursement rate methodologies, but 
will need to compare such rates to the actual cost of providing 
services to Medicaid individuals and make reconciling adjustments in 
the event of overpayments to a particular governmentally-operated 
health care provider.
    136C. Comment: Several commenters specified how the proposed cost 
limit and other provisions of the regulation will create difficult 
financing situations for the hospitals operating within their State. 
For example, the commenters noted that either a hospital will be 
considered private and therefore unable to share in the funding of the 
non-federal share of Medicaid payments or it will be considered 
governmental and able to fund the non-federal share, but subject to the 
cost limit. The commenters argued that either way, these facilities 
will be faced with significant financial losses; even in some States 
that CMS has indicated employ appropriate IGTs.
    136R. Response: This rule restores some measure of fiscal integrity 
to Medicaid financing and payment for governmental providers. We agree 
that

[[Page 29789]]

governmental providers (or non-governmental providers erroneously 
treated as such) that were paid in excess of their actual costs of 
providing Medicaid services may be adversely affected. Section 1901 of 
the Medicaid statue, however, makes clear that the intended 
beneficiaries of under the Medicaid statute are eligible individuals, 
not providers. By providing that Medicaid payments may be sufficient to 
cover the full cost of covered services at government providers, we are 
protecting the interest of those eligible individuals. Moreover, by 
providing that providers are entitled to retain Medicaid payments, we 
are ensuring that Medicaid payments are, in fact, available to pay for 
covered services and are not diverted for other purposes.
    The Medicaid program is jointly funded by Federal, State, and local 
governments. We do not find it appropriate that units of State or local 
government would ``profit'' from Federal taxpayer dollars that are 
intended to match a percentage of the cost of providing services to 
Medicaid individuals. As we have examined Medicaid financing 
arrangements across the country, we have found that many States make 
payments to governmentally operated providers that are in excess of 
cost. These providers, in turn, use the excess of Medicaid revenue over 
cost to subsidize health care operations that are unrelated to 
Medicaid, or they may return a portion of such payments to the State as 
a source of revenue. In either case, we do not find that Medicaid 
payments in excess of cost to governmentally-operated health care 
providers are consistent with the statutory principles of economy and 
efficiency as required by section 1902(a)(30)(A) of the Act, nor do we 
find such excessive payments to be consistent with the statutory 
structure requiring that the Federal government match a percentage of 
State or local government expenditures for the provision of services to 
Medicaid individuals.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net hospitals, are not affected by the cost 
limit provision of the regulation and may therefore continue to receive 
Medicaid payments in excess of the cost of providing services to 
Medicaid individuals within existing Federal requirements. Moreover, 
one provision of the regulation reaffirms State Medicaid financing 
policy requiring that health care providers be allowed to fully retain 
their Medicaid payments, another provision of which clearly 
demonstrates the Federal government's intent to protect the nation's 
public safety net and its ability to continue delivering critical 
health care services to Medicaid individuals and the uninsured. Any 
health care providers that become ineligible to participate in the 
State financing of Medicaid payments following the effective date of 
the provisions of this regulation can realize greater net revenues if 
State or local government funding sources are utilized to fund non-
Federal share obligations to Medicaid payments historically financed by 
non-governmentally-operated ``public'' health care providers.
    137C. Comment: One commenter requested clarification of whether 
States that do not use CPEs to pay providers are required to review 
annual cost reports to verify that actual payments to each 
governmentally operated provider did not exceed the provider's costs. 
The commenter questioned whether this provision applies to Medicaid 
payments that are not developed using IGTs or CPEs.
    137R. Response: Yes, the provisions of the regulation require 
States to review cost reports on an annual basis for all 
governmentally-operated health care providers to verify compliance with 
the Medicaid cost limit, even if the governmentally-operated health 
care provider was not involved in IGTs or CPEs.
    138C. Comment: A few commenters indicated that while proposed Sec.  
447.206 requires the use of the applicable Medicare cost report to 
document the costs incurred by hospitals and nursing homes operated by 
units of government, many States have developed their own State 
specific cost reports. These commenters have found the Medicare cost 
report did not provide the detailed information needed for rate setting 
processes and that the State specific cost report provided much more 
detailed information by cost center. These commenters recommend that 
the proposed rule be modified to allow States to use their own cost 
report form if the form meets or exceeds the amount of information 
included in the Medicare cost report. Other commenters recommended that 
the final rule also be clarified to allow State cost reports to be used 
as the basis for the cost settlement of government providers in lieu of 
the Medicare cost report. In addition, the commenter recommended that 
State cost principles may be used in the settlement determination. 
Another commenter stated that is not clear that there is a consistent 
use, review or audit of the Medicare cost reports and that there is an 
increasing probability for these cost reports to contain errors and/or 
omissions. This commenter recommended that CMS allow for other means to 
document provider costs in the event alternative sources prove more 
accurate and reliable.
    138R. Response: The Medicare cost allocation process utilized for 
institutional health care providers is considered a key component in 
determining Medicaid cost under the provisions of the regulation. Use 
of a nationally recognized, standardized cost report allows all States 
to document institutional Medicaid service costs in a nationally 
consistent manner. Institutional governmentally-operated health care 
providers (that is, hospitals (encompassing both inpatient and 
outpatient hospital services), nursing facilities, and intermediate 
care facilities for the mentally retarded (ICFs/MR)) will be required 
to provide the State with data extracted from primary source documents 
as well as copies of the source documents. These documents would 
include the governmentally-operated health care provider's Medicare 
cost report (or Medicaid cost report for intermediate nursing facility 
care and ICFs/MR consistent with Medicare cost reporting principles), 
and audited financial statements that will be used in conjunction with 
information provided by the States' Medicaid Management Information 
Systems (MMIS).
    States will not be required to audit financial and cost information 
provided by individual institutional governmentally-operated health 
care providers as part of the Medicaid cost limit review. Each of the 
source documents is subject to reporting and auditing rules specific to 
the original purpose of that document and independent of the Medicaid 
cost limit and State review process. The State must render an 
determination on the cost limit methodology applied to the source 
documents but will not be required to validate the accuracy of the 
information and data within the source documents.
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report does not 
exist. Because of this, we intend to publish a standardized cost 
reporting form to document the costs of such services. The purpose of 
this standardized form is to document in a uniform manner the cost of 
providing non-institutional services to Medicaid individuals. The 
period of time to which this cost report applies will be the Medicaid 
State plan rate year.
    CMS has developed a general Medicaid Cost Reporting Protocol that

[[Page 29790]]

will be available on the CMS Web site that specifically addresses the 
information utilized from each source document and the methods under 
which institutional (and non-institutional) Medicaid costs will be 
determined. The protocol was designed to provide States with detailed 
instructions to determine compliance with the Federal requirements.
    139C. Comment: Several commenters questioned when the cost report 
form for non-hospital and non-nursing facility services that is 
mentioned, would be available. One commenter inquired as to whether the 
Secretary will prospectively provide the form or will States have to 
develop the form and hope that their form meets the Secretary's 
retrospective approval. These commenters also questioned what happens 
in cases where rates have been established and approved by CMS, but do 
not potentially meet the cost test provided by the form. These 
commenters are particularly concerned since many of these providers 
(i.e., school-based service providers, health department clinics, 
community mental health clinics, physician services provided by State 
employees) have never been required to produce cost report information.
    Another commenter was concerned about the impact on home and 
community based waiver programs and the imposition of these 
requirements threatens to undermine the viability of these very 
important programs. The commenters stated that it is difficult to gauge 
the impact since cost data for non-institutional services has never 
been captured. But regardless, this will encompass many providers and 
will require great effort by States and providers to collect, report, 
analyze and reconcile these costs annually. Other commenters noted that 
many of these non-institutional providers are generally paid on a fee-
based system, which is relatively inexpensive and easy to administer. 
These commenters believe that imposing cost reporting requirements on 
these providers will be difficult and in many cases impossible for them 
to manage. They further believe that these providers may then find it 
no longer worthwhile to continue providing Medicaid services.
    139R. Response: We do not believe the Medicaid cost limit will 
impose significant administrative burden on States particularly since 
such limit applies only to governmentally-operated health care 
providers. Moreover, the benefit of clear and transparent accounting 
for the costs of medical assistance furnished by governmental providers 
will be significant. Accurate data on Medicaid costs will be available 
to guide Medicaid payment determinations by the State.
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report does not 
currently exist. Because of this, we intend to publish a standardized 
cost reporting form to document the costs of such services. The purpose 
of this standardized form is to document in a uniform manner the cost 
of providing non-institutional services to Medicaid individuals. The 
period of time to which this cost report applies will be the Medicaid 
State plan rate year.
    140C. Comment: One commenter indicated that the requirement that 
providers of non-institutional/non-acute care Medicaid services 
operated by units of government must submit annual cost reports to 
ensure Medicaid reimbursements do not exceed the allowable Medicaid 
costs of the provider, is in direct conflict with the current direction 
provided by CMS' Non-Institutional Payment Team (NIPT). The commenter 
stated that the NIPT has advised that if Medicaid rates are established 
using Medicare or commercial rates as the basis, cost reports would no 
longer be required from these providers unless certified public 
expenditures are used. This commenter recommends the use of market-
based rates. By moving to market-based rates, States have the same 
incentive as private providers to control their costs to stay within 
the market based rates and that by allowing providers to be reimbursed 
up to cost, it is usually interpreted by providers as an entitlement 
for these providers to be able to recover their full cost. There is no 
incentive to control costs. With guidance from the NIPT, the commenter 
was advised to eliminate the cost report requirement as an incentive 
for State agencies to voluntarily move to market-based rates. The 
commenter urges CMS to modify the proposed rule to remove the 
requirement for cost reports for non-institutional services when a CMS-
approved market based reimbursement methodology is used and the 
services are not funded through a CPE.
    Another commenter stated that Medicare rates used by States as 
payments for their Medicaid programs should be exempt from the cost 
settlement process. This commenter explained that if this proposed cost 
limit extends to programs that currently do not have a cost report, but 
some of these programs may use Medicare rates, the State may need to 
develop a new cost report that applies only to government providers 
solely to determine their cost for cost settlement.
    140R. Response: There are no Medicaid reimbursement rate 
methodologies for governmentally-operated health care providers that 
would be ``exempt'' from the Medicaid cost limit provision of this 
regulation. The regulation does not require States to modify any of the 
existing Medicaid reimbursement rate methodologies they are currently 
utilizing to reimburse governmentally-operated health care providers. 
Under the Medicaid cost limit, States will be able to continue to use 
existing reimbursement rate methodologies, but will need to compare 
such rates to the actual cost of providing services to Medicaid 
individuals and make reconciling adjustments in the event of 
overpayments to a particular governmentally-operated health care 
provider. Prior agency guidance is superseded by this regulation.
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report does not 
exist. Because of this, we intend to publish a standardized cost 
reporting form to document such services. The purpose of this 
standardized form is to document in a uniform manner the cost of 
providing non-institutional services to Medicaid individuals. The 
period of time to which this cost report applies will be the Medicaid 
State plan rate year.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally operated non-institutional health care 
providers sufficient time to develop and implement Medicaid cost 
documentation and reporting processes consistent with the cost report 
template issued by CMS (including but not limited to changes in State/
provider reporting systems, changes to the Medicaid State plan, changes 
to time studies, establish periodic review and audit processes, etc.). 
States will not be required to document and report cost information 
associated with non-institutional Medicaid services until the State's 
Medicaid State plan rate year 2009. Actual submission of the State's 
summary report on the Medicaid cost limit for non-institutional 
services will not be due to CMS until December 31, 2011, which allows 
States an opportunity to implement periodic review and audit processes 
for Medicaid non-institutional costs starting in Medicaid State plan 
rate year 2009.
    CMS has developed a general Medicaid Cost Reporting Protocol that 
will be available on the CMS website

[[Page 29791]]

that specifically addresses the methods under which non-institutional 
(and institutional) Medicaid costs will be determined. The protocol was 
designed to provide States with detailed instructions to determine 
compliance with the Federal requirements.
    141C. Comment: One commenter stated that they identified several 
providers which may be governmental providing other than hospital or 
nursing services in the less populated areas of the State. The 
commenter suggested that CMS should acknowledge the true impact on 
smaller units of government or governmentally-operated health care 
providers and provide some floor criteria below which the regulations 
would not apply. The commenter offered some examples of potential floor 
criteria: The number of facility beds; Medicaid eligible population in 
some mile radius; number of Medicaid individuals served by the unit of 
government or governmental health provider and population base in the 
unit of government's area. Another commenter suggested other bases for 
exemption: The extent to which public providers are a significant 
percentage of the total providers using the same reimbursement 
methodology; a dollar reimbursement threshold; or a demonstration that 
reimbursement in the aggregate does not exceed cost.
    141R. Response: Although we note the unique circumstances of 
providers in less populated areas, the provisions of the regulation are 
intended to apply uniformly across the country, regardless of a 
provider's particular size, location, or reimbursement characteristics 
unique to certain governmentally-operated health care providers.
    It is important to note that ``public'' providers are not subject 
to the Medicaid cost limit. Only governmentally-operated health care 
providers will be subject to the Medicaid cost limit. Non-
governmentally-operated health care providers, including many of the 
``public'' safety net health care providers, are not affected by the 
cost limit provision of the regulation and may therefore continue to 
receive Medicaid payments in excess of the cost of providing services 
to Medicaid individuals within existing Federal requirements.
    142C. Comment: One commenter was concerned about the impact of 
Medicare cost reports on physician services. The commenter stated that 
Medicare separates out the professional services component that is 
covered under Part B, leaving only the cost of physician services to 
the hospital on the hospital cost report. In this circumstance, there 
is no similar rationale under Medicaid for public hospitals since they 
directly employ or contract for physicians to serve their patients. 
Other commenters recommended that physician services be excluded from 
the cost limit.
    142R. Response: The Federal Medicaid statute does not include a 
term nor discussion that references a ``public'' health care provider 
for purposes of State Medicaid financing. The regulation limits 
governmentally-operated health care providers to reimbursements that do 
not exceed the individual provider's cost of serving Medicaid eligible 
individuals. Governmentally-operated entities that are paid by the 
State as providers of physician services are subject to the Medicaid 
cost limit. Costs to governmentally-operated entities paid by the State 
as providers of physician services rendered outside the hospital will 
be documented using the standardized cost reporting form issued by CMS 
that will be used to document such services. The purpose of this 
standardized form is to document in a uniform manner the cost of 
providing non-institutional services to Medicaid individuals.
    The Medicaid Cost Reporting Protocol that will be available on the 
CMS Web site addresses the methods under which institutional and non-
institutional Medicaid costs will be determined. The protocol was 
designed to provide States with detailed instructions to determine 
compliance with the Federal requirements.
    143C. Comment: One commenter requested clarification regarding 
discrepancies between the preamble and proposed regulatory text at 
Sec.  447.206. The commenter stated that the preamble suggests the use 
of Medicare cost reports for hospitals and nursing facility services 
with exceptions to be addressed on a case-by-case basis, but the 
regulation text states that costs for such services ``must'' be 
supported using Medicare cost report information.
    143R. Response: The Medicare cost allocation process utilized for 
institutional health care providers is considered a key component in 
determining Medicaid cost under the regulation. Institutional 
governmentally-operated health care providers (i.e. hospitals 
(encompassing both inpatient and outpatient hospital services), nursing 
facilities, and intermediate care facilities for the mentally retarded 
(ICFs/MR)) will be required to provide the State with data extracted 
from primary source documents as well as copies of the source 
documents. These documents would include the governmentally-operated 
health care provider's Medicare cost report (or Medicaid cost report 
for intermediate nursing facility care and ICFs/MR consistent with 
Medicare cost reporting principles), and audited financial statements 
that will be used in conjunction with information provided by the 
States' Medicaid Management Information Systems (MMIS).
    For purposes of institutional governmentally-operated health care 
providers, the Medicaid cost limit determination will rely on existing 
reporting tools used by institutional health care providers. States 
will not be required to audit financial and cost information provided 
by individual institutional governmentally-operated health care 
providers as part of the Medicaid cost limit review. Each of the source 
documents is subject to reporting and auditing rules specific to the 
original purpose of that document and independent of the Medicaid cost 
limit and State review process. The State must render an determination 
on the cost limit methodology applied to the source documents but will 
not be required to validate the accuracy of the information and data 
within the source documents.
    144C. Comment: One commenter requested that CMS specify in the 
regulation text the process, timeframes, and appeal rights regarding 
CMS' action on a State's request to approve its cost reports for non-
hospital/non-nursing facility providers, and for adjusted Medicare cost 
reports for hospitals/nursing facilities.
    144R. Response: States will not be expected to develop their own 
cost reports for purposes of the Medicaid cost limit under the 
regulation. For non-institutional services provided to Medicaid 
eligible individuals, a nationally recognized, standard cost report 
does not currently exist. Because of this, we intend to publish a 
standardized cost reporting form to document the costs of such 
services. The purpose of this standardized form is to document in a 
uniform manner the cost of providing non-institutional services to 
Medicaid individuals. The period of time to which this cost report 
applies will be the Medicaid State plan rate year.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally-operated non-institutional health care 
providers sufficient time to develop and implement Medicaid cost 
documentation and reporting processes consistent with the cost report 
template issued by CMS (including but not limited to changes in State/
provider reporting systems, changes to the

[[Page 29792]]

Medicaid State plan, changes to time studies, establish periodic review 
and audit processes, etc.), States will not be required to document and 
report cost information associated with non-institutional Medicaid 
services until the State's Medicaid State plan rate year 2009. Actual 
submission of the State's summary report on the Medicaid cost limit for 
non-institutional services will not be due to CMS until December 31, 
2011, which allows States an opportunity to implement periodic review 
and audit processes for Medicaid non-institutional costs starting in 
Medicaid State plan rate year 2009.
    CMS has developed a general Medicaid Cost Reporting Protocol that 
will be on the CMS website that specifically addresses the methods 
under which non-institutional (and institutional) Medicaid costs will 
be determined. The protocol was designed to provide States with 
detailed instructions to determine compliance with the Federal 
requirements.
    145C. Comment: Many commenters were confused by the proposed 
language in Sec. Sec.  447.206(d) through 447.206(e). The commenters 
stated that CMS alternated between mandatory and permissive language 
regarding the State obligations during CPE reconciliations. The 
commenters believed that CMS' intent was to require the submission of 
cost reports whenever providers are paid using a cost reimbursement 
methodology funded by CPEs and to permissively allow States to provide 
interim payment rates based on the most recently filed prior year cost 
reports. They also believed States providing interim payment rates must 
undertake an interim reconciliation based on filed cost reports for the 
payment year in question and a final reconciliation based on finalized 
cost reports. The commenters also believed CMS' intent was that for 
providers whose payments are not funded by CPEs, the providers are 
required to submit cost reports and the State is required to review the 
cost reports and verify that payments during the year did not exceed 
costs. The commenters requested CMS confirm this understanding of the 
regulatory language.
    145R. Response: Under the Medicaid cost limit provision of the 
regulation, States may continue to use existing Medicaid reimbursement 
rate methodologies, which are not funded by CPEs, but will need to 
compare such rates to the actual cost of providing services to Medicaid 
individuals and make reconciling adjustments in the event of 
overpayments to a governmentally-operated provider. The Medicaid cost 
limit provision does not require Medicaid payments to be equal to a 
governmentally-operated health care provider's cost. The Medicaid cost 
limit provision instead stipulates that Medicaid payments must be no 
more than a governmentally-operated health care provider's cost of 
providing services to Medicaid individuals. Section 447.206(e) 
specifically addresses situations where governmentally-operated health 
care providers are reimbursed using Medicaid reimbursement rate 
methodologies not funded by CPEs.
    States must utilize cost reimbursement methodologies for Medicaid 
payments that are funded by CPEs. Section 447.206(d)(2) indicates that 
States may utilize interim rates and may trend those interim rates by 
an applicable health care-related index. If interim rates are used, 
then interim reconciliations must be performed by reconciling the 
interim Medicaid payment rates to the ``as filed'' cost report for the 
spending year in which interim Medicaid payment rates were made. 
Paragraph (3) of this provision also establishes that final 
reconciliation must be performed annually by reconciling any Medicaid 
interim payments to the finalized cost report for the spending year in 
which all interim payments were made. As stated previously, these 
procedures related to interim and final reconciliations at Sec.  
447.206(d) are applicable when States utilize cost reimbursement 
methodologies that are funded by CPEs.
    146C. Comment: A few commenters requested clarification regarding 
proposed Sec.  447.206(d)(2). The commenters requested clarification 
that this section is applicable only in a retrospective cost 
reimbursement methodology and does not apply to a prospective cost 
reimbursement methodology. The commenters are concerned that health 
care providers could construe that States are required to pay full 
costs, rather than that payments are limited to cost, in a prospective 
cost reimbursement methodology. Where payments are less than cost, 
health care providers would argue an additional Medicaid payment would 
be due.
    146R. Response: Under the Medicaid cost limit provision of the 
regulation, States may continue to use existing Medicaid reimbursement 
rate methodologies, which are not funded by CPEs, but will need to 
compare such rates to the actual cost of providing services to Medicaid 
individuals and make reconciling adjustments in the event of 
overpayments to a governmentally-operated provider. The Medicaid cost 
limit provision does not require Medicaid payments to be equal to a 
governmentally-operated health care provider's cost. The Medicaid cost 
limit provision instead stipulates that Medicaid payments must be no 
more than a governmentally-operated health care provider's cost of 
providing services to Medicaid individuals. Section 447.206(e) 
specifically addresses situations where governmentally-operated health 
care providers are reimbursed using Medicaid reimbursement rate 
methodologies not funded by CPEs.
    States must utilize cost reimbursement methodologies for Medicaid 
payments that are funded by CPEs. Section 447.206(d)(2) indicates that 
States may utilize interim rates and may trend those interim rates by 
an applicable health care-related index. If interim rates are used, 
then interim reconciliations must be performed by reconciling the 
interim Medicaid payment rates to the ``as filed'' cost report for the 
spending year in which interim Medicaid payment rates were made. 
Paragraph (3) of this provision also establishes that final 
reconciliation must be performed annually by reconciling any Medicaid 
interim payments to the finalized cost report for the spending year in 
which all interim payments were made. As stated previously, these 
procedures related to interim and final reconciliations at Sec.  
447.206(d) are applicable when States utilize cost reimbursement 
methodologies that are funded by CPEs.
    147C. Comment: A few commenters requested clarification regarding 
proposed Sec.  447.206(d)(3). The commenters request clarification that 
the finalized cost report may be prepared by the Medicaid agency rather 
than requiring the Medicaid agency to wait for a Medicare intermediary 
to finalize the cost report. The Medicaid agency shouldn't have to wait 
for the Intermediary's generated final or accept the Medicare 
intermediary's determination of Medicaid costs.
    147R. Response: The Medicare cost allocation process utilized for 
institutional health care providers is considered a key component in 
determining Medicaid cost under the provisions of the regulation. Use 
of a nationally recognized, standardized cost report allows all States 
to document institutional Medicaid service costs in a nationally 
consistent manner. Institutional governmentally-operated health care 
providers (that is, hospitals (encompassing both inpatient and 
outpatient hospital services), nursing facilities, and intermediate 
care facilities for the mentally retarded (ICFs/MR)) will be required 
to provide

[[Page 29793]]

the State with data extracted from primary source documents as well as 
copies of the source documents. These documents would include the 
governmentally-operated health care provider's Medicare cost report (or 
Medicaid cost report for intermediate nursing facility care and ICFs/MR 
consistent with Medicare cost reporting principles), and audited 
financial statements that will be used in conjunction with information 
provided by the States' Medicaid Management Information Systems (MMIS).
    States will not be required to audit financial and cost information 
provided by individual institutional governmentally-operated health 
care providers as part of the Medicaid cost limit review. Each of the 
source documents is subject to reporting and auditing rules specific to 
the original purpose of that document and independent of the Medicaid 
cost limit and State review process. The State must render an 
determination on the cost limit methodology applied to the source 
documents but will not be required to validate the accuracy of the 
information and data within the source documents.
    We understand that there may be delays with the Medicare fiscal 
intermediary finalizing the Medicare cost report. To ensure compliance 
with the Medicaid cost limit, we have modified the final regulation to 
provide a generous but definite timeframe for a State's review of 
Medicaid payments made to institutional governmentally-operated health 
care providers. For any cost reports that are not finalized in that 
timeframe, the State should use the ``as filed'' report and indicate 
such in the summary report to CMS. The State should then submit a 
corrected summary report to CMS within 30 days of the finalization of 
the Medicare cost report.
    148C. Comment: A couple of commenters recommended that States be 
allowed the option of having a single settlement and forgo the interim 
settlement process when using CPEs. The commenters stated that 
currently only final settlements are conducted and this interim 
settlement would require an additional step.
    148R. Response: Provisions at Sec.  447.206(d)(2) address 
reconciliations of interim rates to ``filed'' cost reports, while 
provisions Sec.  447.206(d)(3) address reconciliations of interim rates 
to ``finalized'' cost reports. Such a distinction is historically 
relevant to institutional health care providers (hospitals and nursing 
homes) which ``file'' cost reports with a Medicare fiscal intermediary, 
after which the cost report is ``finalized'' following fiscal 
intermediary review. The provisions at Sec. Sec.  447.206(d)(2) and 
447.206(d)(3) require that reconciliations be performed at both steps 
for purposes of documenting costs for the institutional health care 
provider's services to Medicaid individuals.
    Non-institutional governmentally-operated health care providers 
must use the standardized cost reporting form issued by CMS, which will 
be subject to a State established review and audit process that must 
also include interim and final reconciliations for purposes of CPE.
    149C. Comment: Several commenters requested that the proposed 
requirement to limit payments to health care providers not funded by 
CPEs be eliminated.
    149R. Response: The Medicaid cost limit provision applies to all 
health care providers operated by units of government within the State, 
regardless of how the non-Federal share of Medicaid payments made to 
the governmentally-operated health care provider are funded.
    150C. Comment: One commenter requested clarification in the 
regulation text on the timing requirements for reconciliation and for 
final payments.
    150R. Response: To ensure compliance with the Medicaid cost limit, 
CMS has modified the regulation to indicate that a State's review of 
Medicaid payments made to institutional governmentally-operated health 
care providers during Medicaid State plan rate year 2008 must be 
completed no later than the last day of federal fiscal year 2010. The 
State must submit a summary report of the findings of this review by 
the last day of calendar year of 2010. The basis for these deadlines is 
the recognition that hospitals (for both inpatient and outpatient 
hospital services), nursing homes and ICFs/MR may have a cost reporting 
period that remains open after the Medicaid State Plan rate year under 
review has ended. The State review and reporting deadlines allow 
sufficient time for the cost report period that remains open at the end 
of a Medicaid State Plan rate year to close and for the cost report to 
be submitted to the fiscal intermediary. For any cost reports that are 
not finalized, the State should use the ``as filed'' report and 
indicate such in the summary report to CMS. The State should then 
submit a corrected summary report to CMS within 30 days of the 
finalization of the cost report.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally-operated non-institutional health care 
providers sufficient time to develop and implement Medicaid cost 
documentation and reporting processes consistent with the cost report 
template issued by CMS (including but not limited to changes in State/
provider reporting systems, changes to the Medicaid State plan, changes 
to time studies, establish periodic review and audit processes, etc.), 
States will not be required to document and report cost information 
associated with non-institutional Medicaid services until the State's 
Medicaid State plan rate year 2009. Actual submission of the State's 
summary report on the Medicaid cost limit for non-institutional 
services will not be due to CMS until December 31, 2011, which allows 
States an opportunity to implement periodic review and audit processes 
for Medicaid non-institutional costs starting in Medicaid State plan 
rate year 2009.
    151C. Comment: Many commenters stated that the proposed cost limit 
would impose deep cuts in safety net support without addressing the 
inappropriate Medicaid financing abuses CMS has been working to 
address. The commenters acknowledged that according to CMS it has 
eliminated ``recycling'' the cost limit is supposed to address. Yet the 
commenters argued that imposing the proposed cost limit will do nothing 
to address recycling, rather it will only result in limiting net 
funding to governmental providers. The commenters recommended that 
rather than imposing the new cost limit, CMS should continue to address 
issues on a case-by-case basis through State Plan amendment (SPA) 
review.
    Several commenters disagreed with CMS' statements in the proposed 
rule that States operate inappropriate financing structures. The 
commenters stipulated the States have worked to ensure that their 
financing policies do not denigrate the integrity of the Medicaid 
program and have received approval by CMS for these systems. Further, 
States have been subject to significant State and federal audit reviews 
and the commenters argued that these audit reviews and oversight 
mechanisms are sufficient for identifying any future potential threats 
to the integrity of the Medicaid program rather than the burdensome 
provisions within this proposed rule.
    Similarly, one commenter discussed their example of working with 
CMS to approve a nursing facility reimbursement methodology that 
authorized payments to county-operated nursing facilities at 94 percent 
of the Medicare payment rate with the understanding that the counties 
would be contributing, through IGTs, to the

[[Page 29794]]

State a portion of the payment in an amount not to exceed the non-
federal share. The commenter stated that through the review of this SPA 
all of the issues raised by CMS were addressed. The commenter believed 
that this is a prime example of the federal-State partnership at work. 
The commenter noted that the ability of CMS to deal through the State 
plan process with what it perceived to be a financing problem and to 
work with the State to develop a solution demonstrates why there is no 
need for further regulation. Several other commenters noted that after 
working extensively with CMS by removing problematic IGTs, they are now 
characterized as using IGTs appropriately.
    151R. Response: We understand that many States utilize Medicaid 
financing methods that are consistent with the Medicaid statute and 
that existing Federal oversight mechanisms have been effective in 
addressing a number of State Medicaid financing abuses. An upper 
payment limit based on documented cost is nevertheless justified to 
prevent excessive payments to governmental providers. Such an upper 
payment provides a clear, objective test of the reasonableness of a 
payment methodology for government providers regardless of whether the 
provider participates in financing the Medicaid program. This limit is 
also consistent with statutory construction that the Federal government 
pays only its proportional cost for the delivery of Medicaid services. 
Because the Medicaid program is jointly funded by Federal, State, and 
local governments, we do not find it appropriate that units of State or 
local government would ``profit'' from Federal taxpayer dollars that 
are intended to match a percentage of the cost of providing services to 
Medicaid individuals.
    Under the provisions of the regulation, governmentally-operated 
health care providers will be permitted to receive up to 100 percent of 
the cost of serving Medicaid individuals. It does not appear that 
limiting Medicaid reimbursement to full cost would hurt a 
governmentally-operated health care provider, unless the 
governmentally-operated health care provider had been historically 
receiving Medicaid payments above cost and using excess Medicaid 
revenues to subsidize costs outside of the Medicaid program. In such a 
situation, the Medicaid cost limit could cause a net reduction in 
Medicaid revenue to the governmentally-operated health care provider, 
but the amount of the reduction would directly correspond with the 
amount of Medicaid revenues that had been used to satisfy non-Medicaid 
activities.
    152C. Comment: Many commenters were concerned that the proposed 
cost limit would not allow health care providers to include important 
elements in their cost calculation. One commenter questioned whether 
the Secretary would prospectively establish the reasonable methods to 
identify and allocate Medicaid costs. For example, several commenters 
cited costs for physician services, on-call availability costs, capital 
costs and health information technology costs. These commenters 
recommended that CMS allow the reasonable costs necessary for the 
continued operation of health care providers. Other commenters 
recommended that CMS provide guidance on how Medicaid costs would be 
determined and that at a minimum any determination of Medicaid costs 
would include all costs necessary to operate a governmental facility. 
These commenters cited many examples.
    A few commenters inquired as to what cost finding principles will 
be used to determine which costs are associated with the provision of 
the Medicaid service. One commenter further questioned whether the cost 
finding principles would be standardized, how will they differ from 
existing cost finding guidance and, why. This commenter stipulated that 
a more comprehensive definition of costs is needed since CMS has 
decided not to use Medicare's cost principles or the principles of OMB 
Circular A-87.
    The commenters also noted that some costs on a hospital's cost 
report are allocated to cost centers judged to be unreimbursable for 
purposes of Medicare, but are appropriately reimbursed under Medicaid 
or DSH. Such costs include costs for a clinic that exclusively serves 
Medicaid and uninsured individuals.
    152R. Response: Medicaid service costs must be documented for 
institutional providers through Medicare cost reporting methods. We 
agree some adjustments would be needed to reflect the costs of Medicaid 
services; for example, Medicaid only units that would be excluded from 
the calculation of Medicare patient care costs would be included in 
calculating Medicaid patient care costs (and non-Medicaid units would 
be excluded). But all the information necessary to calculate Medicaid 
cost should be found on the Medicare cost report. For non-institutional 
services provided to Medicaid eligible individuals, a nationally 
recognized, standard cost report does not currently exist. Because of 
this, we intend to publish a standardized cost reporting form to 
document the costs of such services.
    The Medicare cost allocation process utilized for institutional 
health care providers is considered a key component in determining 
Medicaid cost under the regulation. Institutional governmentally-
operated health care providers (that is, hospitals (encompassing both 
inpatient and outpatient hospital services), nursing facilities, and 
intermediate care facilities for the mentally retarded (ICFs/MR)) will 
be required to provide the State with data extracted from primary 
source documents as well as copies of the source documents. These 
documents would include the governmentally-operated health care 
provider's Medicare cost report (or Medicaid cost report for 
intermediate nursing facility care and ICFs/MR consistent with Medicare 
cost reporting principles), and audited financial statements that will 
be used in conjunction with information provided by the States' 
Medicaid Management Information Systems (MMIS).
    For non-institutional services provided to Medicaid eligible 
individuals, use of a standardized form will document in a uniform 
manner the cost of providing non-institutional services to Medicaid 
individuals. The period of time to which this cost report applies will 
be the Medicaid State plan rate year.
    CMS has developed a general Medicaid Cost Reporting Protocol that 
will be available on the CMS website that specifically addresses the 
information utilized from each source document and the methods under 
which institutional and non-institutional Medicaid costs will be 
determined. The protocol was designed to provide States with detailed 
instructions to determine compliance with the Federal requirements.
    153C. Comment: One commenter questioned whether CMS would define 
which provider costs and what specific Medicare/Medicaid 2552-96 
worksheets and lines may be included in developing this new cost limit.
    153R. Response: CMS has developed a general Medicaid Cost Reporting 
Protocol that will be on the CMS Web site that specifically addresses 
the information utilized from each source document, including the 
Medicare 2552-96 hospital cost report, and the methods under which 
institutional and non-institutional Medicaid costs will be determined. 
The protocol was designed to provide States with detailed instructions 
to determine compliance with the Federal requirements.

[[Page 29795]]

    154C. Comment: One commenter questioned whether CMS intends to 
develop case mix indices for non-institutional providers or require 
States to do so.
    154R. Response: States utilizing Medicaid cost reimbursement 
methodologies may develop interim payment rates based on prior period 
costs or case-mix and apply a related health inflation index. However, 
the Medicaid cost limit provision limits Medicaid payments to the 
actual costs of providing services to Medicaid individuals and the 
State must reconcile these interim payments to actual documented cost.
    155C. Comment: One commenter was concerned that costs for 
preventive and wellness care services would not be allowable. The 
commenter is also concerned that costs for physical therapists would 
not be allowed. The commenter states the importance of these services 
in helping individuals maintain their health by preventing further 
deterioration or future illness.
    155R. Response: CMS will continue to provide Federal matching funds 
for State expenditures under the authority of a State's approved 
Medicaid State plan. Provided that preventive and wellness services and 
physical therapy services for Medicaid individuals are considered 
reimbursable costs under the approved State Plan, CMS will continue to 
provide Federal funds to match State expenditures for these services to 
the extent all such reimbursements and State financing are consistent 
with Federal requirements.
    156C. Comment: Many commenters requested that CMS confirm that 
graduate medical education (GME) costs would be considered allowable 
costs as part of the proposed cost limit. These commenters cited that 
as of 2005, 47 States and the District of Columbia provided explicit 
GME payments to teaching hospitals and that numerous approved State 
plan provisions authorize such payments. These commenters stated that 
excluding these costs could seriously undermine the infrastructure for 
training new physicians across the country.
    156R. Response: The allowability of graduate medical education 
(GME) costs or payment is not affected by this regulation. This issue 
is the subject of a recently issued Notice of Proposed Rulemaking, 
which would make unallowable payment for direct GME costs, consistent 
with the concept included in the President's Budget for Fiscal Year 
2008.
    157C. Comment: One commenter requested clarification regarding how 
States should identify costs for providers operated by units of 
government that do not serve Medicare individuals and, therefore, do 
not use and have never used Medicare cost reports.
    157R. Response: Nursing homes that only provide intermediate care 
services and therefore do not file a Medicare cost report must use 
State cost reports generally consistent with the Medicare cost 
reporting principles utilized in the Medicare 2540 cost report form to 
determine costs associated with skilled care services.
    While Medicare does not have an equivalent cost report for the 
services provided in ICFs/MR, we recognize that States typically follow 
Medicare cost principles in determining Medicaid payment rates for 
ICFs/MR. We further note that the services provided in ICFs/MR are 
predominately delivered to Medicaid eligible individuals. Therefore, 
cost data should be extracted from existing State cost reports for 
services provided in ICFs/MR. Such cost reports must be generally 
consistent with Medicare cost reporting principles.
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report does not 
currently exist. Because of this, we are publishing a standardized cost 
reporting form to document the costs of such services. The purpose of 
this standardized form is to document in a uniform manner the cost of 
providing non-institutional services to Medicaid individuals. The 
period of time to which this cost report applies will be the Medicaid 
State plan rate year.
    158C. Comment: One commenter indicated that there are a broad array 
of indirect and unreimbursed costs associated with Medicaid 
individuals. The commenter argued that the uniqueness of Medicaid 
individuals' socio-economic status make them much costlier. For 
example, the commenter detailed that Medicaid individuals have a higher 
rate of missed appointments than private pay or Medicare individuals, 
under utilize preventive care which then leads to more costly and 
complex care, increased severity of medical conditions, lack of follow-
through or compliance with treatment plans, and use of hospital 
emergency rooms as a primary care source. The commenter urged CMS to 
ensure that the true costs associated with Medicaid individuals are 
captured and the cost limit not be based on strictly patient care 
costs. Another commenter indicated that limiting reimbursement to costs 
only would be devastating to facilities operating in States that do not 
adjust each year for the real costs to provide services to the frail 
and elderly.
    158R. Response: The cost reporting mechanisms that would be used 
have sufficient flexibility to ensure determination of the full cost of 
furnishing Medicaid services. At the same time, they will provide a 
standardized and uniform cost determination methodology.
    The Medicare cost allocation process utilized for institutional 
health care providers is considered a key component in determining 
Medicaid cost under the regulation. Institutional governmentally-
operated health care providers (that is, hospitals, nursing facilities, 
and intermediate care facilities for the mentally retarded (ICFs/MR)) 
will be required to provide the State with data extracted from primary 
source documents as well as copies of the source documents. These 
documents would include the governmentally-operated health care 
provider's Medicare cost report (or Medicaid cost report for 
intermediate nursing facility care and ICFs/MR consistent with Medicare 
cost reporting principles), and audited financial statements that will 
be used in conjunction with information provided by the States' 
Medicaid Management Information Systems (MMIS).
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report does not 
currently exist. Because of this, we are publishing a standardized cost 
reporting form to document the costs of such services. The purpose of 
this standardized form is to document in a uniform manner the cost of 
providing non-institutional services to Medicaid individuals. The 
period of time to which this cost report applies will be the Medicaid 
State plan rate year.
    159C. Comment: One commenter stated that since their rates for 
Medicaid services have not been indexed for inflation over the past 
fourteen years, it shouldn't be necessary for them to prove costs.
    159R. Response: There are no Medicaid reimbursement rate 
methodologies for governmentally-operated health care providers that 
would be ``exempt'' from the Medicaid cost limit provision of the 
regulation. The regulation does not require States to modify existing 
Medicaid reimbursement rate methodologies they are currently utilizing 
to reimburse governmentally-operated health care providers. Under the 
Medicaid cost limit, States will be able to continue to use existing 
reimbursement rate methodologies, but will need to

[[Page 29796]]

compare such rates to the actual cost of providing services to Medicaid 
individuals and make reconciling adjustments in the event of 
overpayments to a particular governmentally-operated health care 
provider.
    160C. Comment: One commenter suggested that CMS give consideration 
to those States that have approved cost based prospective reimbursement 
plans. The commenter added that by doing this, the proposed cost limit 
requirement could be met with the most recent historical costs used in 
establishing the prospective rates.
    160R. Response: The Medicaid cost limit provision of the regulation 
requires an examination of the actual costs incurred by governmentally-
operated health care providers for providing services to Medicaid 
individuals and the actual Medicaid payments received for such services 
in a given Medicaid State plan rate year. Under the Medicaid cost 
limit, States will be able to continue to use existing reimbursement 
rate methodologies, but will need to compare such rates to the actual 
cost of providing services to Medicaid individuals and make reconciling 
adjustments in the event of overpayments to a particular 
governmentally-operated health care provider.
    161C. Comment: Several commenters stated that they have no issue 
with the requirement to submit auditable documentation, but are 
concerned whether CMS considered that complicated approved 
methodologies exist today whereby both administrative and program 
costs, through cost allocation, are used to claim administrative costs 
by CPEs and are used to set rates for programs such as TCM. The 
commenters asked CMS to understand that while the requirements for 
reporting administrative costs and for reporting service costs are very 
different, they are also sometimes integrated in time studies.
    The commenters preferred that documentation requirements 
accommodate both administrative claiming and/or collection of the cost 
to provide a service, avoiding a duplicative reporting process.
    161R. Response: The standardized cost reporting form will be used 
to document non-institutional services has been designed to accommodate 
both administrative Medicaid costs as well as clinical Medicaid costs 
in a single template, thus avoiding a duplicative reporting process. 
CMS has developed a general Medicaid Cost Reporting Protocol that will 
be on the CMS Web site that specifically addresses the methods under 
which non-institutional (and institutional) Medicaid costs will be 
determined. The protocol was designed to provide States with detailed 
instructions to determine compliance with the Federal requirements. 
While the Medicaid cost limit provision does not necessarily require 
States to modify their existing Medicaid reimbursement rate 
methodologies for governmentally-operated health care providers, any 
Medicaid overpayments that result from such reimbursement 
methodologies, must be offset against future claimed expenditures 
reported on the CMS-64 as an overpayment in accordance with sections 
1903(d)(2) and 1903(d)(3)(A) of the Act.
    162C. Comment: Several commenters inquired as to what extent CMS 
will define how administrative claiming is documented and how would 
these proposed regulations might alter that process. The commenters 
request that these requirements not go beyond activities defined in OMB 
A-87 or GAAP. The commenters also expect that the allowable costs be 
fully inclusive of costs as defined by OMB A-87. Another commenter 
questioned whether the proposed cost limit will be applied to Medicaid 
administrative costs. Another commenter questioned if the cost 
identification and reporting requirements apply to administrative 
expenditures, will all currently approved Cost Allocation Plans still 
be compliant under this proposed rule.
    162R. Response: OMB Circular A-87 specifies cost principles for 
state and local government administration costs. Cost Allocation Plans 
are required and approved by the Federal government in accordance with 
45 CFR Part 95, Subpart E. Cost identification and reporting 
requirements will continue under this existing process for purposes of 
administrative expenditures under Medicaid.
    163C. Comment: A few commenters expressed concern regarding the 
impact of the proposed cost limit on governmentally operated critical 
access hospitals (CAHs). The commenters stated that the cost limit 
would create a disconnect with other non-governmentally operated CAHs 
who would still be reimbursed at 101 percent of cost consistent with 
Medicare. The commenters stated that limiting the governmentally 
operated CAHs to 100 percent of cost would undermine their public 
safety net mission and could result in their inability to maintain 
their operations which serve a vital role in rural communities.
    163R. Response: All governmentally-operated health care providers 
are subject to the Medicaid cost limit. Therefore, governmentally-
operated critical access hospitals will be subject to the provisions of 
the regulation in a manner consistent with all other types of 
governmentally-operated health care providers. States must apply the 
Federal statutory and regulatory criteria to each individual health 
care provider within the State to make initial determinations of 
governmental status.
    It is important to note that non-governmentally-operated health 
care providers, including many of the ``public'' safety net health care 
providers referenced by the commenters, are not affected by the 
Medicaid cost limit provision of the regulation and may, therefore, 
continue to receive Medicaid payments in excess of the cost of 
providing services to Medicaid individuals within existing Federal 
requirements.
    164C. Comment: A number of commenters stated that this rule is 
administratively burdensome because school-based providers will be 
challenged to document costs in a cost report, which could drain school 
resources and may also result in medically necessary and allowable 
services not being reimbursed. Concern was also expressed that the 
regulation's documentation requirements would strain relationships 
between schools and school-based providers. One commenter stated that 
the provisions of the regulation would cause significant hardship on 
school district accounting offices because they are subject to Federal, 
State, and local regulations for accounting that are different from 
procedures proposed in Sec. Sec.  433, 447, and 457. This commenter did 
not specify which Federal, State, or local accounting provisions are in 
conflict with the proposed provisions of the regulation. Another 
commenter expressed the view that a ``one size fits all'' approach to 
cost reporting for school based services would unnecessarily burden 
schools in a State where cost documentation is already accessible and 
verifiable.
    164R. Response: For school-based services in Medicaid, we recognize 
that a nationally recognized, standard cost report does not currently 
exist, leaving States and school districts to themselves to document 
costs however they deem appropriate. These different practices often 
make it difficult to (1) align claimed expenditures with specific 
services covered under the State plan or identifiable administrative 
activities; (2) properly identify the actual cost to the governmental 
entity of providing services to Medicaid individuals or performing 
administrative activities; and (3) audit and review Medicaid

[[Page 29797]]

claims to ensure that Medicaid payments are appropriately made. School-
based services have been cited by the Office of the Inspector General 
as an area within Medicaid cited for problematic claims. To ensure the 
fiscal integrity of the Medicaid program, we believe it is important 
for schools to be subject to the same requirements to document Medicaid 
costs as other governmental providers.
    We will be publishing a standardized non-institutional services 
cost reporting form that can be used for school-based services in order 
to have such services documented in a uniform manner across the 
country. This standardized form should minimize the burden associated 
with the review of expenditures for school-based services. We expect 
that States with currently accessible and verifiable cost documentation 
will find it easier to transition into use of the new school-based 
services cost report template.
    165C. Comment: A few commenters requested clarification regarding 
the inapplicability of the proposed cost limit to the State Children's 
Health Insurance Program (SCHIP). The commenters stated that it was 
unclear whether CMS was creating a new definition for what will be 
considered an SCHIP provider. The commenters noted that for States that 
have designed their SCHIP program as a Medicaid expansion, there is no 
distinction made between those providers who provide services to the 
SCHIP population and those who provide services to Medicaid enrollees. 
Specifically the commenters questioned that if a State's Medicaid 
providers are considered SCHIP providers, are they exempt from the 
proposed cost limit. The commenters also questioned whether if a 
State's Medicaid providers are not considered to be SCHIP providers and 
have to meet the proposed cost limit, should the State for those 
providers exclude SCHIP costs and reimbursements when making the 
Medicaid cost limit and overpayment determination. The commenters 
stated that if the SCHIP costs and reimbursements are not excluded, 
then a cost shift has occurred to the States for the difference between 
the State's regular FMAP rate and the enhanced SCHIP FMAP.
    Another commenter expressed concern that those States which opted 
to implement SCHIP as a Medicaid expansion are being retroactively 
penalized for not implementing SCHIP as a stand alone program. This 
commenter stated that given the SCHIP implementation options included 
in the statute, this proposed regulation must clearly define the 
criteria and characteristics of what is; and, what is not an SCHIP 
provider for application of the regulation's provisions. For example, 
the commenter questioned whether providers are considered SCHIP 
providers when they provide the same service package to both Medicaid 
and SCHIP eligibles and are reimbursed at the same payment rates.
    165R. Response: We are not creating a new definition of what is 
considered an SCHIP provider. We are clarifying that the provisions of 
this regulation are applicable to health care providers that receive 
payments under a separate state SCHIP, with the exception of the 
provisions related to the Medicaid cost limit as described below.
    To the extent a State's SCHIP program is established as a Medicaid 
expansion program, payments to governmentally-operated health care 
providers for SCHIP individuals are Medicaid payments and are subject 
to the Medicaid cost limit. If a State operates its SCHIP program as an 
SCHIP stand-alone program, payments to governmentally-operated health 
care providers are not subject to the Medicaid cost limit. This 
distinction is consistent with the different nature of a separate State 
SCHIP and a Medicaid expansion. A Medicaid expansion is an integral 
part of the Medicaid program, subject to all Medicaid requirements, 
including beneficiary protections and payment limitations. A separate 
State SCHIP is not part of the Medicaid program and affords States 
greater flexibility, particularly in the area of provider payment and 
beneficiary protections. Only certain specified Medicaid requirements 
apply including, at section 2107(e)(1)(C), the Medicaid provider tax 
and donation restrictions of section 1903(w). CMS has interpreted this 
to include restrictions on non-governmental providers participating in 
the financing of the program. As a result, this rule would make 
applicable to separate State SCHIPs all requirements other than the 
Medicaid cost limits.
    The regulation does not make a distinction between what is and is 
not an SCHIP provider. Rather the determining factor is the structure 
of the State's SCHIP program and what type of payments (for example, 
Medicaid expansion or SCHIP stand-alone) are received by 
governmentally-operated health care providers for individuals covered 
under SCHIP.

E. Retention of Payments (Sec.  447.207)

    166C. Comment: One commenter questioned whether it is allowable for 
the State to retain the federal share of a supplemental Medicaid 
payment when the Federal share is used to support the Medicaid 
reimbursement, thus eliminating the need for a reduction in the 
Medicaid reimbursement.
    166R. Response: No. Section 447.207 requires that health care 
providers receive and retain the full amount of the total computable 
payment provided to them for services furnished under the approved 
Medicaid State plan. Federal financial participation (FFP) is provided 
only when there is a corresponding State expenditure for a covered 
Medicaid service provided to a Medicaid individual. FFP is based on 
statutorily-defined percentages of total computable State expenditures 
for medical assistance provided to individuals under the approved 
Medicaid State plan, and of State expenditures related to the cost of 
administering the Medicaid State plan. If the State expenditure is 
reduced, then the Federal share of that expenditure is also 
proportionately reduced.
    167C. Comment: A couple of commenters stated that the proposed 
retention of payment provisions violate section 1903(w)(6)(A) of the 
Act which specifically allows intergovernmental transfers and section 5 
of Pub. L. 102-234, which prohibits the Secretary from changing the 
treatment of public funds as a source of the State share of Medicaid 
expenditures. The commenters also noted that Congress prohibited the 
Secretary from promulgating interim regulations changing the treatment 
of IGTs. The commenters suggested that the term ``retain'' is not 
defined, thus leaving the final determination of its meaning to the 
discretion of the Secretary. One commenter stated that this proposed 
provision has constitutional implications under the takings clause of 
the U.S. Constitution that would result if private health care 
providers could not freely transfer their payments from Medicaid (that 
is, use those payments to pay the health care provider's own expenses). 
One of the commenters argued that there was no reason for Congress to 
have inserted the phrase ``regardless of whether the unit of government 
is also a health care provider'' in section 1903(w)(6)(A) of the Act if 
it had not intended to continue to allow governmentally-operated health 
care providers to refund Medicaid payments, which are derived from 
State taxes, to the State. The commenter acknowledged that such refunds 
have allowed some States to pay for costs that are outside the Medicaid 
program, the commenter believed this was expressly permitted by 
Congress.
    167R. Response: We have revised the language of 447.207 to make 
clear that

[[Page 29798]]

the requirement applies to States and State payment methodologies for 
Medicaid services and precludes States from adopting payment 
methodologies that involve conditional or theoretical payments to 
providers.
    The provision at Sec.  447.207 requiring that health care providers 
actually receive and retain the full amount of the total computable 
payment provided for services furnished under the approved State plan 
is consistent with section 1903(w)(6)(A) of the Act because that 
provision protects only those IGTs that are ``derived from State or 
local taxes (or funds appropriated to State university teaching 
hospitals).'' Since this regulation addresses only the use of Medicaid 
revenues, not State or local taxes, there is no conflict.
    This provision specifically addresses those instances in which 
States make claims that are based on health care provider payments that 
are never actually made, are based on amounts paid with such conditions 
that the health care provider never actually becomes the beneficial 
owner of the funding (for example, when the health care provider is 
required to return the funding to a State agency or State directed 
purpose), or are otherwise diverted from use for Medicaid services by 
operation of law, contract or other mechanism. When the health care 
provider is not permitted to receive and retain the funds, the 
regulation would reflect the fact that the health care provider is 
acting simply as a conduit or agent rather than a recipient of a 
Medicaid payment. This means that there is no actual expenditure for 
Medicaid purposes.
    168C. Comment: One commenter detailed that funds from 
governmentally-operated health care providers have been essential to 
States for financing health care to indigent populations. The commenter 
further stipulated since section 1903(w)(6)(A) of the Act protects 
IGTs, it specifically allows governmentally-operated health care 
providers to return funds in order to provide access to health care for 
uninsured individuals. Prohibiting governmentally-operated health care 
providers from doing so would necessarily reduce funds available to 
provide health care services to these vulnerable individuals.
    168R. Response: Section 1903(w)(6)(A) of the Act protects only 
those IGTs that are ``derived from State or local taxes (or funds 
appropriated to State university teaching hospitals).'' Since this 
regulation addresses only the use of Medicaid revenues, not State or 
local taxes, there is no conflict. This regulation would not affect the 
ability of governmentally-operated health care providers to make IGTs 
that are ``derived from State or local taxes.''
    169C. Comment: Numerous commenters stated that the proposed rule 
lacked the specificity necessary to make this provision enforceable and 
the commenters were unclear how a health care provider could retain the 
full amount of its total Medicaid payments. Most commenters questioned 
whether this required providers to place all Medicaid revenues in a 
separate account and never use Medicaid revenues to cover routine 
business operating expenses, such as employee salaries or purchase of 
supplies. These commenters felt the provision as written is unworkable 
and the commenters demanded clarification as to how a health care 
provider would comply. The commenters also stated that CMS is 
attempting to regulate providers' use of the Medicaid revenues that 
they have earned for the Medicaid services already provided. The 
commenters further stated that the examination of the underlying 
Medicaid expenditures does not provide clarity as it fails to state the 
standards that will be applied in such an examination. Finally, the 
commenters argued that this provision is especially egregious when 
applied to public health care providers that are now limited to cost. 
These providers will have already spent the full amount on services and 
will have nothing left to be ``retained''. One commenter recommended 
that the regulation make clear that the requirement to retain a payment 
does not prohibit them from spending earned revenue and that CMS should 
more clearly specify in the regulation what activities are prohibited.
    In addition, these commenters specified that this requirement will 
not be an effective means of addressing State funding abuses. These 
commenters felt as though this provision is unnecessary and that if CMS 
is concerned that Medicaid expenditures are not consistent with legal 
requirements, then CMS should impose regulations on the calculation of 
those expenditures. Another commenter felt that this provision is also 
unnecessary since CMS has eliminated recycling and the purpose of the 
regulation is to formalize current practice, not to accomplish anything 
new.
    Numerous other commenters requested that the authority claimed by 
CMS to review ``associated transactions'' be deleted. The commenters 
stated that this proposed requirement would prohibit providers from 
making expenditures with Medicaid reimbursement funds and that any 
routine payments from providers to State or local governmental items 
for items or services unrelated to Medicaid payments would come under 
suspicion. The commenters pointed out that financial arrangements with 
State and local governments require money flows for a variety of 
reasons. These commenters strongly argued that CMS' review and audit 
authority is limited to payments made under the Medicaid program and 
that it does not have authority over providers' use of Medicaid 
payments received. A few commenters requested that CMS should clarify 
what it considers an associated transaction in the regulation text 
itself. Another commenter stated that CMS has overlooked the funding 
realities that face public health providers and that requiring 
providers to retain payments may have the unintended consequence of 
preventing the efficient and economical flow of funding streams within 
and between governmental entities. Most of these commenters specified 
that CMS has more effective mechanisms to limit the potential for abuse 
involving the re-direction of Medicaid payments by IGTs. Other 
commenters stated that they are also concerned that CMS may use its 
disallowance authority to pressure public providers to dismantle such 
arrangements.
    Another commenter stated that this requirement would be nearly 
impossible to track. Once funds are deposited into operating accounts, 
funds cannot be traced, segregated or separately identified. The 
commenter indicated that the proposed facility-specific cost limits 
would make any tracking unnecessary. The commenter argued that where a 
governmentally-operated health care provider is funded fully by a State 
or county agency, it is entirely appropriate for the provider to return 
to its funding agency any revenues received from payers, regardless of 
payer source. The commenter went on to further state that in Medicaid 
the governmental expenditure is always made prior to the receipt of the 
reimbursement and there is no valid argument that the governmental 
provider should not return to the original source of its expenditures 
the portion of the payment that was provided in the first place.
    169R. Response: The retention of payments provision was broadly 
written in an effort to encompass the wide variety of Medicaid 
financing abuses that CMS has discovered over the years. In examining 
Medicaid State financing arrangements across the country, we have 
identified numerous instances in which health care providers did not

[[Page 29799]]

retain the full amount of their Medicaid payments, payments for which 
Federal matching funds were provided as a percentage of the total 
Medicaid payment. Instead, these health care providers returned or 
redirected all or a portion of the payments received, either directly 
or indirectly, as part of a pre-arranged agreement (contractual or 
otherwise) to draw additional Federal Medicaid funds that were then 
diverted for other purposes.
    Specifically, health care providers were required to return a 
significant portion of a particular Medicaid payment to State or local 
government either directly upon receipt of such payment or indirectly 
through a transfer of funds in an amount greater than the non-Federal 
share to generate such payment. States and local governments would then 
use these funds to draw additional Federal matching dollars for other 
Medicaid payments and/or satisfy other non-Medicaid activities. In 
addition, health care providers were required to redirect a particular 
Medicaid payment to other non-Medicaid health programs to satisfy 
certain non-Medicaid activities, which were otherwise State only or 
local government only obligations often involving health care services 
to a non-Medicaid individual.
    These arrangements are inconsistent with statutory construction 
that the Federal government pays its statutorily identified share of 
the payments for the provision of the delivery of Medicaid services. 
The retention of payments provision is intended to clarify the Federal 
government's authority to identify and correct such abuses.
    The retention of payments provision was not designed to interfere 
with the normal operating expenses of conducting business, such as 
payments related to taxes, (including health-care provider-related 
taxes), fees, business relationships with governments unrelated to 
Medicaid in which there is no connection to Medicaid payment. Such 
normal operating expenses would not be considered ``returning/
redirecting'' a Medicaid payment, we have modified the regulation to 
clarify this point. However, when a governmentally-operated health care 
provider participates in a pre-arranged agreement with the State or 
local government to return or re-direct a particular Medicaid payment 
to which it is otherwise entitled, the expenditure claimed by a State 
is in excess of the actual payment ultimately retained by the 
governmentally-operated health care provider (that is, the net 
expenditure). The result of such an arrangement is that the Federal 
government provided matching funds in excess of the net expenditure 
made by the State to the health care provider.
    We have revised the regulation text to clarify that this 
requirement is not intended to burden providers, but instead is 
intended to be a condition for the allowability of Medicaid payment 
methodologies. In general, we intend to continue to focus our 
enforcement efforts on prospective review of proposed State payment 
methodologies. Indeed, this requirement should protect providers by 
ensuring that claimed Medicaid payments are actually available to 
support Medicaid services furnished by the providers.
    170C. Comment: One commenter specified that CMS has indicated that 
an expenditure must have occurred before a unit of government can 
certify an expenditure to the Medicaid agency. The commenter noted that 
CMS has indicated that once a unit of government certifies a valid 
expense, the health care provider has been paid. This commenter was 
concerned that the proposed retention requirements make it possible for 
a governmental health care provider to assert it is entitled to 100 
percent FFP returned to the State on the basis of its expenditure and 
the State's retention of any of the FFP constitutes a violation of this 
proposed rule. This commenter recommended that 447.207 be revised to 
clearly state: once a governmental health care provider certifies an 
expenditure, the retention of payments provisions have been satisfied; 
the distribution of FFP from the Medicaid agency to any certifying unit 
of government is not a relevant factor in measuring compliance; and the 
State may withhold a portion or the entire amount of FFP resulting from 
a CPE.
    170R. Response: A certified public expenditure (CPE) means that 
State or local tax dollars were used to satisfy the cost of providing 
services to Medicaid individuals. The expenditure that is claimed for 
Federal matching funds based on a CPE (that is, total computable 
expenditure) is inherently equal to the net expenditure. The Federal 
matching funds, therefore, are available as a percentage of this actual 
certified public expenditure. Under the CPE process, a unit of 
government (including a governmentally-operated health care provider) 
has expended funds to provide services to Medicaid individuals, which 
means that the unit of government has satisfied both the Federal and 
State share of these Medicaid costs. Therefore, Federal matching funds 
are effectively repayment of the Federal share of the total computable 
expenditure initially satisfied at a State or local government level. 
CMS would assume that as the entity authorized to draw Federal funds, 
Medicaid agencies would distribute the Federal matching funds in a 
manner that is proportionate to the total computable expenditure by the 
certifying unit of government. To the extent a State agency chooses to 
distribute those Federal funds in a manner that is not proportional to 
the costs incurred by other governmental units within the State, CMS 
does not plan to interfere with such decisions between States, local 
governments and/or governmentally-operated health care providers.
    171C. Comment: One commenter noted that, while not opposed to the 
retention of payment provision, requiring health care providers to pay 
the non-federal share of the Medicaid payment prior to receiving 
reimbursement to the State Agency will be a change to current practice. 
They noted that this may cause conflict with the State's prompt payment 
act, which requires interest to be paid to the health care provider of 
goods and/or services if requests for reimbursement are not paid within 
45 days of receipt. The proposed rule would be an accounting burden for 
tracking which entities had paid and therefore appropriate to proceed 
with the reimbursement process.
    171R. Response: Funds may be transferred by units of government 
that are not health care providers to the State Medicaid agency either 
before or after the payment to the health care provider is made, 
provided that the requirements of Sec.  447.207 are satisfied. A 
principal concern in evaluating compliance with Sec.  447.207 will be 
the determination as to whether or not the funding obligation to the 
non-Federal share of Medicaid payments has been fully satisfied by the 
State or local government. IGTs from a local or other State Agency unit 
of government's general fund may be considered a permissible source of 
the non-Federal share of Medicaid payments when: (1) Monies from the 
general fund are transferred to the State Medicaid agency; (2) such 
monies are used to fund the non-Federal share of Medicaid payments to 
the governmentally-operated health care provider; (3) the health care 
provider deposits such Medicaid payments into its operating account (a 
governmentally-operated health care provider will always maintain an 
operating account that is separate from the general fund managed by the 
corresponding unit of government); and (4) no portion of Medicaid 
payments deposited into the operating account is sent back to the 
general fund to replenish the loss of funds resulting from the IGT. 
These

[[Page 29800]]

conditions would demonstrate that the burden of the non-Federal share 
of the Medicaid payment was satisfied by the local government or other 
State Agency.
    Governmentally-operated health care providers may only transfer 
funds prior to receiving a Medicaid payment. This ensures that funds 
were actually available to the governmentally-operated health care 
provider to satisfy the non-Federal share obligation to the Medicaid 
payment it receives and were not derived from, and effectively a 
reduction in, the Medicaid payment received. To permit IGTs made by a 
governmentally-operated health care provider after the Medicaid payment 
is received would effectively allow a Medicaid Agency to ``loan'' the 
non-Federal share obligation to the governmentally-operated health care 
provider. (Upon receipt of the Medicaid payment, the governmentally-
operated health care provider would ``return'' the ``loan'' to the 
Medicaid Agency through an IGT.) The end result of a post payment IGT 
would be that a State is able to send Federal matching funds into a 
governmentally-operated health care provider without any unit of 
government satisfying the non-Federal share obligation. The State could 
then use the same funds to make additional Medicaid payments and 
attract new Federal matching funds.
    172C. Comment: Many commenters stated that this provision is an 
overreaction to a concern perceived by CMS, but which it has, by its 
own admission, been able to deal with through the State plan or waiver 
approval process. The commenters are concerned that the provision would 
cast doubt on, if not expressly prohibit, valid fund transfers that 
raise no issue of ``recycling'' and involve no abuse of Medicaid 
funding. One commenter described how its county nursing homes are 
funded. The county nursing homes are financed by the county 
governments, which use appropriated funds to cover the nursing homes' 
costs of operations. The commenter noted that similar to other States 
and local governments, State and county tax receipts are not received 
in even proportions throughout the year. In order to assure funding of 
the nursing homes' operation during periods of slack revenues, the 
counties issue debt securities of which portions of the proceeds are 
transferred to the State to help fund Medicaid payments. Upon receipt 
of payments from payers, including Medicaid, the county nursing homes 
return funds to the counties to enable them to repay the tax 
anticipation notes. The commenter indicated that the counties are 
paying for the operations of the nursing homes with their tax dollars 
and the transfers from the nursing homes to the counties out of their 
revenues are part of a financing structure that assures a steady flow 
of county funds for all of the activities funded by the counties, 
including nursing homes. The commenter believed that as a result of the 
proposed rule, this appropriate financing method would be prohibited. 
The commenter strongly stated that this merely illustrates the damage 
that can be caused by overly broad federal regulations that impinge on 
State financial operations. Other commenters indicated that it is 
common practice for public providers to be funded by State and county 
appropriations which are returned to the State and counties after the 
public providers receive their federal reimbursements. The commenter 
strongly stated that CMS does not have the authority to declare funding 
arrangements between units of State government that are not prohibited 
by Congress to be illegitimate.
    Other commenters stated that it is common for States or local 
governments to provide full funding to their health care providers, in 
the expectation of receiving the federal portion back from the health 
care provider when it has been reimbursed for providing Medicaid 
services. These commenters pointed out discrepancy between the proposed 
regulatory provision and preamble justification. The commenters noted 
that the preamble only specifies that when a governmental operated 
health care provider transfers to the State an amount more than the 
non-Federal share is there a situation where the net Medicaid payment 
is ``necessarily reduced.'' However the provisions of the proposed rule 
itself would preclude any transfer to the State from the payment 
received by the health care provider. The commenters questioned whether 
the prohibition is meant to apply to any portion of the Medicaid 
payment or only to the federal portion and again noted that CMS lacks 
any statutory basis.
    Many of these commenters stated that it is more appropriate to 
continue to use the SPA process to deal with perceived impermissible 
financing arrangements and to separate the benign transfers that do not 
present issues of concern from those that CMS believes present 
problems.
    172R. Response: The retention of payments provision was broadly 
written in an effort to encompass the wide variety of Medicaid 
financing abuses that CMS has discovered over the years. In examining 
Medicaid State financing arrangements across the country, we have 
identified numerous instances in which health care providers did not 
retain the full amount of their Medicaid payments, payments for which 
Federal matching funds were provided as a percentage of the total 
Medicaid payment. Instead, these health care providers returned or 
redirected all or a portion of the payments received, either directly 
or indirectly, as part of a pre-arranged agreement (contractual or 
otherwise) to inappropriately draw additional Federal Medicaid funds 
that are then diverted for other purposes. Other health care providers 
were required to return a significant portion of a particular Medicaid 
payment to State or local government either directly upon receipt of 
such payment or indirectly through a transfer of funds in an amount 
greater than the non-Federal share to generate such payment. States and 
local governments would then use these funds to draw additional Federal 
matching dollars for other Medicaid payments and/or satisfy other non-
Medicaid activities. In addition, health care providers were required 
to redirect a particular Medicaid payment to other non-Medicaid health 
programs to help satisfy an otherwise State or local government 
obligation to non-Medicaid activities, often involving health care 
services to a non-Medicaid individual.
    These arrangements are inconsistent with statutory construction 
that the Federal government pays its statutorily identified share of 
the payments for the provision of the delivery of Medicaid services. 
The retention of payments provision is intended to clarify the Federal 
government's authority to identify and correct such abuses.
    The retention of payments provision was not designed to interfere 
with the normal operating expenses of conducting business, such as 
payments related to taxes, (including health-care provider-related 
taxes), fees, business relationships with governments unrelated to 
Medicaid in which there is no connection to Medicaid payment and we 
have modified the regulation to clarify this point. However, when a 
governmentally-operated health care provider participates in a pre-
arranged agreement with the State or local government to return or re-
direct a particular Medicaid payment to which it is otherwise entitled, 
the expenditure claimed by a State is in excess of the actual payment 
ultimately retained by the governmentally-operated health care provider 
(that is, the net expenditure). The result of such an arrangement is 
that the Federal government provided matching funds in excess of the 
net expenditure made by the State to the governmentally-operated health 
care provider.

[[Page 29801]]

    A principal concern in evaluating compliance with Sec.  447.207 
will be the determination as to whether or not the funding obligation 
to the non-Federal share of Medicaid payments has been fully satisfied 
by the State or local government. IGTs from a local or other State 
Agency unit of government's general fund may be considered a 
permissible source of the non-Federal share of Medicaid payments when: 
(1) Monies from the general fund are transferred to the State Medicaid 
agency; (2) such monies are used to fund the non-Federal share of 
Medicaid payments to the governmentally-operated health care provider; 
(3) the health care provider deposits such Medicaid payments into its 
operating account (a governmentally-operated health care provider will 
always maintain an operating account that is separate from the general 
fund managed by the corresponding unit of government); and (4) no 
portion of Medicaid payments deposited into the operating account is 
sent back to the general fund to replenish the loss of funds resulting 
from the IGT. These conditions would demonstrate that the burden of the 
non-Federal share of the Medicaid payment was satisfied by the local 
government or other State Agency.
    173C. Comment: Several commenters noted that Sec.  447.207 is too 
broad. The commenters cited that the preamble to the proposed rule 
suggests that this retention of payments requirement only applies to 
IGT funded Medicaid payments, but the regulation text appears to apply 
to all Medicaid payments to all types of providers. The commenters 
requested clarification. Numerous commenters requested clarification as 
to whether the retention of payment provision applies to payments 
funded by CPEs. The commenters also stated that CMS should require 
States to pay all Federal funding associated with CPEs to the provider. 
The commenters presume that the requirement that providers ``receive 
and retain the full amount of the total computable payment provided to 
them'' applies to all payments, regardless of funding source. On the 
other hand, other commenters requested that CMS clarify in the 
regulation text that this proposed provision does not apply to services 
that are financed through CPEs. Another commenter requested that Sec.  
447.207 be clarified to indicate that the provisions are only 
applicable to payments funded with an IGT. One other commenter 
expressed confusion that this proposed provision appears to preclude 
CPEs by a governmental provider. The commenter specifically mentioned 
that a governmentally-operated health care provider that expends funds 
for salaries, utilities, food, etc. in the provision of medical 
services and certifies an expenditure eligible for FFP will not receive 
a payment.
    173R. Response: Section 447.207 applies to all health care 
providers receiving Medicaid payments, whether such payments are funded 
by a State's General Fund, or by local governments including 
governmentally-operated health care providers via IGTs. The retention 
of payments provision was written specifically to address abuses 
involving the misuse of intergovernmental transfers. CMS has noted many 
instances where, under the guise of the IGT process, providers refunded 
or returned a portion of the payments received, either directly or 
indirectly, as part of an intentional scheme to inappropriately draw 
additional Federal Medicaid funds that are then diverted for purposes 
unrelated to Medicaid. Such IGT abuses occur when the State's claimed 
expenditure, which serves as the basis for FFP, is actually more than 
the State's true net expenditure, resulting in an excessive draw of 
Federal matching funds.
    A certified public expenditure (CPE) means that State or local tax 
dollars were used to satisfy the cost of providing services to Medicaid 
individuals. The expenditure that is claimed for Federal matching funds 
based on a CPE (that is, total computable expenditure) is inherently 
equal to the net expenditure. The Federal matching funds, therefore, 
are available as a percentage of this actual certified public 
expenditure. Under the CPE process, a unit of government (including a 
governmentally-operated health care provider) has expended funds to 
provide services to Medicaid individuals, which means that the unit of 
government has satisfied both the Federal and State share of these 
Medicaid costs. Therefore, Federal matching funds are effectively 
repayment of the Federal share of the total computable expenditure 
initially satisfied at State or local government level. CMS would 
assume that as the entity authorized to draw Federal funds, Medicaid 
agencies would distribute the Federal matching funds in a manner that 
is proportionate to the total computable expenditure by the certifying 
unit of government. To the extent a State agency chooses to distribute 
those Federal funds in a manner that is not proportional to the costs 
incurred by other governmental units within the State, CMS does not 
plan to interfere with such decisions between States, local governments 
and/or governmentally-operated health care providers.
    Under the provisions of the regulation, all health care providers 
maintain some level of ability to participate in the certified public 
expenditure (CPE) process. Governmentally-operated health care 
providers are able to certify their costs without having to demonstrate 
that State or local tax dollars were used to provide Medicaid services. 
This policy is based on the fact that governmentally-operated health 
care providers always have the ability to access State and/or local tax 
dollars as an integral component of State or local government. 
Governmentally-operated health care providers need only produce cost 
documentation via national, standardized cost reporting to receive 
Federal matching funds as a percentage of such allowable Medicaid (and 
DSH) costs.
    Non-governmentally-operated health care providers may also produce 
cost documentation to support the costs of providing services to 
Medicaid individuals (and certain uninsured costs for purposes of 
Medicaid DSH payments). However, in order to maintain consistency with 
the Federal statutory instruction governing CPEs, a State or local 
government must actually certify that tax dollars were provided to the 
non-governmentally-operated health care provider. Federal matching 
funds will be available as a percentage of the allowable Medicaid costs 
incurred by the non-governmentally-operated health care provider up to 
the level of such State and/or local tax support.
    174C. Comment: One commenter noted that CMS suggests compliance 
with this proposed provision may be demonstrated by showing that the 
funding source of an IGT is clearly separated from the Medicaid payment 
received by the health care provider. The commenter stated that this is 
an example of CMS' definition of IGT not being consistent with CMS' 
current practice. The commenter stated that CMS previously considered 
funds transferred from a State agency to the State Medicaid agency as 
an IGT. The commenter believed that this in fact constitutes an 
intragovernmental transfer within the same unit of government and 
therefore CMS has no authority to evaluate these transfers with the 
same level of scrutiny as an intergovernmental transfer. The commenter 
requested that CMS clarify its intent that segregation of funds does 
not apply to intragovermental transfers.
    The commenter also stipulated that requiring a transfer within the 
same unit

[[Page 29802]]

of government must take place prior to a Medicaid payment and that the 
non-federal share must originate from taxes from an account that is 
separate from the account that receives the Medicaid payment is too 
restrictive. The commenter detailed that government accounting 
principles, established by GASB, encourage States to use the least 
number of funds that are necessary to comply with legal operating 
requirements. Another commenter noted that consolidated accounts 
facilitates good internal accounting controls, while also lowering 
overall banking costs and assisting with managing various automated 
transactions. The commenter also noted that any requirement to maintain 
separate banking accounts for tax and non-tax funds adds a burden and 
cost to providers without adding any benefit. The commenter suggested 
that a State's compliance with GASB standards in accordance with 
generally accepted accounting principles and a State agency's 
compliance with all applicable laws, rules and regulations with respect 
to fund accounting and budgeting should provide sufficient 
accountability.
    174R. Response: Neither the Medicaid statute nor Federal regulation 
uses the term ``intragovernmental transfer.'' For purposes of the 
Medicaid statute, a transfer of funding between any governmental entity 
within a State to the State Medicaid Agency is considered an 
intergovernmental transfer, regardless of whether or not those entities 
are operated by the same unit of government (for example, a State 
Department of Mental Health transferring funds to a State Medicaid 
agency). This interpretation is consistent with the interpretation that 
an expenditure can be made through payment for services furnished by 
such an entity.
    A principal concern in evaluating compliance with Sec.  447.207 
will be the determination as to whether or not the funding obligation 
to the non-Federal share of Medicaid payments has been fully satisfied 
by the State or local government. IGTs from a local or other State 
Agency unit of government's general fund may be considered a 
permissible source of the non-Federal share of Medicaid payments when: 
(1) Monies from the general fund are transferred to the State Medicaid 
agency; (2) such monies are used to fund the non-Federal share of 
Medicaid payments to the governmentally-operated health care provider; 
(3) the health care provider deposits such Medicaid payments into its 
operating account (a governmentally-operated health care provider will 
always maintain an operating account that is separate from the general 
fund managed by the corresponding unit of government); and (4) no 
portion of Medicaid payments deposited into the operating account is 
sent back to the general fund to replenish the loss of funds resulting 
from the IGT. These conditions would demonstrate that the burden of the 
non-Federal share of the Medicaid payment was satisfied by the local 
government or other State Agency.
    Governmentally-operated health care providers may only transfer 
prior to receiving a Medicaid payment to ensure funds were actually 
available to the governmentally-operated health care provider to 
satisfy the non-Federal share obligation to the Medicaid payment it 
receives. To permit non-Federal share transfer obligations made by a 
governmentally-operated health care provider after the Medicaid payment 
is received would allow a Medicaid Agency to ``loan'' the non-Federal 
share obligation to the governmentally-operated health care provider 
(as described previously).
    175C. Comment: A couple of commenters requested that provisions of 
the proposed retention of payment provisions be clarified to explicitly 
state that an IGT from a single governmental entity can be the basis of 
the State match for multiple hospitals in the eligible payment group. 
Another commenter asked that CMS provide additional guidance on whether 
a group of governmental entities could provide the IGTs for other 
public hospitals. The commenter was concerned that this may not be 
allowed under the proposed rules. The commenter suggested that this 
clarification would be consistent with CMS'' overall objective that 
IGTs are used to reimburse hospitals for the care of Medicaid 
individuals and are not ``retained'' by local governments. One 
commenter was concerned that this proposed provision would require that 
all government providers provide their own IGT in return for the 
Medicaid payment.
    175R. Response: The provisions at Sec.  447.207 were not intended 
to suggest that a unit of government can only transfer funding to the 
State for specific use in State Medicaid payments made to the unit of 
government itself. In fact, a unit of government may permissibly 
transfer funds to be used for the non-Federal share of State Medicaid 
payments made to other health care providers within the State, 
regardless of whether or not such providers are related to the unit of 
government transferring the funds, assuming all other financing 
requirements are satisfied, including compliance with section 
1902(a)(2) of the Act. Governmentally-operated health care providers 
may also transfer funding for other health care providers, but each 
transfer must be transacted on an individual basis per each Medicaid 
payment to each health care provider to ensure compliance with sections 
1902(a)(30)(A) and 1903(w)(6)(A) of the Act. Moreover, a 
governmentally-operated health care provider that is subjected to more 
than one non-Federal share obligation must transact each IGT obligation 
on an individual basis per Medicaid payment to which it is entitled in 
order to maintain consistency with sections 1902(a)(30)(A) and 
1903(w)(6)(A) of the Act.
    176C. Comment: One commenter stated that health care providers may 
be subject to taxation, licensing, and other fees that are generally 
applied to the private sector or to the health care industry at large. 
The commenter was concerned that the proposed rule would enable 
providers to assert that they should not be subject to normal operating 
expenses, which have no direct connection to Medicaid, in as much as 
they are required to retain the full amount of the total computable 
payment. The commenter specifically requested that proposed Sec.  
447.207 be clarified to clearly state that normal operating expenses 
are not affected by the retention requirements and are not included in 
the calculation of a State's net expenditures.
    176R. Response: The retention of payments provision was written to 
address instances where health care providers did not retain the full 
amount of their Medicaid payments, payments for which Federal matching 
funds were provided as a percentage of the total Medicaid payment. 
Instead, these providers returned or redirected all or a portion of the 
payments received, either directly or indirectly, as part of a pre-
arranged agreement (contractual or otherwise) to draw additional 
Federal Medicaid funds that were then diverted for other purposes. The 
retention of payments provision was not designed to interfere with the 
normal operating expenses of conducting business, such as payments 
related to taxes (including health-care provider-related taxes), fees, 
business relationships with governments unrelated to Medicaid in which 
there is no connection to Medicaid payment. Such normal operating 
business expenses would not be considered ``returning/redirecting'' a 
Medicaid payment and we have modified the regulation to clarify this 
point.

[[Page 29803]]

    177C. Comment: A few commenters stated the proposed requirement to 
retain full payments conflicts with section 1903(w) of the Act. The 
commenters noted that section 1903(w) of the Act clearly contemplates 
that providers can return certain portions of payments as bona fide 
donations and permits certain qualifying health care taxes. The 
commenters requested that proposed Sec.  447.207 be modified to clearly 
allow donations and taxes as permitted by section 1903(w) even if a 
Medicaid payment is the source of those donations or tax payments.
    177R. Response: We concur with this comment in part and we are 
clarifying the provisions at Sec.  447.207. We agree that 
governmentally-operated health care providers may make bona fide 
donations, and may be subject to qualifying health care taxes, from the 
amount of their total computable Medicaid payment. Qualifying health 
care taxes would be an allowable cost of services furnished under the 
approved State plan for purposes of this section and for the cost 
limits under Sec.  447.206. Bona fide donations, on the other hand, 
would not be an allowable cost of Medicaid services under either 
section, but we would clarify that under Sec.  447.207, a provider 
could make a bona fide donation (which by definition could not be 
linked to the receipt of, or amount of a Medicaid payment). While we 
agree to make this clarification, there does not appear to be a 
practical effect to this clarification since, under Sec.  447.206, 
Medicaid payments to governmentally-operated health care providers must 
still be equal or less than the costs incurred by the governmentally-
operated health care provider for covered Medicaid services.
    178C. Comment: One commenter stated that CMS assumes that any 
requirement that a governmentally-operated health care provider 
transfer more than the non-federal share of a Medicaid payment means 
that Medicaid payments to that provider are not retained. The commenter 
indicated that CMS is linking two independent actions that should not 
be linked. The commenter specified that once a governmental unit 
transfers funds to the State, it is up to the State to do what it deems 
appropriate with the funds. The commenter argued that it is not within 
the authority of the governmental unit or CMS to dictate what the State 
can do with the funds. In fact, the commenter went on to state, once 
the State uses the funds to make allowable Medicaid payments, such use 
falls within section 1902(a)(30)(A) of the Act and FFP is appropriate. 
The commenter believes that it does not matter what level of Medicaid 
payment the State is making or to which providers; FFP should apply in 
its normal proportion. The State's net expenditure is determined by the 
amount paid under the terms of its approved State plan, not by the 
sources of funds used to finance that plan.
    178R. Response: The provision at Sec.  447.206 would require that 
health care providers retain the full Medicaid payment, including both 
Federal and non-Federal shares. As discussed above, protected IGTs are 
limited to those ``derived from State or local taxes (or funds 
appropriated to State university teaching hospitals).'' There is no 
protection for IGTs derived from Medicaid payments to health care 
providers. But we are clarifying that Sec.  447.207 is not intended to 
dictate what the health care provider may do with its own funds; it 
concerns solely the circumstances in which CMS will recognize a payment 
to the provider as an allowable expenditure. This provision 
specifically addresses those instances in which States make claims that 
are based on health care provider payments that are never actually 
made, are based on amounts paid with such conditions that the health 
care provider never actually becomes the beneficial owner of the 
funding (for example, when the health care provider is required to 
return the funding to a State agency or State directed purpose), or are 
otherwise diverted from use for Medicaid services by operation of law, 
contract or other mechanism. When the health care provider is not 
permitted to receive and retain the funds, the regulation would reflect 
the fact that the provider is acting simply as a conduit or agent 
rather than a recipient of a Medicaid payment. This regulation ensures 
that payments are made for Medicaid purposes and not obligated for 
other purposes. This regulation also ensures that claimed payments are 
not sham transactions in which the State (or other payor) has never 
actually ceded control of the funds to the health care provider.
    179C. Comment: Several commenters stated that it is unclear how CMS 
will enforce proposed Sec.  447.207.
    179R. Response: In general, CMS intends to continue to focus 
enforcement efforts on prospective review of proposed State payment 
methodologies. This regulation, however, would provide a basis to 
pursue other enforcement measures, such as disallowance of claimed 
expenditures, should prospective enforcement prove inadequate. States 
can appeal such enforcement actions through existing appeal processes.
    180C. Comment: One commenter noted language concerning IGTs in the 
preamble that was not included in the actual regulatory text. 
Specifically, the commenter observed the following preamble language: 
``* * * [C]laimed expenditures must be net of any redirection or 
assignment from a health care provider to any State or local 
governmental entity that makes IGTs to the Medicaid agency. Generally, 
for the State to receive Federal matching on a claimed Medicaid payment 
where a governmentally-operated health care provider has transferred 
the non-Federal share, the State must be able to demonstrate: (1) That 
the source of the transferred funds is State or local tax revenue 
(which must be supported by consistent treatment on the provider's 
financial records); and (2) that the provider retains the full Medicaid 
payment and is not required to repay, or in fact does not repay, all or 
any portion of the Medicaid payment to the State or local tax revenue 
account.'' Further, the commenter noted this language in the preamble: 
``Therefore, we have concluded that requirements that a governmentally-
operated health care provider transfer to the State more than the non-
Federal share of a Medicaid payment creates an arrangement in which the 
net payment to the provider is necessarily reduced; the provider cannot 
retain the full Medicaid payment claimed by the State.'' The commenter 
opined that this preamble language should be specifically included in 
the appropriate sections of the regulations.
    180R. Response: We agree that the regulation should contain more 
specific language on prohibited arrangements, and we have modified the 
regulation as appropriate.
    181C. Comment: One commenter inquired as to how the proposed 
retention of payments provision impacts ``administrative fees'' for 
operation of targeted case management programs which are offset against 
amounts paid for services. The commenter asked if such fees would be 
prohibited and, if not, whether an offset against Medicaid payments due 
would continue to be permissible.
    181R. Response: Administrative fees are sometimes deducted by the 
Medicaid agency, or other agency making Medicaid payments, from the 
Medicaid payment to a provider. These fees represent a reduction in the 
allowable Medicaid expenditure that can be claimed for purposes of FFP. 
Moreover, while FFP is available for actual administrative costs, FFP 
is not available for administrative fees. The Medicaid program's share 
of actual administrative costs should be claimed

[[Page 29804]]

pursuant to an approved cost allocation plan by the agency that incurs 
those actual administrative costs.
    Administrative costs and medical service costs are separately 
recognized in the Medicaid statute for purposes of Federal financial 
participation (FFP). Administrative costs and medical service costs 
must also be separately reported on the CMS 64 report for purposes of 
State expenditures eligible for FFP.
    An arrangement in which administrative costs are offset from a 
medical service payment has two major problems: (i) Administrative 
costs are effectively matched with Federal funds at the FMAP rate 
instead of the 50 percent administrative matching rate; and, (ii) the 
governmentally-operated health care provider realizes a net reduction 
to its Medicaid medical service payment because it must redirect a 
portion of the Federal funding associated with the Medicaid medical 
service payment it receives to pay another agency for administrative 
costs.
    In some instances, a mandatory assessment or ``fee'' imposed on a 
health care provider could be viewed as a health care-related tax. All 
health care-related taxes must meet the specified statutory criteria, 
including the broad based requirement to avoid penalties against a 
State's Medicaid expenditures. The broad based provision of the statute 
requires that all health care providers of the service must be subject 
to the tax or ``fee.''

F. Upper Limits Based on Customary Charges (Sec.  447.271)

    182C. Comment: Several commenters objected to the proposed 
modifications at Sec.  447.271 to delete the exception for nominal 
charge hospitals. Paragraph (b) of this section allowed public 
providers that provide services ``free or at a nominal charge'' to be 
paid to the level that would be set ``if the provider's charges were 
equal to or greater than its costs.'' The commenters noted that this 
existing exception recognizes that there are many hospitals that 
primarily serve the poor and uninsured. These hospitals have set their 
charges at low levels for the uninsured individuals to help alleviate 
these individuals from exorbitant hospital bills. The commenters argued 
that a hospital should not be disadvantaged with respect to Medicaid 
reimbursement just because it was willing to keep the cost of hospital 
care within reason for those who do not have coverage from insurance or 
public programs. The commenters urged CMS to maintain this exception.
    Another commenter disagreed that Sec.  447.271(b) becomes 
irrelevant due to the proposed cost limit. The commenter stated that 
the existing regulation at Sec.  447.271(b) is related to limitations 
based on provider charges not provider costs and allows Medicaid 
payments in excess of a provider's charges if those charges are nominal 
or do not exist. The commenter argued that eliminating this regulatory 
provision would restrict Medicaid reimbursement to nominal charge 
providers or require them to implement unnecessary or artificial charge 
structures.
    Another commenter stated that with this elimination, nominal charge 
providers would be limited to charges as its total payment. The 
commenter argued the proposed cost limit does not affect the operation 
of the charge limit rule where charges are less than cost and should be 
maintained.
    182R. Response: We do not read the customary charge limitation at 
Sec.  447.271(a) to preclude a health care provider from offering 
services on a sliding scale or reduced rate basis (or even free) to 
poor and uninsured patients. All health care providers can or should 
have customary charge schedules that represent the undiscounted amount 
charged to third party payers and individuals with sufficient 
resources. We do not believe it would be consistent with efficiency or 
economy for Medicaid to pay more for services than other payers with 
sufficient resources. Thus we do not see a reason for an exception to 
the customary charge limit. In the unlikely event that a health care 
provider does not have a customary charge structure the health care 
provider can receive payments in an amount equal to the cost of 
providing services subject to applicable payment limits depending upon 
their governmental status. We further do not see any statutory basis to 
permit payment in excess of costs to support non-Medicaid uncompensated 
care activities. In the Medicaid statute, Congress has specifically 
provided for a mechanism to address uncompensated care costs for 
disproportionate share hospitals, but has imposed clear limits on that 
mechanism. It would be inconsistent with those statutory limits to 
continue to provide a different avenue to address the same types of 
costs without any statutory authorization to do so.
    183C. Comment: One commenter requested that in accordance with 
Medicare and other Federal regulations, CMS should make it clear that 
the customary charge limit and existing UPL requirements do not apply 
to critical access hospitals. The commenter stated that since the 
customary charge limit applies to hospitals and does not specify 
critical access hospitals, inpatient and outpatient payment limits 
should not be applicable to critical access hospitals. The commenter 
suggested that CMS make the distinction between hospitals and critical 
access hospitals by either including this statement as a clarification 
in Sec.  447.271 or as an exemption within Sec. Sec.  447.272 and 
447.321. The commenter also stated that critical access hospital 
regulations should be amended to prohibit States from imposing an upper 
limit on critical access hospital Medicaid payments. The commenter 
specified that while many States reimburse critical access hospitals 
using a cost-based reimbursement methodology, certain limitations are 
placed on the reimbursements. The commenters do not believe this is 
consistent with Medicare reimbursement methodologies.
    183R. Response: All governmentally-operated health care providers 
are subject to the Medicaid cost limit and customary charge limit. 
Therefore, governmentally operated critical access hospitals will be 
subject to the provisions of the regulation in a manner consistent with 
all other types of governmentally-operated health care providers. 
States must apply the Federal statutory and regulatory criteria to each 
individual health care provider within the State to make initial 
determinations of governmental status. In addition, Sec. Sec.  447.272 
and 447.321 apply to all inpatient and outpatient hospital services, 
including those provided in critical access hospitals.

G. Inpatient Services: Application of Upper Payment Limits (Sec.  
447.272) and Outpatient Hospital and Clinic Services: Application of 
Upper Payment Limits (Sec.  447.321)

    184C. Comment: One commenter stated that Sec.  447.272 includes an 
exception for DSH payments and Indian Health Services. The commenter 
noted that Sec.  447.321 likewise includes an exception for Indian 
Health Services, but does not list DSH as an exception. The commenter 
requested that CMS include a similar exception for DSH in Sec.  
447.321. The commenter is concerned that this omission could prohibit 
or restrict DSH payments for outpatient hospital services.
    184R. Response: We agree with the commenter, and we have modified 
section 447.321 to include the exemption of DSH payment adjustments 
from the application of outpatient hospital upper payment limits. It 
should

[[Page 29805]]

be noted that clinic costs are not eligible under the hospital-specific 
DSH limit, so the DSH exemption is not applicable to clinic upper 
payment limits.
    185C. Comment: A few commenters recommended that the proposed 
corresponding changes to Sec. Sec.  447.272 and 447.321 to reflect the 
proposed cost limit to governmentally operated providers be withdrawn.
    185R. Response: The changes to Sec. Sec.  447.272 and 447.321 are 
necessary to maintain consistency with the provision of the regulation 
limiting Medicaid payments to the full cost of providing services to 
Medicaid individuals.

H. Conforming Changes to Other Applicable Federal Regulations 
(Sec. Sec.  457.220 and 457.628)

    186C. Comment: A few commenters recommended that the conforming 
changes to Sec. Sec.  457.220 and 457.628 be deleted. These commenters 
opined that since they believe the proposed rule is inappropriate for a 
variety of reasons, the conforming changes proposed would also be 
inappropriate.
    186R. Response: Title XXI and corresponding SCHIP regulations fully 
incorporate Medicaid statutory and regulatory provisions concerning the 
source of the non-Federal share. Therefore, the regulation makes 
changes to SCHIP rules at Sec. Sec.  457.220 and 457.628 to ensure that 
regulations governing the source of the non-Federal share and provider 
retention of payments are consistent between the Medicaid program and 
SCHIP. The Medicaid cost limit does not apply to governmentally-
operated SCHIP health care providers.

I. Collection of Information Requirements

    187C. Comment: A number of commenters communicated that they 
believe CMS estimates on the time needed for providers to complete cost 
report forms and States to review cost reports are understated. 
Commenters also observed that the proposed rule sets out only minimum 
documentation requirements, that actual forms have not yet been 
completed, and that it is therefore unlikely that CMS has fully 
assessed the extent of the paperwork burden associated with this 
requirement. One commenter argued that CMS estimates on time are too 
low by outlining the steps required to implement this provision. One 
commenter is familiar with the experience of public hospitals in 
California that are implementing cost reporting under a CMS-approved 
1115 demonstration and stated that hundreds of hours have been spent 
attempting to implement the new CPE and cost-finding rules. Another 
commenter explained that providers currently spend hundreds of hours 
preparing and submitting Medicare cost reports.
    187R. Response: In light of comments received on the estimated time 
required for governmentally operated providers to complete the new cost 
report forms and States to review the cost reports, CMS has reviewed 
the initial estimates for these activities. The revised estimates will 
accompany the publication of the cost report template in the Federal 
Register.
    However, we do not believe the Medicaid cost limit will impose 
significant administrative burden on States particularly since the 
limit applies only to governmentally-operated health care providers.
    For purposes of institutional governmentally-operated health care 
providers, the Medicaid cost limit determination will rely on existing 
reporting tools used by institutional health care providers. States 
will not be required to audit financial and cost information provided 
by individual institutional governmentally-operated health care 
providers as part of the Medicaid cost limit review. Each of the source 
documents is subject to reporting and auditing rules specific to the 
original purpose of that document and independent of the Medicaid cost 
limit and State review process. The State must render an determination 
on the cost limit methodology applied to the source documents but will 
not be required to validate the accuracy of the information and data 
within the source documents.
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report currently 
does not exist. Because of this, we will be publishing a standardized 
cost reporting form that should be used to document such services. The 
purpose of this standardized form is to document in a uniform manner 
the cost of providing non-institutional services to Medicaid 
individuals. The period of time to which this cost report applies will 
be the Medicaid State plan rate year.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally operated non-institutional health care 
providers sufficient time to develop and implement Medicaid cost 
documentation and reporting processes consistent with the cost report 
template issued by CMS (including but not limited to changes in State/
provider reporting systems, changes to the Medicaid State plan, changes 
to time studies, establish periodic review and audit processes, etc.), 
States will not be required to document and report cost information 
associated with non-institutional Medicaid services until the State's 
Medicaid State plan rate year 2009. Actual submission of the State's 
summary report on the Medicaid cost limit for non-institutional 
services will not be due to CMS until December 31, 2011, which allows 
States an opportunity to implement periodic review and audit processes 
for Medicaid non-institutional costs starting in Medicaid State plan 
rate year 2009.
    CMS has developed a general Medicaid Cost Reporting Protocol 
available on the CMS Web site that specifically addresses the methods 
under which institutional and non-institutional Medicaid costs will be 
determined. The protocol was designed to provide States with detailed 
instructions to determine compliance with Federal requirements.
    188C. Comment: One commenter identified the ``unfunded workloads'' 
for State agencies resulting from the proposed rule. The increased 
workload was attributed to the rule's requirements that State agencies 
collect, review, and audit cost reports from governmental providers; 
document their own costs to the extent they are providers themselves; 
and obtain and review information from purportedly governmental 
providers using the ``Tool to Evaluate the Governmental Status of 
Providers'' form. The commenter expressed concern that an unintended 
consequence of this additional workload could be that State and local 
governments have to reduce the delivery of services.
    188R. Response: We do not believe the cost limit will impose 
significant administrative burden on States particularly since such 
limit applies only to governmentally-operated health care providers.
    For purposes of institutional governmentally-operated health care 
providers, the Medicaid cost limit determination will rely on existing 
reporting tools used by institutional health care providers. States 
will not be required to audit financial and cost information provided 
by individual institutional governmentally-operated health care 
providers as part of the Medicaid cost limit review. Each of the source 
documents is subject to reporting and auditing rules specific to the 
original purpose of that document and independent of the Medicaid cost 
limit and State review process. The State must render a determination 
on the cost limit methodology applied to the source documents but will 
not be required to

[[Page 29806]]

validate the accuracy of the information and data within the source 
documents.
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report currently 
does not exist. Because of this, we will be publishing a standardized 
cost reporting form that should be used to document such services. The 
purpose of this standardized form is to document in a uniform manner 
the cost of providing non-institutional services to Medicaid 
individuals. The period of time to which this cost report applies will 
be the Medicaid State plan rate year.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally operated non-institutional health care 
providers sufficient time to develop and implement Medicaid cost 
documentation and reporting processes consistent with the cost report 
template issued by CMS (including but not limited to changes in State/
provider reporting systems, changes to the Medicaid State plan, changes 
to time studies, establish periodic review and audit processes, etc.), 
States will not be required to document and report cost information 
associated with non-institutional Medicaid services until the State's 
Medicaid State plan rate year 2009. Actual submission of the State's 
summary report on the Medicaid cost limit for non-institutional 
services will not be due to CMS until December 31, 2011, which allows 
States an opportunity to implement periodic review and audit processes 
for Medicaid non-institutional costs starting in Medicaid State plan 
rate year 2009.
    CMS has developed a general Medicaid Cost Reporting Protocol 
available on the CMS Web site that specifically addresses the methods 
under which institutional and non-institutional Medicaid costs will be 
determined. The protocol was designed to provide States with detailed 
instructions to determine compliance with Federal requirements.
    189C. Comment: With respect to the ``Tool to Evaluate the 
Governmental Status of Providers'' form, one commenter said that CMS 
failed to set out a satisfactory analysis of alternative approaches to 
obtaining the information that is necessary to determine compliance 
with the proposed regulations. The commenter raised this issue because 
in order to obtain OMB approval for a collection of information, CMS 
must show that its proposal is the least burdensome option necessary 
for the proper performance of the agency's functions. Moreover, the 
commenter questioned the practical utility of this form because it 
``attempts to face a complex legal analysis into a Q&A format'' and 
does not provide any explanation as to the consequences of answers.
    189R. Response: The ``Tool to Evaluate the Governmental Status of 
Health Care Providers'' is designed to guide State decision making in 
applying the statutory and regulatory criteria regarding units of 
government. The provisions of the regulation were designed to ensure 
consistent application of the Federal statutory instructions regarding 
the definition of a unit of government for purposes of Medicaid 
reimbursement and State financing. CMS recognizes that States play a 
major role in the administration of the Medicaid program and that legal 
and financial arrangements between health care providers and units of 
government vary on a case by case basis. We have developed standardized 
and impartial regulatory criteria based upon Federal statute that 
States must apply on a consistent basis to each health care provider 
within the State.
    We believe the tool is useful to States and actually reduces the 
State's burden by putting complex statutory and regulatory standards 
into a practical and user friendly format.

J. Regulatory Impact Analysis

    190C. Comment: Many commenters offered opinions about the estimated 
financial impact the proposed rule would have on a particular State. 
These monetary estimates varied widely from one State to another, but 
the commenters consistently expressed that the loss of Federal funding 
that would result from this rule would create large funding gaps that 
would have to be addressed by State and local governments. Commenters 
asserted that States and local governments would not necessarily have 
the revenues to fill these gaps, and as a result, they may choose to 
cut reimbursements to providers, eliminate Medicaid individuals from 
their programs, or reduce the scope of covered benefits. None of these 
alternatives was viewed favorably by the commenters.
    190R. Response: Medicaid is a shared responsibility between Federal 
and State government. State governments may share their fiscal 
obligation to the Medicaid program with local governments according to 
the instruction of Congress. Under Public Law 102-234, the Congress 
made clear that States may allow governmentally-operated health care 
providers to participate in a State's fiscal obligation to the Medicaid 
program through the use of intergovernmental transfers and certified 
public expenditures. However, the Congress was also clear that States 
may not receive funds from non-governmentally-operated health care 
providers for purposes of financing Medicaid payments.
    The provision of the regulation that addresses a unit of government 
codifies the existing statutory definitions of a unit of government. 
This codification of existing Federal statute was established in an 
effort to assist States in identifying the universe of governmentally-
operated health care providers that could receive Medicaid revenues up 
to the full cost of providing services to Medicaid individuals and 
clarifies which types of health care providers can participate in 
financing of the non-Federal share of Medicaid payments.
    Medicaid is a vitally important program that serves very vulnerable 
individuals, and the Federal government remains committed to funding 
its share of the cost of providing Medicaid services to eligible 
individuals. We also note that State decisions will be the major factor 
in the actual financial impact this regulation will have within each 
State. CMS recognizes that States play a major role in the 
administration of the Medicaid program and that legal and financial 
arrangements between health care providers and units of government vary 
on a case by case basis. Therefore, CMS has developed standardized and 
impartial regulatory criteria based upon Federal statue that States 
must apply on a consistent basis to each health care provider within 
the State to determine whether or not the health care provider is 
considered a unit of government under the regulation.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net health care providers, are not affected by 
the cost limit provision of the regulation and may therefore continue 
to receive Medicaid payments in excess of the cost of providing 
services to Medicaid individuals within existing Federal requirements.
    Moreover, the regulation reaffirms State Medicaid financing policy 
requiring that health care providers be allowed to fully retain their 
Medicaid payments, another provision of which clearly demonstrates the 
Federal government's intent to protect the nation's public safety net 
and its ability to continue delivering critical health care services to 
Medicaid individuals and the uninsured. Any health care providers that 
become ineligible to participate in the State financing of Medicaid 
payments following the effective date of the provisions of this

[[Page 29807]]

regulation can realize greater net revenues if State or local 
governments choose to utilize their funding sources to fund non-Federal 
share obligations to Medicaid payments historically financed by non-
governmentally-operated ``public'' health care providers.
    191C. Comment: A number of commenters thought that CMS estimates 
that the proposed rule would result in a $3.87 billion savings to the 
Federal government over the next five years was too low. The commenters 
asserted that the loss of Federal funds was expected to be at least 
$932 million in one State, $253 million in another State, $350 million 
in another State, and $374 million in yet another State. Commenters 
noted that an estimated impact over five years of $4.7 billion in one 
State specifically is higher than the national CMS calculation for the 
same period. Commenters asked CMS to reevaluate this estimate.
    191R. Response: We find many of the expressed concerns about the 
potential impact of the cost limit to be overstated based on a 
misunderstanding of certain provisions of the regulation, which have 
been clarified in this final regulation. We also note that State 
decisions will be the major factor in the actual financial impact this 
regulation will have within each State.
    The provision of the regulation that addresses a unit of government 
codifies the existing statutory definitions of a unit of government. 
This codification of existing Federal statute was established in an 
effort to assist States in identifying the universe of governmentally-
operated health care providers that could receive Medicaid revenues up 
to the full cost of providing services to Medicaid individuals and 
clarifies which types of health care providers can participate in 
financing of the non-Federal share of Medicaid payments. CMS has 
developed standardized and impartial regulatory criteria based upon 
Federal statue that States must apply on a consistent basis to each 
health care provider within the State to determine whether or not the 
health care provider is considered a unit of government under the 
regulation.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net health care providers, are not affected by 
the cost limit provision of the regulation and may therefore continue 
to receive Medicaid payments in excess of the cost of providing 
services to Medicaid individuals within existing Federal requirements.
    Moreover, one provision of the regulation reaffirms State Medicaid 
financing policy requiring that health care providers be allowed to 
fully retain their Medicaid payments, another provision of which 
clearly demonstrates the Federal government's intent to protect the 
nation's public safety net and its ability to continue delivering 
critical health care services to Medicaid individuals and the 
uninsured. Any health care providers that become ineligible to 
participate in the State financing of Medicaid payments following the 
effective date of the provisions of this regulation can realize greater 
net revenues if State or local governments choose to utilize their 
funding sources to fund non-Federal share obligations to Medicaid 
payments historically financed by non-governmentally-operated 
``public'' health care providers.
    192C. Comment: Several commenters opined that CMS failed to 
adequately explain how it reached its estimate that the proposed rule 
would result in a $3.87 billion savings to the Federal government over 
the next five years. Commenters noted that in the preamble CMS 
acknowledged uncertainty in the estimated impact of the rule. Some of 
the commenters pointed out that since publication of the proposed rule, 
CMS has been asked for State-specific estimates of the rule's financial 
impact, but CMS refused to provide such estimates and stated that no 
such calculations had been performed. Requests for further information 
about how CMS produced this estimate were made, and several commenters 
expressed that CMS should not proceed with implementation of the rule 
without knowing more about the potential impact.
    192R. Response: The regulation's preamble included a detailed 
description of the methodology utilized by CMS to develop the estimate 
that the regulation would result in a $3.87 billion savings to the 
Federal government over the next 5 years.
    All States could be affected by the provisions of the regulation if 
the State currently:
     Reimburses governmentally-operated health care providers 
in excess of the cost to provide services to Medicaid individuals;
     Accepts funds from non-governmentally-operated health care 
providers to help fund the non-Federal share of Medicaid payments; and/
or,
     Requires the return of Medicaid payments.
    State-specific effects of the regulation can only be determined by 
the States as each State administers its own Medicaid program. We also 
note that State decisions will be the major factor in the actual 
financial impact this regulation will have within each State.
    The provision of the regulation that addresses a unit of government 
codifies the existing statutory definitions of a unit of government. 
This codification of existing Federal statute was established in an 
effort to assist States in identifying the universe of governmentally-
operated health care providers that could receive Medicaid revenues up 
to the full cost of providing services to Medicaid individuals and 
clarifies which types of health care providers can participate in 
financing of the non-Federal share of Medicaid payments. CMS has 
developed standardized and impartial regulatory criteria based upon 
Federal statue that States must apply on a consistent basis to each 
health care provider within the State to determine whether or not the 
health care provider is considered a unit of government under the 
regulation.
    193C. Comment: A number of commenters suggested that CMS failed to 
account for the initial and ongoing costs of implementation and 
compliance with the proposed regulation to the federal government and 
to States. These commenters observed that the estimated impact to the 
Federal government does not appear to include offsets for new needs, 
including additional staff that States and the Federal government will 
hire, the information technology and infrastructure development and 
changes, and educational efforts among States, providers and other 
stakeholders that will be required of the Federal government. One 
commenter believes that the proposed regulation understates the 
administrative burden on providers and the indirect impact that 
additional provider mandates could have on States' ability to develop 
adequate provider networks. Another commenter estimated that more than 
20,000 man hours will be required to initially comply with the 
regulation. Thus, commenters requested that CMS explain how it 
accounted for these additional costs or withdraw the rule due to the 
unwarranted burden associated with implementation.
    193R. Response: We do not believe that compliance with the 
regulation will result in significant administrative costs for States. 
For institutional governmentally-operated health care providers, the 
Medicaid cost limit determination will rely on existing reporting tools 
used by institutional health care providers. States will not be 
required to audit financial and cost information provided by individual 
institutional governmentally-operated health care providers as part of 
the Medicaid cost limit review. Each of the

[[Page 29808]]

source documents is subject to reporting and auditing rules specific to 
the original purpose of that document and independent of the Medicaid 
cost limit and State review process. The State must render an 
determination on the cost limit methodology applied to the source 
documents but will not be required to validate the accuracy of the 
information and data within the source documents.
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report currently 
does not exist. Because of this, we will be publishing a standardized 
cost reporting form that should be used to document such services. The 
purpose of this standardized form is to document in a uniform manner 
the cost of providing non-institutional services to Medicaid 
individuals. The period of time to which this cost report applies will 
be the Medicaid State plan rate year.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally operated non-institutional health care 
providers sufficient time to develop and implement Medicaid cost 
documentation and reporting processes consistent with the cost report 
template issued by CMS (including but not limited to changes in State/
provider reporting systems, changes to the Medicaid State plan, changes 
to time studies, establish periodic review and audit processes, etc.), 
States will not be required to document and report cost information 
associated with non-institutional Medicaid services until the State's 
Medicaid State plan rate year 2009. Actual submission of the State's 
summary report on the Medicaid cost limit for non-institutional 
services will not be due to CMS until December 31, 2011, which allows 
States an opportunity to implement periodic review and audit processes 
for Medicaid non-institutional costs starting in Medicaid State plan 
rate year 2009.
    Each State is responsible for the proper and efficient 
administration of its Medicaid program. Expenses incurred for 
administration of the Medicaid program are eligible for Federal 
matching funds at the at the regular 50 percent administrative matching 
rate.
    194C. Comment: One commenter implied that based on Federal Medical 
Assistance Percentage (FMAP) rates, the loss of Federal funding from 
the rule would harm the poorest States the most, as they would have the 
largest funding gap to make up, dollar for dollar as a percentage of 
expenditures, when compared to wealthier States with lower FMAP rates.
    194R. Response: Federal Medical Assistance Percentage (FMAP) rates 
are calculated strictly based upon the formula required by the Medicaid 
statute. Such calculations are outside the scope of this regulation.
    Under the provisions of the regulation, governmentally-operated 
health care providers will be permitted to receive up to 100 percent of 
the cost of serving Medicaid individuals. We are unclear how limiting 
Medicaid reimbursement to the full cost or providing services to 
Medicaid individuals would adversely affect a governmentally-operated 
health care provider, unless the health care provider had been 
historically receiving Medicaid payments above cost and using excess 
Medicaid revenues to subsidize other costs outside of the Medicaid 
program. In such a situation, the proposed cost limit could cause a net 
reduction in Medicaid revenue to the health care provider, but the 
amount of the reduction would directly correspond with the amount of 
Medicaid revenues that had been used for non-Medicaid purposes.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net health care providers, are not affected by 
the cost limit provision of the regulation and may therefore continue 
to receive Medicaid payments in excess of the cost of providing 
services to Medicaid individuals within existing Federal requirements. 
It remains unclear how a limit that does not apply to public hospitals 
could adversely impact quality and patient safety and vital community 
services.
    Moreover, the provisions of the regulation reaffirms State Medicaid 
financing policy requiring that health care providers be allowed to 
fully retain their Medicaid payments, another provision of which 
clearly demonstrates the Federal government's intent to protect the 
nation's public safety net and its ability to continue delivering 
critical health care services to Medicaid individuals and the 
uninsured. Any health care providers that become ineligible to 
participate in the State financing of Medicaid payments following the 
effective date of the provisions of this regulation can realize greater 
net revenues if State or local government funding sources are utilized 
to fund non-Federal share obligations to Medicaid payments historically 
financed by non-governmentally-operated ``public'' health care 
providers.
    195C. Comment: A number of commenters noticed that in the preamble, 
CMS mentioned that it examined Medicaid financing arrangements across 
the country but did not provide information on which States or how many 
States are employing questionable financing practices. Therefore, the 
commenters believe that the public is unable to meaningfully review the 
changes proposed by this rule or the estimated impact.
    195R. Response: CMS has examined numerous financing arrangements 
across the country; however, CMS cannot be certain that it has examined 
all questionable Medicaid financing arrangements among all the States 
in the nation. Any attempt to publish a comprehensive list of 
questionable Medicaid financing arrangements among States would be 
misleading.
    196C. Comment: One commenter asked specifically for any economic 
and other assumptions that CMS used in arriving at its estimate that 
the proposed rule's effect on actual patient services will be minimal.
    196R. Response: The statement referenced by the commenter was based 
on the fact that (1) the regulation presents no changes to coverage or 
eligibility requirements under Medicaid; (2) the regulation clarifies 
statutory financing requirements and allows governmentally operated 
providers to be reimbursed at levels up to cost; and (3) Federal 
matching funds will continue to be made available based on expenditures 
for appropriately covered and financed services delivered to Medicaid 
eligible individuals. Governmentally-operated health care providers can 
receive Medicaid revenues up to the full cost of providing services to 
Medicaid individuals and private health care providers may continue to 
receive Medicaid revenue in excess of Medicaid cost. Under these 
circumstances we do not anticipate that the actual services delivered 
by governmentally-operated health care providers or private health care 
providers will change.
    197C. Comment: One commenter expressed its intent to redistribute 
any funds that were paid to governmental providers in excess of cost to 
other providers that were paid less than cost, thereby negating any 
Federal savings that might be assumed from the cost limit provision of 
the regulation. In this regard, the commenter questioned the validity 
of any estimated Federal savings in the Regulatory Impact Analysis that 
is associated with the cost limit provision.
    197R. Response: This comment illustrates the significance of State 
decision-making in determining the actual financial impact this 
regulation.

[[Page 29809]]

Under the provisions of the regulation, Federal matching funds will be 
made available to States for payments to governmentally-operated health 
care providers under the approved Medicaid State Plan, up to 100 
percent of the cost of providing services to Medicaid individuals.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net health care providers, are not affected by 
the cost limit provision of the regulation and may therefore continue 
to receive Medicaid payments in excess of the cost of providing 
services to Medicaid individuals within existing Federal requirements. 
Any health care providers that become ineligible to participate in the 
State financing of Medicaid payments following the effective date of 
the provisions of this regulation can realize greater net revenues if 
State or local governments choose to utilize their funding sources to 
fund non-Federal share obligations to Medicaid payments historically 
financed by non-governmentally-operated ``public'' health care 
providers.
    198C. Comment: A number of commenters stated that the additional 
administrative workload associated with the cost limit and cost 
reporting for governmental providers will be excessive. One commenter 
believes that its State is not currently staffed to review or audit 
cost reports or forms of this magnitude, while another commenter stated 
that retrospective cost settlements of all providers considered units 
of government were not sufficiently accounted for in the impact 
analysis. One commenter, a State Medicaid agency, estimated that at 
least four FTEs will need to spend six months on the process of merely 
identifying governmental providers and making the relevant changes to 
the State's MMIS system. To illustrate the point on the administrative 
workload, one commenter listed a number of tasks that may be required 
to implement this provision.
    198R. Response: We do not believe that compliance with the 
regulation will result in significant administrative costs for States. 
For institutional governmentally-operated health care providers, the 
Medicaid cost limit determination will rely on existing reporting tools 
used by institutional health care providers. States will not be 
required to audit financial and cost information provided by individual 
institutional governmentally-operated health care providers as part of 
the Medicaid cost limit review. Each of the source documents is subject 
to reporting and auditing rules specific to the original purpose of 
that document and independent of the Medicaid cost limit and State 
review process. The State must render an determination on the cost 
limit methodology applied to the source documents but will not be 
required to validate the accuracy of the information and data within 
the source documents.
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report does not 
currently exist. Because of this, we will be publishing a standardized 
cost reporting form that should be used to document such services. The 
purpose of this standardized form is to document in a uniform manner 
the cost of providing non-institutional services to Medicaid 
individuals. The period of time to which this cost report applies will 
be the Medicaid State plan rate year.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally operated non-institutional health care 
providers sufficient time to develop and implement Medicaid cost 
documentation and reporting processes consistent with the cost report 
template issued by CMS (including but not limited to changes in State/
provider reporting systems, changes to the Medicaid State plan, changes 
to time studies, establish periodic review and audit processes, etc.), 
States will not be required to document and report cost information 
associated with non-institutional Medicaid services until the State's 
Medicaid State plan rate year 2009. Actual submission of the State's 
summary report on the Medicaid cost limit for non-institutional 
services will not be due to CMS until December 31, 2011, which allows 
States an opportunity to implement periodic review and audit processes 
for Medicaid non-institutional costs starting in Medicaid State plan 
rate year 2009.
    Each State is responsible for the proper and efficient 
administration of its Medicaid program. Expenses incurred for 
administration of the Medicaid program are eligible for Federal 
matching funds at the regular 50 percent administrative matching rate.
    199C. Comment: One commenter noted the $3.87 billion savings 
estimate associated with the proposed rule and urged CMS and the 
Administration to reinvest all savings back into innovations to address 
the nation's problem of the uninsured and to improve care for current 
Medicaid individuals.
    199R. Response: Spending authority related to any savings generated 
from the regulation primarily rests with the Congress. Furthermore, 
State decisions are also a major factor in the financial impact of the 
regulation and the use of funds. State or local governments may choose 
to use their funding sources to fund non-Federal share obligations to 
Medicaid payments historically financed by non-governmentally-operated 
``public'' health care providers and may also devote such resources to 
address the issues described by the commenter.
    200C. Comment: One commenter commented specifically on the impact 
this rule would have on States with large rural populations. In rural 
areas, the commenter notes, local governments often serve as the only 
provider to ensure access to needed care, including mental health 
services and long term care. The payment limits and cost documentation 
requirements of the rule were identified as particularly challenging 
for rural local government providers, due to the potential loss of 
reimbursement and the administrative burden associated with cost 
documentation.
    200R. Response: The Medicaid cost limit permits all governmentally-
operated health care providers the opportunity to receive Medicaid 
revenues up to the full cost of providing services to Medicaid 
individuals. Furthermore, we do not believe the Medicaid cost limit 
will impose a significant burden on States or governmentally-operated 
health care providers.
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report currently 
does not exist. Because of this, we will be publishing a standardized 
cost reporting form that should be used to document such services. The 
purpose of this standardized form is to document in a uniform manner 
the cost of providing non-institutional services to Medicaid 
individuals. The period of time to which this cost report applies will 
be the Medicaid State plan rate year.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally operated non-institutional health care 
providers sufficient time to develop and implement Medicaid cost 
documentation and reporting processes consistent with the cost report 
template issued by CMS (including but not limited to changes in State/
provider reporting systems, changes to the Medicaid State plan, changes 
to time studies, establish periodic review and audit processes, etc.), 
States will not be required to document and report cost information 
associated with non-

[[Page 29810]]

institutional Medicaid services until the State's Medicaid State plan 
rate year 2009. Actual submission of the State's summary report on the 
Medicaid cost limit for non-institutional services will not be due to 
CMS until December 31, 2011, which allows States an opportunity to 
implement periodic review and audit processes for Medicaid non-
institutional costs starting in Medicaid State plan rate year 2009.
    Each State is responsible for the proper and efficient 
administration of its Medicaid program. Expenses incurred for 
administration of the Medicaid program are eligible for Federal 
matching funds at the regular 50 percent administrative matching rate.
    201C. Comment: One commenter took exception to the CMS statement in 
the preamble that it would be beneficial to distribute payments more 
evenly across all governmental providers because CMS did not provide 
any analysis or support showing that differential payments to select 
governmental providers do not serve a rational, favorable purpose, such 
as promoting the development and maintenance of programs key to the 
success of the State Medicaid program (even if such services may also 
be accessed by other individuals).
    201R. Response: The Medicaid cost limit permits all governmentally-
operated health care providers the opportunity to receive Medicaid 
revenues up to the full cost of providing services to Medicaid 
individuals. Because the Medicaid program is jointly funded by Federal, 
State, and local governments, we do not find it appropriate that units 
of State or local government would ``profit'' from Federal taxpayer 
dollars that are intended to match a percentage of the cost of 
providing services to Medicaid individuals.

K. Effective Date of the Final Regulation

    202C. Comment: Many commenters stated that the rule does not have a 
transition period, arguing that an effective date of September 1, 2007 
is too early. Many commenters offered specific suggestions as to the 
length of a transition period for compliance with the provisions of the 
proposed rule. The suggested length of transition ranged from a full 
state fiscal year, to two or three years, to a frequently identified 
length of ten years following the publication of the final rule. Other 
commenters suggested a specific date (such as January 1, 2008, 
September 1, 2008, or January 2009) as an alternative for the rule to 
become effective. A number of commenters requested ``phase in'' 
processes for States, local governments, and providers to come into 
compliance with the provisions of the proposed rule by the effective 
date.
    Different reasons were proffered to argue for transitional periods 
or phase-in processes. Many commenters noted that the changes proposed 
in this rule would require action by State legislatures in order to 
assure compliance. However, these commenters contend that factoring the 
States' established legislative cycles, there would not be enough time 
for State legislatures to act to ensure compliance with the rule by the 
currently proposed effective date of September 1, 2007. In fact, many 
States have nearly completed or already finalized the budget and all 
associated Medicaid funding for State fiscal year 2008, but some of the 
existing funding arrangements or state statutes will need to be 
modified due to the rule. Some legislatures may not be in session prior 
to September 1, 2007. Therefore, these commenters have requested a 
transition period for States, local governments, and providers to 
adjust to the changes proposed by the rule. Other commenters stated 
that longstanding payment methodologies and financing arrangements, 
many of which were previously approved by CMS, would be disrupted by 
this rule. Based on the administrative and financial changes required, 
the commenters requested a transition period for States, local 
governments, and providers to adjust to the proposed rule. Several 
commenters noted that the proposed rule would require States to submit 
amendments to their Medicaid State Plan for approval by CMS before they 
can come into compliance, noting the length of time it takes to develop 
a State plan amendment, vet it with the public, and receive approval by 
CMS.
    A number of commenters pointed out that States are not obligated to 
modify their programs based on the provisions of a proposed regulation; 
therefore, States may not have done anything thus far to comply with 
the proposed rule. These commenters justified a lack of action based on 
the possibility that the rule may be altered following the public 
comment period.
    Some commenters opined that establishing appropriate cost reporting 
mechanisms, as envisioned in the proposed rule, will require months of 
work, based on the need to define how costs should be allocated and 
reported and implement any systems changes that will become necessary. 
Additionally, some of these commenters note that the nature and extent 
of documentation required to support costs by governmental providers 
has not been disclosed by CMS. In addition to the cost reporting and 
State plan changes cited, one commenter noted that government hospitals 
would need to be removed from the DRG methodology, after which DRG 
weights would have to be recalibrated and peer groupings excluding 
these facilities. Therefore, the commenters have asked for a transition 
period for compliance following the effective date of the rule.
    Some commenters observed that the cost limit provision proposed at 
Sec.  447.206 would become effective on September 1, 2007, while 
effective dates for other provisions were not specified in the rule. 
These commenters asked CMS to clarify when all provisions of the 
proposed rule would be effective.
    202R. Response: All provisions of the regulation will be effective 
60 days after the publication of the final regulation. Moreover, CMS 
will require that the States report the universe of governmentally-
operated health care providers in each State by submitting a complete 
list of such health care providers to the Associate Regional 
Administrator for Medicaid of each State's respective CMS Regional 
Office within 90-days of the effective date of the regulation. CMS 
reserves the right to disagree with a State's initial determination of 
governmental status if we believe the State has not consistently 
applied the statutory and regulatory criteria to determine the 
governmental status of a particular health care provider.
    With respect to the new cost limit for governmentally-operated 
health care providers established at Sec.  447.206, a period of 
transition is warranted in order to ensure that governmentally-operated 
health care providers document and report their Medicaid costs in a 
consistent manner. In order to assist States in their obligation to 
ensure that Medicaid reimbursements to governmentally-operated health 
care providers do not exceed the individual governmentally-operated 
health care provider's costs, CMS has developed a general Medicaid cost 
reporting protocol available on the CMS Web site that specifically 
addresses the information utilized from each source document and the 
methods under which costs and revenues will be determined. These 
protocols have been developed in an effort to address concerns 
regarding requirements to properly document, audit, and review the 
costs associated with the provision of Medicaid services in both 
institutional and non-institutional environments. Timelines for 
implementation of the cost limit are included in the protocols for both 
institutional and non-institutional

[[Page 29811]]

providers. The timelines have been designed to allow governmentally 
operated providers and States Medicaid agencies sufficient time to 
transition into the new requirements of Sec.  447.206.
    CMS has developed a general Medicaid Cost Reporting Protocol 
available on the CMS Web site that specifically addresses the methods 
under which institutional and non-institutional Medicaid costs will be 
determined. The protocol was designed to provide States with detailed 
instructions to determine compliance with Federal requirements.
    For purposes of institutional governmentally-operated health care 
providers, the Medicaid cost limit determination will rely on existing 
reporting tools used by institutional health care providers. States 
will not be required to audit financial and cost information provided 
by individual institutional governmentally-operated health care 
providers as part of the Medicaid cost limit review. Each of the source 
documents is subject to reporting and auditing rules specific to the 
original purpose of that document and independent of the Medicaid cost 
limit and State review process. The State must render an determination 
on the cost limit methodology applied to the source documents but will 
not be required to validate the accuracy of the information and data 
within the source documents. The Medicaid State plan rate year 2008 
will be the first time period subject to the Medicaid cost limit for 
institutional governmentally-operated health care providers.
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report currently 
does not exist. Because of this, we will be publishing a standardized 
cost reporting form that should be used to document such services. The 
purpose of this standardized form is to document in a uniform manner 
the cost of providing non-institutional services to Medicaid 
individuals. The period of time to which this cost report applies will 
be the Medicaid State plan rate year.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally-operated non-institutional health care 
providers sufficient time to develop and implement Medicaid cost 
documentation and reporting processes consistent with the cost report 
template issued by CMS (including but not limited to changes in State/
provider reporting systems, changes to the Medicaid State plan, changes 
to time studies, establish periodic review and audit processes, etc.), 
States will not be required to document and report cost information 
associated with non-institutional Medicaid services until the State's 
Medicaid State plan rate year 2009. Actual submission of the State's 
summary report on the Medicaid cost limit for non-institutional 
services will not be due to CMS until December 31, 2011, which allows 
States an opportunity to implement periodic review and audit processes 
for Medicaid non-institutional costs starting in Medicaid State plan 
rate year 2009.
    CMS has modified the regulation to address transitional periods 
where necessary and detailed cost documentation instructions are 
available to States as explained above.
    203C. Comment: Many commenters expressed concern about the timing 
of making the changes proposed by this rule in light of larger issues 
facing our health care system today. Such issues include the risk of 
terrorist attacks, the possible onslaught of avian flu, and the 
diversion of ambulances due to facility overcrowding. With these 
circumstances, the commenters questioned the wisdom in proposing a rule 
that would withdraw large amounts of Medicaid dollars from institutions 
that play a significant role in the health care systems of our nations 
cities.
    203R. Response: The Medicaid program is a cooperative Federal-State 
program established in 1965 for the purpose of providing Federal 
financial participation (FFP) to States that choose to reimburse 
certain costs of medical treatment for needy individuals. The 
provisions of the regulation are consistent with the Medicaid statute.
    Medicaid is a vitally important program that serves very vulnerable 
individuals, and the Federal government remains committed to funding 
its share of the cost of providing Medicaid services to eligible 
individuals. We also note that State decisions will be the major factor 
in the actual financial impact this regulation will have within each 
State. CMS recognizes that States play a major role in the 
administration of the Medicaid program and that legal and financial 
arrangements between health care providers and units of government vary 
on a case by case basis. Therefore, CMS has developed standardized and 
impartial regulatory criteria based upon Federal statue that States 
must apply on a consistent basis to each health care provider within 
the State to determine whether or not the health care provider is 
considered a unit of government under the regulation.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net health care providers, are not affected by 
the cost limit provision of the regulation and may therefore continue 
to receive Medicaid payments in excess of the cost of providing 
services to Medicaid individuals within existing Federal requirements.
    Moreover, the regulation reaffirms State Medicaid financing policy 
requiring that health care providers be allowed to fully retain their 
Medicaid payments, another provision of which clearly demonstrates the 
Federal government's intent to protect the nation's public safety net 
and its ability to continue delivering critical health care services to 
Medicaid individuals and the uninsured. Any health care providers that 
become ineligible to participate in the State financing of Medicaid 
payments following the effective date of the provisions of this 
regulation can realize greater net revenues if State or local 
governments choose to utilize their funding sources to fund non-Federal 
share obligations to Medicaid payments historically financed by non-
governmentally-operated ``public'' health care providers.
    204C. Comment: Several commenters asked CMS to delay the proposed 
rule until the impact of the rule can be better identified on both 
State and national levels.
    204R. Response: The provision of the regulation that addresses a 
unit of government codifies the existing statutory definitions of a 
unit of government. This codification of existing Federal statute was 
established in an effort to assist States in identifying the universe 
of governmentally-operated health care providers that could receive 
Medicaid revenues up to the full cost of providing services to Medicaid 
individuals and clarifies which types of health care providers can 
participate in financing of the non-Federal share of Medicaid payments. 
CMS has developed standardized and impartial regulatory criteria based 
upon Federal statue that States must apply on a consistent basis to 
each health care provider within the State to determine whether or not 
the health care provider is considered a unit of government under the 
regulation.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net health care providers, are not affected by 
the cost limit provision of the regulation and may therefore continue 
to receive Medicaid payments in excess of the cost of providing 
services to Medicaid individuals within existing Federal requirements.
    Moreover, one provision of the regulation reaffirms State Medicaid

[[Page 29812]]

financing policy requiring that health care providers be allowed to 
fully retain their Medicaid payments, another provision of which 
clearly demonstrates the Federal government's intent to protect the 
nation's public safety net and its ability to continue delivering 
critical health care services to Medicaid individuals and the 
uninsured. Any health care providers that become ineligible to 
participate in the State financing of Medicaid payments following the 
effective date of the provisions of this regulation can realize greater 
net revenues if State or local governments choose to utilize their 
funding sources to fund non-Federal share obligations to Medicaid 
payments historically financed by non-governmentally-operated 
``public'' health care providers.
    For the above reasons, we do not believe it is appropriate to delay 
the regulation.
    205C. Comment: Multiple commenters asked that if the proposed rule 
is to become effective, that it should only be effective prospectively, 
not retroactively.
    205R. Response: The provisions of this regulation will be effective 
60 days after publication of the final regulation. While the provisions 
of the regulation will not be applied retroactively, total Medicaid 
revenues must be reconciled to actual Medicaid costs for purposes of 
compliance with the Medicaid cost limit. CMS has developed a general 
Medicaid Cost Reporting Protocol available on the CMS Web site that 
specifically addresses the methods under which institutional and non-
institutional Medicaid costs and revenues will be determined. The 
protocol was designed to provide States with detailed instructions to 
determine compliance with Federal requirements.
    206C. Comment: Multiple commenters expressed the belief that an 
effective date of September 1, 2007 would be impossible to achieve when 
it is not known in advance who qualifies as a unit of government under 
the proposed rule.
    206R. Response: All provisions of the regulation will be effective 
60 days after the publication of the final regulation. Moreover, CMS 
will require that the States report the universe of governmentally-
operated health care providers in each State by submitting a complete 
list of such health care providers to the Associate Regional 
Administrator for Medicaid of each State's respective CMS Regional 
Office within 90-days of the effective date of the regulation.
    207C. Comment: A number of commenters stated that to the extent 
that CMS contends that the current regulatory change is effective at 
any time prior to the finalization of the formal rulemaking process, it 
is in violation of not only the Administrative Procedures Act but also 
the Medicaid Voluntary Contribution and Provider-Specific Tax 
Amendments of 1991, which contained an uncodified provision to prevent 
the Secretary from issuing any interim final regulation to change the 
treatment of public funds as a source of the non-Federal share (see 5 
U.S.C. 553).
    207R. Response: Section 5(c) of the Medicaid Voluntary Contribution 
and Provider-Specific Tax Amendments of 1991, Public Law 102-234, 
required the Secretary to ``consult with the State before issuing any 
regulations under this Act.'' CMS interprets this provision as a check 
on the authorization to use interim final rulemaking procedures in 
section 5(a). We thus read the reference to ``any regulations'' to 
refer to the regulations specifically authorized under section 5(a) to 
be issued ``on an interim final or other basis'' to initially implement 
the Act. We do not read the condition as a permanent limitation on 
Secretarial rulemaking authority. We believe the condition was fully 
satisfied by the process the Secretary undertook when the regulations 
implementing that Act were issued in 1992 and 1993. Even if the 
condition were read to extend in perpetuity, however, we believe it has 
been met with respect to these regulations. 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. The general principles contained in this regulation have been 
explored with States over the years. Moreover, this Administration has 
announced its intentions with respect to this regulation in the 
President's Budget, and we have undertaken full notice and comment 
rulemaking procedures. In this process, we have received and considered 
numerous comments from States and other interested parties.

L. Miscellaneous Comments

1. Tribal Comments
    208C. Comment: Several commenters observed that under the proposed 
rule, Indian Tribes would only be able to participate in the non-
Federal share if it has ``generally applicable taxing authority.'' The 
commenters noted that the Indian tax law is complex, fraught with 
exceptions, and often the subject of litigation between Indian Tribes 
and States, but the proposed rule would require each State to analyze 
specific aspects of taxing structures of every tribe within the State. 
Therefore, it was noted that the taxing authority requirement to 
determine that a tribe is a unit of government will negatively affect 
the willingness of States to enter into cost sharing agreements with 
Indian Tribes, especially since an error in the determination could 
potentially have a negative financial consequence for the State.
    In a related comment, one commenter expressed an opinion that the 
criteria of the proposed rule to require Indian Tribes to have 
generally applicable taxing authority to be considered a unit of 
government or a governmental health provider contradicts over 100 years 
of treaties, statutes, executive orders, and court decisions 
recognizing and cementing the unique government-to-government 
relationship the United States has with Tribal governments. The 
commenter noted that some tribal governments have taxing authority but 
do not exercise their taxing authority. The commenter indicated that 
since many tribal organizations do not have taxing authority, they 
would not qualify as a unit of government under the proposed rule. The 
commenter therefore believed that this criteria for purposes of the 
Medicaid program is both morally wrong and possibly illegal.
    In light of the above, commenters suggested amending proposed Sec.  
433.50(a)(1)(i) to specifically address this issue.
    208R. Response: CMS has modified the regulation at Sec.  
433.50(a)(1)(i) to include Indian tribes as units of government without 
regard to taxing authority, in light of their unique status and 
government-to-government relationship to the Federal government..
    209C. Comment: A number of commenters stated that the proposed rule 
appeared to reverse the policy provided in the October 18, 2005 and 
June 9, 2006 State Medicaid Director (SMD) letters. The commenters are 
concerned that the proposed rule appears to further restrict Tribes and 
tribal organizations from participation in financing the non-Federal 
share by requiring the entity to have general applicable taxing 
authority.
    209R. Response: The provisions of the regulation were not intended 
to reverse policies articulated in the October 18, 2005 and June 9, 
2006 SMD letters concerning the ability of tribes and tribal 
organizations to use certified public expenditures as a method of 
participating in the financing of the non-Federal share of Medicaid 
administrative expenses.

[[Page 29813]]

    CMS has modified the regulation at Sec.  433.50(a)(1)(i) to address 
Indian tribes as units of government irrespective of their taxing 
authority.
    In addition, CMS is not requiring States to complete the ``Tool to 
Evaluate the Governmental Status of Health care Providers'' form for 
each Indian tribe and tribal organization within the State, because the 
unique criteria for determining the governmental status of tribes and 
tribal organizations makes the tool inapplicable to these entities. 
However, CMS does require each State to specify the qualifying tribes 
and tribal organizations (per the criteria at Sec.  433.50) in the list 
of all governmentally-operated health care providers that will be 
submitted to the CMS Regional Office within 90-days of the effective 
date of this regulation. Although tribal facilities are exempt from the 
Medicaid cost limit, the inclusion of tribes and tribal organizations 
in this list will clarify which entities have been determined by the 
State as eligible to participate in financing the non-Federal share of 
Medicaid payments.
    210C. Comment: Several commenters asserted that the proposed rule 
should include language to indicate that other funds of the Indian 
Tribe, including funds transferred to the Tribe under a contract or 
compact pursuant to the Indian Self-Determination and Education 
Assistance Act, Public Law 93-638, as amended, should be permissible 
sources of funding without regard to whether they were derived from 
general applicable taxing authority. In addition, the commenters 
requested the inclusion of language in the proposed rule to make clear 
that irrespective of the form of Medicaid reimbursement, the Tribe or 
Tribal organization will not be disqualified from participating in the 
non-Federal share. The commenters specifically suggested amending 
proposed Sec.  433.50(a)(1)(ii) by adding a new section (C) and 
provided suggested language.
    210R. Response: CMS has modified the regulation at Sec.  
433.50(a)(1)(i) to address Indian tribes as units of government 
regardless of their taxing authority.
    We note that currently Sec.  433.51(c) already indicates that 
``Federal funds authorized by Federal law to be used to match other 
Federal funds'' are permissible sources of financing the non-Federal 
share of Medicaid expenditures. We further recognize that Federally-
granted ISDEAA funds continue to be permissible sources of funding for 
the non-Federal share of Medicaid expenses.
    211C. Comment: One commenter opined that CMS ``purposefully and 
willfully misdirected the States and Indian Tribes'' by consulting with 
tribes relative to the October 18, 2005 and the June 9, 2006 SMD 
letters while failing to consult with tribes with respect to provisions 
of the proposed rule that seem to contradict the two SMD letters. The 
commenter questioned the timing of the tribal consultation in relation 
to the development of these regulations, and the commenter requested 
the outcome of such consultations. Further, the commenter questioned if 
CMS violated its own tribal consultation policy by not consulting with 
the Tribe or the Tribal Technical Advisory Group (TTAG) until after a 
month after these proposed regulations were published.
    211R. Response: CMS has worked collaboratively with tribes and 
States to address unique tribal health care issues and will continue 
these efforts in the future. The provisions of the regulation were not 
intended to reverse policies articulated in the October 18, 2005 and 
June 9, 2006 SMD letters concerning the ability of tribes and tribal 
organizations to use certified public expenditures as a method of 
participating in the financing of the non-Federal share of Medicaid 
administrative expenses. CMS has modified the regulation at Sec.  
433.50(a)(1)(i) to address Indian tribes as units of government 
irrespective of their taxing authority.
    212C. Comment: One observation was made that the proposed 
regulations would appear to negate some of the benefits that would be 
gained through the recently proposed bill (SB 578) protecting the 
Medicaid to Schools program.
    212R. Response: The requirements proposed in Sec. Sec.  433, 447, 
and 457 are consistent with the Medicaid statute.
2. Section 1115 Demonstrations/Managed Care Comments
    213C. Comment: Numerous commenters were confused and requested 
further clarification regarding the applicability of the proposed 
provisions of the regulation to section 1115 demonstration waivers. The 
commenters were particularly confused since the preamble to the 
proposed provisions specifically mentions that the regulations will 
apply to demonstration waivers, but on several occasions CMS has 
provided assurances to individual States that the proposed provisions 
of the regulation would not affect their current 1115 waiver program. 
The commenters also mentioned that not only are these assurances 
inconsistent with the preamble language, they are also inconsistent 
with the terms and conditions of the waivers, which specify that the 
waiver program will need to be modified to conform to changes in 
applicable law and regulations.
    213R. Response: All Medicaid payments made under Medicaid waiver 
and demonstration authorities are subject to all provisions of this 
regulation. The impact on individual waiver programs will have to be 
determined on a waiver by waiver basis to ascertain what, if any, 
changes will need to be made to address the final provisions of the 
regulation. Under recent 1115 waiver demonstration approvals and 
renewals, CMS provided States with guidance and parameters consistent 
with the provisions of the regulation. In fact, we have demonstrated 
through recent 1115 demonstration approvals that we have been able to 
successfully work with States to design programs that meet both Federal 
Medicaid statutory financing requirements as well as the States' need 
to develop programs to effectively deliver health care to safety net 
populations.
    214C. Comment: Multiple commenters stipulated that if the proposed 
provisions of the regulation are finalized as is, they would be 
extremely disruptive and harmful to existing waiver programs. These 
commenters cited specific concerns such as, use of CPEs by public 
entities that may not satisfy restrictive definitions of the proposed 
provisions of the regulation, utilization of payment methodologies that 
are not limited to cost and reliance on sources other than State or 
local taxes to provide the non-Federal share of expenditures. The 
commenters were also concerned that impacted waivers in States would 
not be able to obtain renewal of their program, without complying with 
the proposed provisions of the regulation, which could undermine the 
entire rationale for the waiver program. The commenters opined that 
these demonstration waivers are an important part of the Medicaid 
program and imposing these restrictive provisions would only stifle 
initiative, innovation and improvements to the delivery of health care. 
The commenters strongly recommended that if adopted, 1115 demonstration 
programs should be expressly exempted for as long as the program 
remains in effect, including through subsequent renewal periods. A few 
commenters stated that if their special funding pool under their 1115 
waiver is exempt, then their DSH program and supplemental physician 
payments should be as well.
    Other commenters requested that CMS clarify that the provisions of 
the

[[Page 29814]]

regulation would not result in reduced funding below the levels that 
were already agreed upon in the terms and conditions of waivers. The 
commenters also urged CMS to apply criteria used to approve waivers and 
establish their terms and conditions in a consistent and transparent 
manner across all States.
    214R. Response: We agree that demonstration programs are an 
important part of the Medicaid program, however, we disagree that the 
provisions of the regulation will stifle innovation and improvement in 
the delivery of health care. The provisions of the regulation reaffirm 
State Medicaid financing policy and clearly demonstrate the Federal 
government's intent to protect the nation's health care safety net to 
continue to delivery critical health care services to Medicaid 
individuals and the uninsured. The impact on individual waiver programs 
will have to be determined on a waiver by waiver basis to ascertain 
what, if any, changes will need to be made to address the provisions of 
the regulation once finalized. Our intent is not to prevent renewal of 
any demonstration program as long as it is consistent with Federal 
Medicaid statutory requirements governing the financing of the Medicaid 
program. In fact, we have demonstrated through recent 1115 
demonstration approvals that we have been able to successfully work 
with States to design programs that meet both Federal Medicaid 
statutory financing requirements as well as the States' need to develop 
programs to effectively deliver health care to safety net populations. 
Therefore, we disagree that 1115 demonstration programs be exempted. 
There are also existing established waiver approval criteria that are 
used to promote consistency and transparency.
    215C. Comment: Numerous commenters requested CMS to explicitly 
state in the final provisions of the regulation that the funding for 
specific State 1115 waivers would not be reduced or eliminated as a 
result of the provisions within the regulation. Several commenters 
discussed Florida's establishment, after complex and lengthy 
negotiations with CMS, of its Low Income Pool authorized through the 
authority under section 1115(a)(2) of the Act. Other commenters 
referenced California's Hospital Waiver that includes a Safety Net Care 
Pool designed to provide Federal match to State, public hospitals and 
other public entities' expenditures on services to the uninsured. These 
commenters mentioned that under the authority of section 1115(a)(2) of 
the Act, CMS allows these expenditures to be matched even though 
expenditures for the uninsured would not normally be eligible for 
Federal matching under Medicaid. The commenters are concerned that the 
provisions of the regulation would lower payments to hospitals under 
the Hospital waiver, resulting in reduced access to services for 
vulnerable populations, including children. At a minimum these 
commenters requested CMS specifically address their waiver programs, 
but overall recommend that the entire regulation be withdrawn.
    215R. Response: We have already articulated clearly to the cited 
States that based upon the premises and design of their demonstration 
programs, they should not be impacted by the final regulation's 
provisions. For Florida, while we are still working with the State to 
define expenditures that can be made through the Low Income Pool, 
approved expenditures will be eligible for Medicaid matching consistent 
with the authority under section 1115(a)(2) of the Act for the 
Secretary to provide federal matching for costs not otherwise matchable 
under Medicaid. In the case of California, the new MediCal 
reimbursement system pays certain government providers 100 percent of 
costs incurred for services furnished to Medicaid individuals and up to 
100 percent of their DSH eligible costs (which would include costs of 
services provided to the uninsured) subject to allotment limitations. 
One of the fundamental tenets of the demonstration and their 
reimbursement and funding methodologies is the payment of providers up 
to their full cost of providing hospital services to Medicaid 
individuals and to uninsured individuals. Under the demonstration, the 
uninsured costs are considered eligible under Medicaid and would be 
part of each government hospital's Medicaid cost base for purposes of 
the regulation. The Medicaid financing reforms adopted under 
California's 1115 demonstration are largely consistent with policies 
addressed in the provisions of the regulation therefore, to the extent 
these reforms continue to be met, it is unlikely that the 
demonstration's budget neutrality agreement would be adversely affected 
by the regulation. We do not believe that any additional statements are 
needed in the final regulation.
    216C. Comment: One commenter specified that it was unfair to force 
them to eliminate payments above cost when other States have been 
afforded the opportunity to retain such payments and funds through the 
waiver process. The commenter referenced the fact that CMS has allowed 
several States to receive above cost payments for governmental 
providers and use those funds, through a demonstration waiver, for low-
income or safety net care pools in order to facilitate payments to 
health care providers who serve uninsured or low-income individuals.
    216R. Response: Each State with the type of approved 1115 
demonstration program referenced by the commenter has demonstrated 
permissible sources for the non-Federal share of Medicaid payments. One 
of the fundamental tenets of this type of demonstration and 
reimbursement and funding methodologies is the payment of providers up 
to their full cost of providing hospital services to Medicaid 
individuals and to uninsured individuals. Under such a demonstration, 
the uninsured costs are considered eligible under Medicaid and would be 
part of each government hospital's Medicaid cost base for purposes of 
the regulation.
    217C. Comment: A few commenters asked that CMS specify that 
adjustments to any budget neutrality calculations will not be necessary 
as a result of the proposed rule's provisions. A few commenters 
mentioned that the terms and conditions within 1115 demonstration 
programs specifically require that CMS must adjust the budget 
neutrality cap to take into account reduced spending that would be 
anticipated under new regulations. The commenters asked if CMS would 
enforce this requirement and renegotiate budget neutrality agreements. 
Another commenter requested that CMS specifically explain how the 
proposed rule will affect States' existing waiver budget neutrality 
calculations and if States have to recalculate, which States will be 
adversely affected.
    217R. Response: Budget neutrality, except for funds associated with 
DSH conversions, is based on payments for medical services provided to 
Medicaid eligible individuals. These payments, including supplemental 
payments, are paid to health care providers based on services delivered 
to Medicaid eligible individuals. The provisions of this regulation 
would affect spending under the State plan only to the extent that 
payments associated with individuals receiving services from 
governmentally-operated health care providers are limited. The 
regulation would not limit the States' ability to make Medicaid 
payments, including supplemental payments, but would limit the amount 
of FFP available to States making Medicaid payments to governmentally-
operated health care providers for any Medicaid payment that was above 
that provider's cost.

[[Page 29815]]

    Adjustments to budget neutrality are made generally to address the 
effects on FFP of Federal Medicaid changes (limits or expansions) to 
benefits, coverage or eligibility under a Medicaid State Plan. For 
instance, if there was a change in federal law that required a new 
Medicaid service to be offered to all Medicaid eligible individuals, a 
State with a comprehensive section 1115 demonstration may request to 
open their budget neutrality agreements to include the cost of this new 
service within the agreement because they are required to provide it 
under the demonstration. This regulation only affects FFP available for 
Medicaid payments to select providers and not the services and 
eligibility categories that defined the budget neutrality calculation. 
Therefore, CMS would not consider this regulation a change that would 
require the recalculation of existing budget neutrality agreements.
    218C. Comment: A few commenters stated that the current UPL policy 
discourages the expansion of Medicaid managed care. The commenters 
noted under current regulations, States may only count the services 
utilized by Medicaid individuals that are paid on a fee-for-service 
basis. Services provided to Medicaid individuals enrolled in managed 
care on a capitated contracting basis are not counted towards the 
calculation of the UPL. Therefore, as managed care enrollment 
increases, the UPL decreases and the opportunity to obtain supplemental 
payments for safety net providers is drastically reduced. The 
commenters argued that because of this flawed methodology, many types 
of providers and local governments oppose managed care expansions. The 
commenters expressed their belief that expanded Medicaid managed care 
can slow the growth of Medicaid costs, lead to more efficient service 
delivery and promote high quality integrated systems of care. One 
commenter stated this policy prevents States from moving from a costly, 
unmanaged system of care to a model that provides coordinated care for 
individuals. Another commenter cited a recent Lewin Group report that 
highlighted the difficulties States face and how the current UPL policy 
detracts from savings that could be achieved through more efficient and 
effective delivery systems. The commenters recommended that managed 
care days be included in the calculation of UPLs. The commenters opined 
that this will prevent large decreases in payments to safety net 
providers, while also resulting in significant savings to the Federal 
and State governments. They also indicated that this would be 
consistent with the treatment of managed care days in DSH, as the 
formula used to calculate the maximum allowable DSH payment to 
hospitals does not distinguish between fee-for-service and managed care 
days.
    218R. Response: We disagree with the commenters' suggestions, since 
this regulation is actually designed to protect health care providers, 
including safety net providers. Under the provisions of the regulation, 
governmentally-operated health care providers are assured the 
opportunity to receive full cost reimbursement for serving Medicaid 
individuals. Non-governmentally operated health care providers, 
including many of the ``public'' safety net hospitals, are not affected 
by the cost limit provision of the regulation and therefore, may 
continue to receive Medicaid payments in excess of the cost of 
providing services to Medicaid individuals within existing Federal 
requirements. While we understand the circumstance raised by the 
commenters, as stated above, the provisions of this regulation would 
allow governmentally-operated health care providers to receive the full 
cost of providing services to Medicaid individuals and non-
governmentally-operated health care providers would still be able to 
receive Medicaid payments above cost that could help offset any managed 
care shortfalls perceived by providers.
    Governmentally-operated health care hospitals that realize a 
Medicaid managed care ``shortfall'' may continue to receive Medicaid 
DSH payments to satisfy such unreimbursed Medicaid costs. The ``UPL'' 
referenced by the commenters is a ceiling on Medicaid fee-for-service 
reimbursement systems and is calculated based on the Medicaid 
populations covered under such fee-for-service reimbursement system. 
The inclusion of managed care days in a fee-for-service payment limit 
demonstration is inconsistent with the purpose of such a demonstration.
    The regulations governing payment under the fee for service program 
are separate from the authority located in Sec.  438 for rates paid 
under capitated arrangements. Federal regulation requires that rates 
established for services under capitation arrangements be considered as 
payment in full. Further, Medicaid capitation payments are rooted in 
actuarial principles and practices and are appropriate for the 
individuals covered, and the services to be furnished under the 
contract. All of these provisions taken together should ensure that 
every Medicaid provider is paid appropriately for the services they 
deliver and has the ability to ensure continued access to services 
delivered on either a fee-for-service or capitated basis.
    219C. Comment: A couple of commenters expressed concern regarding 
the proposed unit of government definition and its impact on local 
managed care organizations (MCOs). The commenters articulated that 
because many State and local governments were instrumental in the 
development, launch and operation of local MCOs, the local 
administrators of these plans are often considered public entities 
under State statute. The commenters are concerned that these MCOs will 
fall under the new unit of government definition which would create 
unequal treatment between commercial and public MCOs. The commenters 
argued that this may create incentives to qualify quasi-governmental 
MCOs as units of government in order to allow eligible IGTs or CPEs to 
flow from these entities, while commercial MCOs would be left to 
compete under inequitable rules of competition. The commenters 
requested that CMS strictly enforce the unit of government definition 
as they apply to MCOs and should clarify that States may not consider 
an MCO's public status in procurement decisions and auto-assignment 
algorithms.
    219R. Response: The Federal Medicaid statute does not include a 
term or discussion that references a ``public'' health care provider 
for purposes of State Medicaid financing. The Federal Medicaid statute 
at section 1903(w) places severe statutory restriction on States' 
receipt of funds from health care providers to fund Medicaid payments. 
This section of the statute includes an exception to the general 
prohibition on the receipt of voluntary contributions from health care 
providers by allowing units of government, including governmentally-
operated health care providers, to participate in the certified public 
expenditure process. The notion that quasi-governmental MCOs can 
``qualify'' as a unit of government is misleading since any entity that 
can be determined to be a unit of government must meet the strict 
Federal statutory and regulatory criteria.
    If a managed care organization were determined to be governmental, 
we find it illogical that such an entity would utilize CPEs for the 
financing of its capitation payments. Such participation would not 
appear to create any benefit over private MCOs as suggested by the 
commenters. This seems to be counter intuitive to the very nature of 
managed care. First, a CPE would require reconciliation to actual costs 
of

[[Page 29816]]

delivering health care services to Medicaid individuals and would 
remove any possibilities of profit. Second, it is not clear how an 
entity's governmental status will create inequitable rules of 
competition considering the use of a CPE requires such governmental 
entity to expend funds to receive Federal matching funds and the MCO 
effectively would only receive the Federal share of the capitation 
payments.
    220C. Comment: One commenter stated that the proposed cost limit 
appeared to apply to payments made by Medicaid MCOs to public 
providers. The commenter stipulated that the application of a 
retrospective cost limit to managed care services will preclude 
providers from negotiating for and receiving capitation payments, and 
would contradict the principles of managed care. The commenter 
requested that CMS clarify that these payments are excluded from the 
proposed cost limit.
    A few commenters requested that CMS clarify the proposed rule's 
applicability to MCOs. The commenters specifically inquired as to how 
the cost limit applies to government providers participating in an MCO 
network. Other commenters stated that the proposed rule be clarified to 
indicate that MCOs, including prepaid inpatient health plans, are not 
subject to the proposed rule's cost limitation requirements with 
respect to both a State's payment to a MCO and to a MCO's payment to 
governmental providers. The commenters recommended that this be 
specifically articulated within the regulation text itself at 
Sec. Sec.  447.206, 447.272(b)(4) and 447.321(b)(4).
    One commenter stated that Pre-Paid Inpatient Health Plans (PIHPs) 
bear risk and must retain the ability to have risk reserves and carry 
forward funds for services and supports to Medicaid individuals that 
are specifically approved as part of reinvestment planning. Therefore, 
limiting these entities to actual cost will cause harm to the Medicaid 
individuals served.
    220R. Response: We partially agree with the commenters that 
additional clarity is necessary regarding the applicability of the 
Medicaid cost limit and have modified the regulation to include an 
exception in Sec.  447.206(b) for MCOs, PIHPs and PAHPs. Ultimately, 
payments to MCOs, PIHPs and PAHPs are rooted in actuarial principles 
and practices and are appropriate for the individuals covered and the 
services furnished under the contract, under Sec.  438.6(c). An MCO, 
PIHP or PAHP's Medicaid payments to a governmentally-operated health 
care provider would be subject to the Medicaid cost limit for that 
governmentally-operated health care provider. The Medicaid payment 
received by the governmentally-operated health care provider from an 
MCO, PIHP or PAHP would be treated as a Medicaid revenue of the 
governmentally-operated health care provider and would have to be 
reconciled against the governmentally-operated health care provider's 
actual costs of delivering health care services to all Medicaid 
individuals.
    221C. Comment: A few commenters stated that if the proposed rule is 
not withdrawn States should be given ample time to make necessary 
changes. Further, CMS should clarify that the changes will be 
prospective and not retroactive. The commenters were most concerned 
about the timing as it relates to States operating CMS approved section 
1115 waivers. The commenters noted that the terms and conditions of 
many of these waivers would have to be changed and, if applicable, the 
use of IGTs and/or CPEs and the overall amount of spending allowed 
under the waiver. Other commenters noted that changes to government 
physician rates would need to occur after cost report data has been 
established for such services, but actuaries would need time to 
reestablish payment ranges based on cost because these rates currently 
include a primary care case management capitation component. Finally, 
States would need time to amend 1115 demonstrations for certain 
payments provided to government operated providers that may be in 
excess of cost.
    221R. Response: The provisions within this regulation will not be 
applied retroactively. The regulation is effective 60 days after 
publication in the Federal Register.
    222C. Comment: A couple of commenters requested that CMS clarify 
whether it will allow other States to adopt similar waivers which may 
incorporate savings realized from the proposed rule's cost limit into 
their own safety net care pools or coverage expansion initiatives. The 
commenters also requested that if CMS does not plan to allow other 
States to make sure of cost limit savings, what would be its legal 
basis for its decision.
    222R. Response: The opportunity for future demonstration programs 
is always available to States. Any such proposal must, in part, 
demonstrate permissible sources of the non-Federal share funding and 
compliance with all other Federal statutory and regulatory provisions 
governing Medicaid payments. Section 1115 demonstrations were only 
approved after each State documented an accountable and transparent 
financing and health care delivery system. Our legal basis for 
determining the allowability of any demonstration program is based in 
any such demonstration's compliance with all applicable Federal 
statutory and regulatory provisions.
    223C. Comment: Numerous commenters requested that the proposed cost 
limit be revised to include, as an allowable cost, an actuarially sound 
provision for risk reserves when a unit of government has entered into 
a risk-based contract with an MCO or PIHP. The commenters stipulated 
that the proposed cost limit requirements would render all sub-
capitation arrangements with counties financially unsustainable since 
there would be no mechanism for building a risk reserve and managing 
the mismatch of revenue and expense across fiscal years. The commenters 
noted that this would have particular impact for health plans operating 
in small rural areas. The commenters expressed their belief that the 
proposed rule restricts units of government from entering into Medicaid 
risk-based contracts and creating a disadvantage for local governments 
that would desire to provide services where the market is not likely to 
do so.
    223R. Response: We do not believe that the suggested changes are 
necessary since the cost limit provisions do not apply to MCOs, PIHPs 
or PAHPs.
    224C. Comment: Several commenters stated that CMS should allow 
States to make direct payments to governmental providers for 
unreimbursed costs of serving Medicaid managed care enrollees. Current 
Medicaid managed care regulations prohibit States from making direct 
payments to providers for services available under a contract with a 
managed care organization and Prepaid Inpatient Health Plan or a 
Prepaid Ambulatory Health Plan. There is an exception to this 
prohibition on direct provider payments for payments for graduate 
medical education, provided capitation rates have been adjusted 
accordingly. Since this proposed rule will result in extreme funding 
cuts, CMS should reconsider the scope of the exception to the direct 
payment provision. If reimbursement to governmental providers is going 
to be restricted to cost, it should include costs for all Medicaid 
individuals, not just those in the declining fee-for-service 
population. Other commenters stated that because these payments would 
now be based on costs, there would not be the danger of ``excessive 
payments'' that has concerned CMS in the past. The commenters 
specifically requested that

[[Page 29817]]

CMS amend Sec. Sec.  438.6(c)(5)(v) and 438.60 to allow for direct 
payments to governmental providers for unreimbursed costs of Medicaid 
managed care patients.
    224R. Response: Under the regulations governing payments under risk 
contracts in Sec.  438.6(c), States are expected to make actuarially 
sound payments to MCOs, PIPHs, and PAHPs that include amounts for all 
services covered under the contract. We do not believe there should be 
a need for payments directly from the States to providers who are 
delivering their services to Medicaid MCO enrollees. Sections 
438.6(c)(5)(v) and 438.60 were designed to prevent duplicate and 
inappropriate supplemental payments for services for which the State 
had contracted with an MCO to provide. Under a managed care capitation 
payment systems, a State has in effect already paid for services that 
are included in an MCO's contract, and does not have an obligation to 
pay for them a second time.
    225C. Comment: Several commenters requested that CMS clarify that 
the cost limit based on the ``cost of providing covered Medicaid 
services to eligible Medicaid recipients'' does not exclude costs for 
payments authorized under Section 1115 demonstration programs that 
expressly allow payment for individuals or services not covered under 
the State Medicaid plan. The commenters were concerned that proposed 
Sec.  447.206(c)(1) specifies that ``all health care providers that are 
operated by units of government are limited to reimbursement not in 
excess of the individual provider's cost of providing covered Medicaid 
services to eligible Medicaid recipients.'' The commenters believed 
this would preclude any Medicaid reimbursement to governmental 
providers for costs of care for patients who are not eligible Medicaid 
individuals or for services that are not covered under the State 
Medicaid plan.
    The commenters questioned whether it is CMS' intent to either (1) 
apply the cost limit only to fee-for-service payments by the state 
agency for services provided to Medicaid individuals while relying on 
separate statutory or waiver-based authority to impose cost limits or 
demonstration program expenditures, or (2) to apply the cost limit more 
broadly than the language of the proposed rule would suggest. The 
commenters stated that preamble guidance regarding the ongoing validity 
of expenditure authority granted through existing demonstration 
projects would help reduce confusion about the intended scope. CMS 
should also clarify that the limitation to cost of Medicaid services 
for Medicaid individuals is not intended to limit CMS approved payments 
under demonstration programs that expressly allow payment for 
individuals or services not covered under the State Medicaid plan.
    225R. Response: Costs and populations that are otherwise not 
considered eligible for Medicaid matching purposes can be determined 
allowable under a section 1115 demonstration through the authority 
under section 1115(a)(2) of the Act which allows the Secretary to 
provide federal matching for costs not otherwise matchable under 
Medicaid. Such expenditures are eligible for Medicaid matching and 
would be recognized under the Medicaid cost limit provisions.
3. Other Miscellaneous Comments
    226C. Comment: One commenter opined that the provisions of the 
regulation would be a barrier to the provision of federal Medicaid 
funding for Medicaid services delivered as part of an Individual 
Education Plan or Individualized Family Service Plan under IDEA.
    226R. Response: The Individuals with Disabilities Education Act 
(IDEA) is a law ensuring services to children with disabilities. IDEA 
governs how States and public agencies provide early intervention, 
special education and related services to eligible children with 
disabilities. Section 1903(c) of the Act permits Medicaid reimbursement 
for Medicaid covered services provided to Medicaid eligible children 
under IDEA. The regulation does not require States to dismantle any of 
the existing Medicaid reimbursement rate methodologies they are 
currently using to reimburse providers of IDEA services.
    The provision of the regulation that addresses a unit of government 
codifies the existing statutory definitions of a unit of government. 
This codification of existing Federal statute was established in an 
effort to assist States in identifying the universe of governmentally-
operated health care providers that could receive Medicaid revenues up 
to the full cost of providing services to Medicaid individuals and 
clarifies which types of health care providers can participate in 
financing of the non-Federal share of Medicaid payments.
    227C. Comment: One commenter stated that the No Child Left Behind 
Act increased paperwork requirements for schools and that the 
provisions of the regulation would add to the extensive paperwork 
burden already in place.
    227R. Response: The paperwork requirements of the No Child Left 
Behind Act are outside of the purview of CMS and the Medicaid program. 
With respect to the burden of the provisions of this regulation, we 
have modified the regulation to include a transition period to allow 
States and governmentally-operated non-institutional health care 
providers, such as schools, sufficient time to develop and implement 
Medicaid cost documentation and reporting processes. States will not be 
required to document and report cost information associated with non-
institutional services such as those provided in schools until the 
State's Medicaid State plan rate year 2009.
    228C. Comment: Some commenters were severely disturbed that CMS is 
limiting the extent to which Medicaid funds can be used to pay for 
uninsured care. The commenters disagreed with CMS and stated that 
Congress has never precluded providers from using their Medicaid 
revenues to care for the uninsured. One commenter argued that Congress 
has expressly provided for this through the passage of laws, including 
the Medicaid disproportionate share program (DSH) and the Benefits 
Improvement Act of 2000 (BIPA). The commenter noted that section 701(d) 
of BIPA provided direct funds to a governmentally-operated hospital 
with a 65 percent low income utilization rate that was not receiving 
DSH payments.
    Another commenter requested that CMS include specific language in 
the regulatory text at Sec. Sec.  447.207 and 447.272 to exempt 
payments authorized by sections 701(d) and 705 of BIPA. These payments 
allow the State to contribute to its entire safety net for needy 
individuals.
    228R. Response: The fact that Congress has specifically provided 
for funding to pay for uninsured care in certain specified 
circumstances supports the general rule that, absent such specific 
authorization, Medicaid payments should be limited to supporting 
covered services for eligible individuals. We agree that the regulation 
should reference the specific statutory exceptions, and we are revising 
the regulation accordingly.
    229C. Comment: A few commenters expressed concern that the new 
limitations on allowable services under the rehabilitation option would 
be harmful to persons with mental retardation and currently receiving 
health-related specialty services that allow them to participate 
meaningfully and in a more mainstreamed manner in the public education 
system.
    229R. Response: The commenters' concerns are outside the scope of 
this

[[Page 29818]]

regulation. The regulation does not contemplate limitations on services 
under the rehabilitation option.
    230C. Comment: A couple of commenters questioned how this proposed 
rule interacts and impacts Pay for Performance (P4P) models. The 
commenters indicated that States have been encouraged by CMS to 
consider innovative payment strategies to pay providers a higher rate 
for adhering to certain quality indicators to achieve better individual 
health outcomes. The commenters stated that a governmentally operated 
provider will not be incentivized to meet quality goals or performance 
standards if they will be reimbursed according to cost.
    Further, the commenters questioned how any State can move forward 
with reimbursement policies incorporating quality measures if they 
won't apply to all providers of a service.
    230R. Response: We do not believe the provisions of this regulation 
will have any negative impact on Pay for Performance (P4P) models. This 
regulation does not preclude States from using innovative payment 
strategies to pay providers a higher rate for adhering to certain 
quality indicators to achieve better individual health outcomes. The 
method by which a State may choose to accomplish its quality-based 
purchasing program can vary greatly because of the variety of 
approaches available to a State to administer its Medicaid program. 
States maintain flexibility, within established Federal statute and 
regulations, to decide on medically necessary services that will be 
covered and rates that will be paid to providers.
    Under this regulation, governmentally-operated health care 
providers are assured the opportunity to receive full reimbursement for 
the cost of serving Medicaid individuals and except when a CPE is 
utilized as the non-Federal share of Medicaid payments, a cost 
reimbursement methodology within the Medicaid State plan is not 
required. States have the flexibility to pay the rate they choose as 
long as it does not result in Medicaid payments being greater than 
Medicaid costs in the governmentally-operated health care provider. 
Non-governmentally-operated health care providers may continue to 
receive Medicaid payments in excess of the cost of providing services 
to Medicaid individuals within existing Federal requirements.
    231C. Comment: A couple of commenters expressed their 
disappointment that CMS chose to issue this proposed rule so soon after 
passage and in the midst of implementation of the Deficit Reduction Act 
of 2005 (DRA). The commenters stated that having to implement this rule 
on top of the burdens placed on States as a result of the DRA (that is, 
documenting citizenship and identity), imposes extreme financial 
burden. The commenters stipulated that such a cost shift to States will 
hamper efforts to expand access to care to all children qualifying for 
Medicaid and SCHIP and to reach those children not currently eligible. 
The commenters recommended that CMS allow States to implement the DRA 
changes before making such a drastic change to Medicaid financing 
policies and practices.
    231R. Response: We do not believe the burden associated with the 
provisions of the regulation will impede States' ability to address any 
of the provisions within the DRA. Many of the provisions within this 
regulation codify existing Federal Medicaid law and do not represent 
policy change. Medicaid is a shared responsibility between Federal and 
State government. States are responsible for ensuring that their 
administration of their Medicaid program is in compliance with all 
Federal statutory and regulatory requirements.
    232C. Comment: One commenter noted that in response to the DRA, CMS 
outlined several new flexibilities available to States to help people 
served by Medicaid programs maintain access to affordable health care 
and allow States to use innovative approaches to providing health 
insurance and long-term care services. The commenter indicated that one 
such initiative is ``Roadmaps to Medicaid Reform''. The commenter 
stated that the proposed rule would erode the intent of the DRA and 
CMS'' on-going Medicaid reform efforts. The commenter strongly urged 
CMS to consider the effect this proposed rule will have on initiatives 
and the conflicting message sent to the States that have begun taking 
advantage of these reform measures.
    Another commenter stated that the proposed rule could derail their 
efforts to cover more uninsured through their State's health care 
improvement act, which follows the President's proposal of shifting 
Federal funding to help the uninsured buy private insurance and take 
ownership of their healthcare.
    232R. Response: We believe that nothing in this regulation prevents 
a State from implementing any flexibilities or innovations within their 
Medicaid programs. This regulation is merely designed to ensure the 
fiscal integrity of the Medicaid program.
    States maintain flexibility, within established Federal statute and 
regulations, to decide on medically necessary services that will be 
covered, populations that will be covered and rates that will be paid 
to health care providers. We will continue to work with States to 
determine the proper methods to implement such initiatives. There 
continue to be a variety of mechanisms States can use to achieve its 
specific goals for its Medicaid program including, but not limited to 
State plan changes, a Medicaid 1115 demonstration project application 
or amendment, or through a section 1915(b) or 1915(c) waiver.
    233C. Comment: Several commenters strongly opposed the President's 
fiscal year 2008 budget proposal to eliminate Medicaid graduate medical 
education (GME) funding. The commenters first questioned whether the 
Administration could even implement such a proposal without explicit 
statutory direction and if so, they presume CMS would purse this change 
through the notice of proposed rulemaking process. Other commenters 
urged CMS not to move forward with any proposal that would implement 
the President's budget proposal.
    233R. Response: Any changes related to Medicaid reimbursement for 
GME costs contained in the President's fiscal year 2008 would be 
published in the Federal Register and afford interested parties the 
opportunity to provide comment.
    234C. Comment: One commenter requested that CMS instruct States 
that outpatient drugs provided by governmentally-operated health care 
providers are excluded from Medicaid rebates under section 1927(j)(2) 
of the Act. The commenter believes the proposed rule will exclude 
outpatient drug utilization by providers from the Medicaid rebate 
program because the government will get the full benefit of any price 
reductions these providers obtain. The commenter further stipulated 
that under current Medicaid rebate law, hospitals that bill Medicaid no 
more than the hospitals' purchasing costs for covered outpatient drugs 
are not subject to the Medicaid rebate program. Because governmentally 
operated hospitals will receive no more than the purchasing costs for 
covered outpatient prescription drugs, they must be excluded from the 
Medicaid rebate program. The commenter reasoned that the Medicaid 
program will enjoy the benefit of whatever price reductions the 
hospitals negotiate with manufacturers.
    234R. Response: The treatment of outpatient drugs furnished by 
governmentally-operated health care providers for purposes of drug 
rebate is outside of the scope of this regulation.

[[Page 29819]]

    235C. Comment: One commenter suggested where fee-for-service 
payments to governmental providers constitutes a small percentage of a 
State's total medical assistance (the commenter suggested less than 5 
percent) due to either widespread use of managed care or lack of 
governmental providers, the entire Medicaid program should be exempt 
from the proposed rule provisions. The commenter recommended including 
this exemption in the following proposed regulatory provisions 
Sec. Sec.  433.51(b)(3), 447.206, 447.272 and 447.321.
    235R. Response: The purpose of this regulation is to address a 
number of key Medicaid financing issues and strengthen accountability 
to ensure compliance with statutory requirements. A State with very few 
governmentally-operated health care providers that otherwise finances 
its Medicaid program in a manner consistent with the Federal statute 
should realize minimal impact from the provisions of this regulation.
    236C. Comment: One commenter expressed their extreme 
dissatisfaction with their perceived disingenuous actions on the part 
of CMS. The commenter stipulated that they recently worked extensively 
with CMS to restructure their Medicaid financing and IGTs and were 
assured by CMS that as restructured they were in compliance with 
Federal law. However, the commenter pointed out, at the same time that 
CMS was assuring the commenter that it was in compliance with Federal 
law, CMS was developing proposed rules that, if applied as written, 
make CMS' assurance false. The commenter stated that either CMS acted 
in good faith and it knows that its proposed rules do not accurately 
reflect Federal law or CMS acted in bad faith because it never intended 
to fulfill its promises when it restructured the commenters Medicaid 
financing.
    236R. Response: We disagree with this characterization. We have 
worked extensively with many States in a manner that ensures the 
financing of their Medicaid programs are consistent with Federal 
statutory and regulatory requirements. Since August 2003, we have been 
examining State Medicaid financing through the Medicaid reimbursement 
SPA review process. During that process, we have worked with several 
States to identify permissible sources of State Medicaid financing. 
Over the past few years, many States remained interested in utilizing 
IGTs (and CPEs) in an effort to help finance their Medicaid programs. 
During that cooperative review effort, CMS has consistently reminded 
States the Federal statutory instruction governing IGTs and CPEs. Also 
during the SPA review process, States informed CMS that they should be 
allowed to determine eligibility for participation in IGTs (or CPEs) 
and that, absent clarification in regulation, the States would deem the 
health care providers they believe to be eligible to IGT or CPE. CMS 
deferred to that approach and also accommodated States' requests to 
create greater clarity though regulation to ensure compliance with 
Federal statute. With the issuance of this regulation, CMS has codified 
the existing statutory definitions of a unit of government. This 
codification of existing Federal statute was established in an effort 
to assist States in identifying the universe of governmentally-operated 
health care providers that could receive Medicaid revenues up to the 
full cost of providing services to Medicaid individuals and clarifies 
which types of health care providers can participate in financing of 
the non-Federal share of Medicaid payments.
    237C. Comment: One commenter took the opportunity to express their 
strong support for reauthorization of SCHIP and urged CMS to support 
funding levels that will allow States to maintain coverage for current 
enrollees, but also expand coverage to children who are eligible, but 
not yet enrolled.
    237R. Response: The reauthorization of SCHIP is outside the scope 
of this regulation.
    238C. Comment: One commenter recommended that CMS immediately 
consult with States on the proposed rule and modify or withdraw it 
based on State concerns. The commenter stated that section 5(c) of the 
Medicaid Voluntary Contribution and Provider-Specific Tax Amendments of 
1991 requires the Secretary to ``consult with States before issuing any 
regulations under this Act.'' The commenter inquired as to whether CMS 
complied with this statutory mandate since there was no mention of 
consultation in the preamble to the proposed rule. The commenter was 
particularly concerned since the National Governors' Association sent a 
letter to Congress strongly opposing the proposed rule. The commenter 
also requested information on whether the States' concerns have been 
taken into consideration at all in the formulation of this proposed 
rule.
    238R. Response: As discussed above, we believe the conditions of 
section 5(c) of the Medicaid Voluntary Contribution and Provider-
Specific Tax Amendments of 1991, Pub. L. 102-234, were fully satisfied 
by the process the Secretary undertook when the regulations 
implementing that Act were issued in 1992 and 1993. Even if these 
conditions were read to extend in perpetuity, however, we believe they 
have been met with respect to these regulations by the longstanding 
dialogue with States over these issues, and the employment of notice 
and comment procedures. The National Governors' Association letter is 
an example of receipt of State views in this consultation process. 
Consultation with States does not, however, obligate the federal 
government to agree with States or cede rulemaking authority to States. 
This preamble sets forth our consideration of State and other comments.
    239C. Comment: One commenter described their current problems 
involving county government practices related to reimbursement 
procedures under California Short/Doyle Medi-Cal program. While the 
issues raised were not directly related to the provisions of the 
proposed rule, the commenter felt it was important to point out that 
some counties within the State do not follow the reimbursement 
requirements within the existing approved Medicaid State plan. The 
commenter stated that if current practices continue, the proposed rule 
that providers are reimbursed on the approved Medicaid State plan will 
continue to be ignored.
    239R. Response: It is a State's responsibility to ensure its 
Medicaid program is implemented in accordance with all Federal Medicaid 
statutory and regulatory provisions, including compliance with its 
approved Medicaid State plan. To the extent that any Medicaid payment 
is not consistent with the methodology in the approved Medicaid State 
plan, a State is at risk of penalty under the authority of section 
1903(a) of the Act and/or section 1904 of the Act and Sec.  430.35.
    240C. Comment: Several commenters wrote to express their general 
concerns about health care in America and the general impact the 
proposed rule may have on our society. Many of these commenters stated 
that the financial impact of the proposed rule would cause States, 
providers, and low-income, elderly, and disabled people throughout the 
country to suffer, arguing that CMS should not implement any Medicaid 
rule that involves reductions in Federal Medicaid spending. The general 
impact of Medicaid cuts on children, in particular, was noted. Some of 
these commenters suggested that rather than proposing cuts in Medicaid 
spending, CMS should look for ways to increase Medicaid spending. A 
number of commenters identified health care for the uninsured, 
underinsured, and the indigent as a

[[Page 29820]]

major issue in the United States today and advocated that everyone 
should have health coverage. Other commenters suggested that the 
Federal government should stop wasting taxpayer money in other areas 
(for example, Federal salaries and benefits, the war in Iraq, other 
grants to States, etc.) as a means of saving money that could be used 
to maintain current Medicaid spending.
    240R. Response: We agree with the commenters regarding the 
importance of the Medicaid program to the nation's health care system 
and the vulnerable individuals that it serves. The provisions of the 
regulation did not propose the elimination of any funding for health 
care providers participating in the Medicaid program, or funding for 
health care services to vulnerable populations including children. We 
believe that overall this regulation can help strengthen the health 
care safety net by ensuring proper financing of the Medicaid program.
    The purpose of the regulation was to ensure proper State financing 
of their share of Medicaid program costs in accordance with Federal 
statutory and regulatory requirements. The regulation was actually 
designed to protect health care providers, including safety net 
providers. Under the provisions of the regulation, governmentally-
operated health care providers are assured the opportunity to receive 
full cost reimbursement for serving Medicaid individuals.
    Non-governmentally-operated health care providers are not affected 
by the cost limit provision of the regulation and therefore may 
continue to receive Medicaid payments in excess of the cost of 
providing services to Medicaid individuals within existing Federal 
requirements. Moreover, one provision of the regulation reaffirmed 
State Medicaid financing policy requiring that health care providers be 
allowed to fully retain their Medicaid payments, another provision 
which clearly demonstrates the Federal government's intent to protect 
the nation's safety net and its ability to continue delivering critical 
health care services to Medicaid individuals and the uninsured. In 
fact, with regard to participation in the State Medicaid financing, 
non-governmentally-operated health care providers can realize greater 
net revenues if State or local government funding sources are utilized 
to fund non-Federal share obligations to Medicaid payments historically 
financed by non-governmentally operated ``public'' health care 
providers.
    241C. Comment: A number of commenters expressed concern that the 
proposed rule would have on the continuing viability of the range of 
services available to adults and children who have serious mental 
illness. One such commenter opined that individuals who are mentally 
ill are subjected to low quality health care because States do not pay 
enough to recruit employees who care about the well being of these 
individuals.
    241R. Response: The provisions of the regulation were not designed 
to reduce health care services to Medicaid individuals. Instead the 
Medicaid cost limit permits all governmentally-operated health care 
providers the opportunity to receive Medicaid revenues up to the full 
cost of providing services to Medicaid individuals.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net health care providers, are not affected by 
the cost limit provision of the regulation and may therefore continue 
to receive Medicaid payments in excess of the cost of providing 
services to Medicaid individuals within existing Federal requirements.
    Moreover, the regulation reaffirms State Medicaid financing policy 
requiring that health care providers be allowed to fully retain their 
Medicaid payments, another provision of which clearly demonstrates the 
Federal government's intent to protect the nation's public safety net 
and its ability to continue delivering critical health care services to 
Medicaid individuals and the uninsured. Any health care providers that 
become ineligible to participate in the State financing of Medicaid 
payments following the effective date of the provisions of this 
regulation can realize greater net revenues if State or local 
governments choose to utilize their funding sources to fund non-Federal 
share obligations to Medicaid payments historically financed by non-
governmentally-operated ``public'' health care providers.
    242C. Comment: A number of commenters wrote in to express 
displeasure with elected representatives.
    242R. Response: This regulation pertains to the financing and 
fiscal integrity of the Medicaid program. The comments are outside of 
the scope of the Medicaid program and this regulation.
    243C. Comment: A number of commenters expressed concerns about 
policy issues and other issues that are unrelated to the provisions of 
this regulation. These issues included immigration policy; inflation; 
homelessness; veteran's benefits; taxation; personal circumstances; 
general standards of living; and the war in Iraq.
    243R. Response: This regulation pertains to the financing and 
fiscal integrity of the Medicaid program. The comments are outside of 
the scope of the Medicaid program and this regulation.
    244C. Comment: Some commenters singled out specific providers as 
being affected by the rule. One commenter opined that the only way that 
hospitals which treat the uninsured and underinsured can remain in 
business is from funding received through Disproportionate Share 
Hospital (DSH) payments and the Upper Payment Limit (UPL). If DSH and 
UPL programs are eliminated, the commenter asserts, many thousands of 
people will not receive needed care. Similarly, another commenter 
stated that many hospitals in a rural State have closed, and more will 
follow due to inadequate funding. A different commenter worried that 
nurses would be laid off, resulting in more trips to the emergency room 
by individuals who would otherwise be treated by nurses at home.
    244R. Response: The provisions of the regulation did not propose 
the elimination of any funding for health care providers participating 
in the Medicaid program, including DSH funding. Rather the purpose of 
the regulation is to ensure proper State financing of their share of 
Medicaid program costs in accordance with Federal statutory and 
regulatory requirements. The regulation was actually designed to 
protect health care providers, including safety net providers.
    Under the provisions of the regulation, governmentally-operated 
health care providers are assured the opportunity to receive full cost 
reimbursement for serving Medicaid individuals. Non-governmentally-
operated health care providers are not affected by the cost limit 
provision of the regulation and therefore may continue to receive 
Medicaid payments in excess of the cost of providing services to 
Medicaid individuals within existing Federal requirements.
    Moreover, one provision of the regulation reaffirms State Medicaid 
financing policy requiring that health care providers be allowed to 
fully retain their Medicaid payments, another provision which clearly 
demonstrates the Federal government's intent to protect the nation's 
safety net and its ability to continue delivering critical health care 
services to Medicaid individuals and the uninsured. In fact, with 
regard to participation in the State Medicaid financing, non-

[[Page 29821]]

governmentally-operated health care providers can realize greater net 
revenues if State or local government funding sources are utilized to 
fund non-Federal share obligations to Medicaid payments historically 
financed by non-governmentally operated ``public'' health care 
providers.
    245C. Comment: Many commenters strongly urged CMS to withdraw the 
proposed rule in its entirety. Most of these commenters believe that 
CMS should meet with impacted stakeholders to develop more meaningful 
and manageable rules and policy alternatives that would strengthen the 
nation's health safety net. Other commenters stated that if CMS does 
not withdraw the proposed rules, States' health care safety nets will 
unravel and health care services to the nation's most vulnerable 
individuals will be jeopardized.
    245R. Response: The regulation was issued in the Federal Register 
on January 18, 2007 as a notice of proposed rulemaking. A 60-day public 
comment period was provided and all comments received by CMS have been 
taken into consideration.
    The provisions of the regulation did not propose the elimination of 
any funding for health care providers participating in the Medicaid 
program, including DSH funding. Rather the purpose of the regulation is 
to ensure proper State financing of their share of Medicaid program 
costs in accordance with Federal statutory and regulatory requirements. 
The regulation was actually designed to protect health care providers, 
including safety net providers.
    Under the provisions of the regulation, governmentally-operated 
health care providers are assured the opportunity to receive full cost 
reimbursement for serving Medicaid individuals. Non-governmentally-
operated health care providers are not affected by the cost limit 
provision of the regulation and therefore may continue to receive 
Medicaid payments in excess of the cost of providing services to 
Medicaid individuals within existing Federal requirements.
    Moreover, one provision of the regulation reaffirms State Medicaid 
financing policy requiring that health care providers be allowed to 
fully retain their Medicaid payments, another provision which clearly 
demonstrates the Federal government's intent to protect the nation's 
safety net and its ability to continue delivering critical health care 
services to Medicaid individuals and the uninsured. In fact, with 
regard to participation in the State Medicaid financing, non-
governmentally-operated health care providers can realize greater net 
revenues if State or local government funding sources are utilized to 
fund non-Federal share obligations to Medicaid payments historically 
financed by non-governmentally operated ``public'' health care 
providers.
    246C. Comment: Several commenters recommended that CMS meet with 
various stakeholders to discuss challenges to the proposed rule from 
both State and Federal funding perspectives, and draft a new regulation 
that phases in some of the policy proposals.
    246R. Response: The regulation was issued in the Federal Register 
on January 18, 2007 as a notice of proposed rulemaking. A 60-day public 
comment period was provided and all comments received by CMS have been 
taken into consideration. Further, many provisions of this regulation 
are mere codifications of Federal Medicaid statutory provisions that 
CMS has been applying under the examination State Medicaid financing 
through the Medicaid reimbursement SPA review process. During that 
process, CMS has worked with several States to identify permissible 
sources of State Medicaid financing. CMS has consistently reminded 
States of the Federal statutory instruction governing State financing 
of the Medicaid program.
    247C. Comment: A couple of commenters expressed concern that the 
proposed rule will have a very serious affect on the ability of rural 
safety net providers to serve Medicaid individuals and the uninsured 
while also providing many essential, community-wide services. Another 
commenter stated that rural counties appear to be disproportionately 
disadvantaged by the proposed rule, since there are few if any 
alternative providers not subject to the proposed cost limit which 
could substitute services previously operated by rural county-operated 
clinics and the proposed limitations on funding for Medicaid 
transportation could be disproportionately disadvantageous by isolating 
seriously mentally disable clients living in rural communities. Another 
commenter stated that their rural hospital is already reimbursed 
significantly less than the cost to provide health care services and 
that any additional cuts will be detrimental to their ability to remain 
open. One commenter stated that CMS should be able to work with the 
remaining States to reform their systems without the proposed rule 
which could have large negative effects on rural government providers. 
Multiple commenters suggested that the cost limit provision of the 
proposed rule would disproportionately disadvantage rural providers 
because many providers in rural communities are governmentally 
operated, lack medical infrastructure routinely available elsewhere, 
serve as the only provider in the area, and provide care to a large 
Medicaid population.
    Some commenters expressed concern regarding the impact the 
substantial cuts the proposed rule will cause on other types of health 
care providers, including emergency physicians, nurses and physical 
therapists. With respect to physicians, a commenter stated that as 
physician practice costs grow, fewer and fewer physicians will be 
willing to participate in Medicaid, resulting in more and more 
individuals utilizing emergency room departments and further straining 
the health care safety net.
    Other commenters expressed that the nation's health safety net is 
fragile and warned against the cuts in Medicaid spending that would 
occur under the proposed rule, saying that harm to the safety net will 
ultimately harm the most vulnerable people in our communities.
    247R. Response: The provisions of the regulation were not designed 
to reduce health care services to Medicaid individuals. Instead the 
Medicaid cost limit permits all governmentally-operated health care 
providers the opportunity to receive Medicaid revenues up to the full 
cost of providing services to Medicaid individuals.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net health care providers, are not affected by 
the cost limit provision of the regulation and may therefore continue 
to receive Medicaid payments in excess of the cost of providing 
services to Medicaid individuals within existing Federal requirements.
    Moreover, the regulation reaffirms State Medicaid financing policy 
requiring that health care providers be allowed to fully retain their 
Medicaid payments, another provision of which clearly demonstrates the 
Federal government's intent to protect the nation's public safety net 
and its ability to continue delivering critical health care services to 
Medicaid individuals and the uninsured. Any health care providers that 
become ineligible to participate in the State financing of Medicaid 
payments following the effective date of the provisions of this 
regulation can realize greater net revenues if State or local 
governments choose to utilize their funding sources to fund non-Federal 
share obligations to Medicaid payments historically

[[Page 29822]]

financed by non-governmentally-operated ``public'' health care 
providers.
    248C. Comment: Several commenters urged CMS to reconsider the 
proposed rules as they will negatively impact delivery of health care 
services to children and children's hospitals. The commenters stated 
that because children make up the majority of the Medicaid population, 
this proposed rule will have a disproportionate impact on them. Some of 
the commenters also mentioned that on average children's hospitals 
devote more than 50 percent of their care to children on Medicaid and 
virtually all care for children with complex health care conditions and 
therefore they are reliant upon Medicaid (one commenter noted that over 
80 percent of their revenues come from Medicaid); such changes to the 
financing of the program will threaten their financial viability. 
Another commenter stated that medically disenfranchised children who 
receive care in community health centers, and at local, regional and 
State hospitals will face further impediments to access by 
implementation of this proposed rule.
    248R. Response: We do not believe the regulation will compromise 
the ability of health care providers participating in the Medicaid 
program from delivering critical health care services to children. 
Under the provisions of the regulation, governmentally-operated health 
care providers are assured opportunity to receive full cost 
reimbursement for serving Medicaid individuals.
    Non-governmentally-operated health care providers, including many 
of the ``public'' safety net hospitals, are not affected by the cost 
limit provision of the regulation and therefore, may continue to 
receive Medicaid payments in excess of the cost of providing services 
to Medicaid individuals within existing Federal requirements. Moreover, 
one provision of the regulation reaffirms State Medicaid financing 
policy requiring that health care providers be allowed to fully retain 
their Medicaid payments, another provision of which clearly 
demonstrates the Federal government's intent to protect the nation's 
public safety net and its ability to continue delivering critical 
health care services to Medicaid individuals and the uninsured.
    249C. Comment: A few commenters stated that overall CMS has usurped 
Congress' role with respect to Medicaid funding policy. The commenters 
noted that in the past, when there has been substantial change to 
Medicaid funding policy (that is, prohibiting provider-related taxes 
and donations, modifying DSH allotments, or modifying application of 
UPLs), Congress has made or at least supported the changes. The 
commenters indicated that if such sweeping changes are to be made to 
Medicaid, they should be made first through legislation. Another 
commenter stated that CMS'' response to concerns about lost funding for 
uninsured health care needs is that it is Congress' job to determine 
whether such Federal support is needed for Medicaid and uninsured 
individuals. The commenter pointed out that Congress has expressed no 
concern with the development of supplemental Medicaid payment systems 
in which States have used the Medicaid program as the primary source of 
Federal support for safety net health care. Therefore, if Congress is 
in fact the only entity, according to CMS, that can authorize 
replacement funding for the uninsured, then it should also be the 
entity that considers the types of sweeping payment and financing 
changes proposed by CMS. In general, many other commenters stated that 
CMS exceeded its statutory authority with all of the provisions within 
the proposed rule.
    249R. Response: This regulation interprets and implements statutory 
provisions enacted by Congress. These provisions detail specifically 
the authority to pay a federal share of the cost of covered services 
furnished to eligible individuals. Congress has not, to date, provided 
general authority for Medicaid payment to cover the costs of 
uncompensated care furnished to the uninsured. Nor has Congress 
expressly authorized general subsidies for public or safety net 
providers. Instead, Congress has provided some very specific and 
limited authority, such as disproportionate share hospital payments, 
that can be used to cover such costs. The commenters have pointed to no 
statutory authority to support the general payment of Medicaid funds 
for non-statutorily authorized purposes. Nor have the commenters 
explained how it exceeds CMS'' statutory authority to issue a 
regulation that ensures that Federal Medicaid funding is used for 
actual costs of covered Medicaid services furnished to eligible 
individuals.
    250C. Comment: Several commenters questioned if according to CMS 
data there are only three remaining States with questionable Medicaid 
financing arrangements, why is the proposed rule even necessary. The 
commenters noted that clearly the steps taken to date by Congress and 
CMS have addressed the concerns raised by CMS about State Medicaid 
financing mechanisms. Further the commenters stated that CMS has not 
explained how the proposed rules will further its stated goals. A few 
commenters supported CMS'' efforts to address State financing abuses, 
but believe that this only demonstrates that CMS already has the legal 
tools and sufficient safeguards under its existing review system and 
SPA approval process to address these problems and protect the 
integrity and accountability of the Medicaid program without disturbing 
the delicate balance between Federal, State, local governments and 
public health care providers. The commenters urged CMS to continue its 
work on a State by State basis. Other commenters stated that the 
proposed rule destroys effective, efficient, and innovative programs 
previously approved by CMS. Likewise, another commenter stated that the 
provisions of the proposed rule would diminish long-standing, 
legitimate State funding mechanisms that CMS has previously approved. A 
couple of other commenters detailed that CMS and the Office of the 
Inspector General have aptly demonstrated instances of recycling of 
Federal funds and of IGTs by entities without public status or funds 
and the commenters agreed that these abuses should be remedied. 
However, the commenters do not believe that the proposed rule addresses 
these abuses and CMS should ensure fair and equitable Medicaid 
reimbursement to all providers regardless of their operating status.
    250R. Response: Although CMS has achieved considerable success in 
its ongoing compliance monitoring programs on a State-by-State basis, 
States and providers have repeatedly requested formal clarification of 
the rules. State-by-State reviews and monitoring are costly and 
intrusive. This regulation ensures that States will fully understand 
applicable rules, and will know that the same rules apply nationwide. 
By setting out clear tests that States can apply and monitor, this 
regulation will permit States to evaluate potential financing and 
payment methodologies in advance. Moreover, this regulation will give 
CMS new enforcement and monitoring tools to ensure compliance.
    251C. Comment: A number of commenters were concerned about the 
workload that will be required to comply with the requirement to update 
waivers and State plans.
    251R. Response: The Medicaid cost limit provision does not require 
States to necessarily modify existing Medicaid reimbursement systems 
utilized to make Medicaid payments to governmentally-operated health 
care providers. Under the Medicaid cost limit States may

[[Page 29823]]

continue to use existing Medicaid reimbursement rate methodologies, but 
will need to compare such rates to the actual cost providing services 
to Medicaid individuals. Changes to existing Medicaid reimbursement 
systems deemed necessary by a State are subject to applicable Federal 
statutory and regulatory requirements.
    252C. Comment: A couple of commenters expressed their support for 
some of the policy objectives associated with this rule. Commenters 
specifically supported CMS efforts to clarify the regulations governing 
the financing of the non-Federal share of Medicaid payments; eliminate 
abusive financing practices involving ``recycling'' of Federal funds; 
strengthen financial accountability; or limit Federal reimbursement to 
the reasonable costs of governmental providers for delivering Medicaid 
services.
    252R. Response: We appreciate the support of CMS'' efforts to 
ensure the fiscal integrity of the Medicaid program.
    253C. Comment: Several commenters wrote about the impact the 
proposed rule could potentially have on teaching hospitals 
specifically. The commenters noted that teaching hospitals fill unique 
roles that extend beyond the normative patient care services rendered 
in other hospitals. For example, teaching hospitals may house level 1 
trauma centers, burn centers, cancer centers, and neonatal intensive 
care units, or they may offer organ transplants, specialized orthopedic 
services, or high risk obstetrical services. Teaching hospitals are 
training sites for all types of health professional trainees and have a 
leading role in medical research, which leads to their care for the 
nation's sickest and most complex patients.
    Teaching hospitals have the newest and most advanced treatments and 
technologies, and today they are also viewed as front-line responders 
in the event of a biological, chemical, or nuclear attack or a natural 
disaster. In many States, teaching hospitals are the only providers of 
specialized medical services for individuals with serious health 
conditions. Teaching hospitals also tend to be among the largest 
Medicaid providers in their States; in fact, one commenter observed 
that teaching hospitals represent only 6 percent of all hospitals 
nationally, but about 25 percent of Medicaid discharges are from 
teaching hospitals. Significant financial investments are necessary for 
teaching hospitals to continue to fill their critical safety net role 
in our health care system. The commenters noted that Medicaid is a 
significant source of revenue for teaching hospitals, commenting that 
cuts in Medicaid spending and the provisions of the proposed rule could 
upset the delicate balance of resources that teaching hospitals rely 
upon to maintain their operations. These commenters suggested that the 
proposed rule may jeopardize the financial state of teaching hospitals, 
resulting in potential losses of critical services and reduced access 
to specialty care.
    Another commenter argued that teaching hospitals should not be 
subject to the proposed cost limit by noting that in prior court 
filings, CMS has explicitly recognized the value of allowing 
flexibility for States to direct higher payments to certain hospitals 
having special needs. The commenter also stated that private hospitals 
and other hospitals should have the same upper payment limit (UPL) and 
that a distinct UPL for governmental providers would be unequal and 
unwarranted.
    253R. Response: We agree that teaching hospitals are very important 
to our nation's ability to deliver health care to all populations, 
including those with the most critical needs. The regulation reaffirms 
State Medicaid financing policy requiring that health care providers be 
allowed to fully retain their Medicaid payments, which clearly 
demonstrates the Federal government's intent to protect the nation's 
public safety net and its ability to continue delivering critical 
health care services to Medicaid individuals and the uninsured. The 
provisions of the regulation were not designed to reduce health care 
services to Medicaid individuals. Instead the Medicaid cost limit 
permits all governmentally-operated health care providers the 
opportunity to receive Medicaid revenues up to the full cost of 
providing services to Medicaid individuals. Consistent with the 
Medicaid cost limit on all governmentally-operated health care 
providers, the applicable upper payment limit is Medicaid cost. We do 
not find it appropriate that units of State or local government would 
``profit'' from Federal taxpayer dollars that are intended to match a 
percentage of the cost of providing services to Medicaid individuals.
    The DSH program is available to States to provide payments for 
uncompensated care costs associated with inpatient and outpatient 
hospital services provided to individuals with no source of third party 
coverage (that is, uninsured).
    254C. Comment: One commenter argued that Section 705(a) of the 
Medicare, Medicaid, and SCHIP Benefits Improvement and Protection Act 
of 2000 (BIPA) directed CMS to apply an ``aggregate upper payment limit 
to payments made to government facilities that are not state-owned or 
operated facilities.'' The commenter cited this provision in an effort 
to demonstrate that the proposed cost limit contradicts this mandate 
from Congress and asked that this provision be rescinded.
    254R. Response: Section 705(a) of BIPA set forth conditions for a 
specific final regulation. Those conditions were met. Section 705(a) 
did not preclude the Secretary from engaging in further rulemaking on 
the same subject, or otherwise amend the Social Security Act to require 
a particular method to implement the requirement at section 
1902(a)(30(A) of the Social Security Act to assure payment rates that 
were consistent with efficiency, economy and quality of care.
    255C. Comment: Several commenters were particularly concerned about 
the impact the proposed cost limit would have on State teaching 
hospitals. The commenters stated that these facilities typically serve 
the largest number of Medicaid individuals and provide vital services 
to the community. Limiting Medicaid payment will eliminate funding for 
trauma centers and the training of physicians. Another commenter stated 
the proposed cost limit would foreclose additional opportunities to use 
UPL supplemental payments to improve reimbursement rates for physicians 
affiliated with State medical schools.
    255R. Response: We agree that teaching hospitals are very important 
to our nation's ability to deliver health care to all populations, 
including those with the most critical needs. The regulation reaffirms 
State Medicaid financing policy requiring that health care providers be 
allowed to fully retain their Medicaid payments, which clearly 
demonstrates the Federal government's intent to protect the nation's 
public safety net and its ability to continue delivering critical 
health care services to Medicaid individuals and the uninsured. The 
provisions of the regulation were not designed to reduce health care 
services to Medicaid individuals. Instead the Medicaid cost limit 
permits all governmentally-operated health care providers the 
opportunity to receive Medicaid revenues up to the full cost of 
providing services to Medicaid individuals. Consistent with the 
Medicaid cost limit on all governmentally-operated health care 
providers, the applicable upper payment limit is Medicaid cost. We do 
not find it appropriate that units of State or local government would 
``profit'' from Federal taxpayer dollars that are intended to match a 
percentage of the

[[Page 29824]]

cost of providing services to Medicaid individuals.
    The DSH program is available to States to provide payments for 
uncompensated care costs associated with inpatient and outpatient 
hospital services provided to individuals with no source of third party 
coverage (that is, uninsured).
    256C. Comment: Many commenters argued that the proposed rule 
ultimately represents a cost shift from the Federal government to the 
States. Multiple commenters noted that financing arrangements and 
reimbursement methodologies which the States have been using for years 
would now become impermissible under the proposed rule, resulting in a 
necessary increase of State funds to cover Medicaid program costs. Some 
commenters opined that States are not equipped to single-handedly 
shoulder the burden of uncompensated health care costs associated with 
the rising levels of uninsured in this country. Concern was expressed 
that States and local governments would be unable to fill the gap 
created by the loss of Federal funds from this rule, which would stress 
health care delivery systems across America and result in greater 
numbers of uninsured and reduced access to care. Therefore, these 
commenters urged CMS to withdraw the proposed rule.
    Many other commenters expressed a belief that despite assertions by 
CMS, the proposed regulation is actually nothing more than an effort to 
cut Federal Medicaid spending.
    256R. Response: The Federal government remains committed to funding 
its share of the cost of providing Medicaid services to eligible 
individuals. Further, we understand that governmentally-operated health 
care providers have numerous goals and objectives that extend beyond 
the Medicaid program. Under the Medicaid cost limit of the regulation, 
Medicaid will continue to be permitted to pay for its share of costs 
associated with a provider's services that benefit Medicaid individuals 
in accordance with applicable statutory and regulatory requirements. 
However, when Medicaid is viewed as a primary source of revenue for a 
government's non-Medicaid activities, no matter how noble such 
activities may be, the statutory purpose of the Medicaid program has 
been undermined. Medicaid is a shared responsibility between Federal 
and State government. State governments may share their fiscal 
obligation to the Medicaid program with local governments according to 
the instruction of Congress. However, States are responsible for 
ensuring that their administration of their Medicaid program is in 
compliance with all Federal statutory and regulatory requirements. We 
do not find it appropriate that units of State or local government 
would ``profit'' from Federal taxpayer dollars that are intended to 
match a percentage of the cost of providing services to Medicaid 
individuals.
    The provisions of the regulation were not designed to reduce health 
care services to Medicaid individuals. Instead the Medicaid cost limit 
permits all governmentally-operated health care providers the 
opportunity to receive Medicaid revenues up to the full cost of 
providing services to Medicaid individuals. Non-governmentally-operated 
health care providers, including many of the ``public'' health care 
providers, are not affected by the Medicaid cost limit provision and 
may therefore continue to receive Medicaid payments in excess of the 
cost of providing services to Medicaid individuals within existing 
Federal requirements.
    Moreover, the regulation reaffirms State Medicaid financing policy 
requiring that health care providers be allowed to fully retain their 
Medicaid payments, another provision of which clearly demonstrates the 
Federal government's intent to protect the nation's public safety net 
and its ability to continue delivering critical health care services to 
Medicaid individuals and the uninsured. Any health care providers that 
become ineligible to participate in the State financing of Medicaid 
payments following the effective date of this regulation can realize 
greater net revenues if State or local government funding sources are 
utilized to fund non-Federal share obligations to Medicaid payments 
historically financed by non-governmentally-operated ``public'' health 
care providers.
    257C. Comment: Many commenters wrote about the impact that the 
proposed rule would have on specific States, communities, or providers 
throughout the country. Although it is not possible to cite every 
specific situation that was cited, a few examples are provided here. 
One commenter, a large city government, noted the high levels of 
Medicaid individuals within its jurisdiction but the disproportionately 
low level of dollars received for Medicaid services, arguing that the 
proposed rule will severely restrict the level and quality of care 
provided to city residents. A commenter estimated that within its 
State, 80 DSH hospitals, 65 UPL hospitals, 78 nursing homes, 12 ICF/MR 
facilities, 159 public health departments, and 27 community mental 
health centers would be impacted by the rule, concluding that the 
statewide health care safety net ``is anticipated to collapse'' due to 
the rule. A State medical association asserted that public hospitals in 
the State's largest communities would lose $338 million in Federal 
Medicaid funds as a result of this rule. Another commenter stated that 
the proposed rule would cut off existing Federal funding streams to its 
State, forcing hospitals to either raise their charges to insured 
individuals or reduce costs by eliminating costly but under-reimbursed 
services, neither of which was desirable. The commenter went on to say 
that the ultimate economic impact of the rule on the State, including 
the loss of Federal Medicaid funding and the associated loss of jobs 
and other economic impacts, has been estimated at over $600 million 
statewide. An additional commenter conveyed statistics about the 
services safety net providers offer and the populations they serve 
within the State, urging CMS to do nothing that could lower 
reimbursements to such providers. The comments cited are representative 
generally of the opinions expressed about the impact the proposed rule 
would have on specific States, localities, and providers. For the most 
part, commenters who wrote about such specific impacts opposed the rule 
and asked CMS to withdraw it.
    257R. Response: The Federal government remains committed to funding 
its share of the cost of providing Medicaid services to eligible 
individuals. Further, we understand that governmentally-operated health 
care providers have numerous goals and objectives that extend beyond 
the Medicaid program. Under the Medicaid cost limit of the regulation, 
Medicaid will continue to be permitted to pay for its share of costs 
associated with a provider's services that benefit Medicaid individuals 
in accordance with applicable statutory and regulatory requirements. 
However, when Medicaid is viewed as a primary source of revenue for a 
government's non-Medicaid activities, no matter how noble such 
activities may be, the statutory purpose of the Medicaid program has 
been undermined. Medicaid is a shared responsibility between Federal 
and State government. State governments may share their fiscal 
obligation to the Medicaid program with local governments according to 
the instruction of Congress. However, States are responsible for 
ensuring that their administration of their Medicaid program is in 
compliance with all

[[Page 29825]]

Federal statutory and regulatory requirements. We do not find it 
appropriate that units of State or local government would ``profit'' 
from Federal taxpayer dollars that are intended to match a percentage 
of the cost of providing services to Medicaid individuals.
    The provisions of the regulation were not designed to reduce health 
care services to Medicaid individuals. Instead the Medicaid cost limit 
permits all governmentally-operated health care providers the 
opportunity to receive Medicaid revenues up to the full cost of 
providing services to Medicaid individuals. Non-governmentally-operated 
health care providers, including many of the ``public'' health care 
providers, are not affected by the Medicaid cost limit provision and 
may therefore continue to receive Medicaid payments in excess of the 
cost of providing services to Medicaid individuals within existing 
Federal requirements.
    Moreover, the regulation reaffirms State Medicaid financing policy 
requiring that health care providers be allowed to fully retain their 
Medicaid payments, another provision of which clearly demonstrates the 
Federal government's intent to protect the nation's public safety net 
and its ability to continue delivering critical health care services to 
Medicaid individuals and the uninsured. Any health care providers that 
become ineligible to participate in the State financing of Medicaid 
payments following the effective date of this regulation can realize 
greater net revenues if State or local government funding sources are 
utilized to fund non-Federal share obligations to Medicaid payments 
historically financed by non-governmentally-operated ``public'' health 
care providers.
    258C. Comment: A number of commenters recognized that some States, 
local governments, or providers have been involved in abusive Medicaid 
financing practices but asserted that the proposed rule, in its effort 
to address such abuses, actually penalizes those who did not engage in 
inappropriate financing practices. These commenters argued that it is 
unfair that States, local governments, or providers who have done 
nothing wrong are now paying for the misdeeds of others. Numerous other 
commenters argued that the proposed cost limit is overreaching and CMS 
is improperly imposing this restrictive limit in States that either 
removed or never relied on inappropriate financing arrangements. They 
believe the new cost limit would impose a deep cut to rectify a non-
existent problem in most instances.
    258R. Response: The Federal government remains committed to funding 
its share of the cost of providing Medicaid services to eligible 
individuals. Further, we understand that governmentally-operated health 
care providers have numerous goals and objectives that extend beyond 
the Medicaid program. Under the Medicaid cost limit of the regulation, 
Medicaid will continue to be permitted to pay for its share of costs 
associated with a provider's services that benefit Medicaid individuals 
in accordance with applicable statutory and regulatory requirements. 
However, when Medicaid is viewed as a primary source of revenue for a 
government's non-Medicaid activities, no matter how noble such 
activities may be, the statutory purpose of the Medicaid program has 
been undermined. Medicaid is a shared responsibility between Federal 
and State government. State governments may share their fiscal 
obligation to the Medicaid program with local governments according to 
the instruction of Congress. However, States are responsible for 
ensuring that their administration of their Medicaid program is in 
compliance with all Federal statutory and regulatory requirements. We 
do not find it appropriate that units of State or local government 
would ``profit'' from Federal taxpayer dollars that are intended to 
match a percentage of the cost of providing services to Medicaid 
individuals.
    The provisions of the regulation were not designed to reduce health 
care services to Medicaid individuals. Instead the Medicaid cost limit 
permits all governmentally-operated health care providers the 
opportunity to receive Medicaid revenues up to the full cost of 
providing services to Medicaid individuals. Non-governmentally-operated 
health care providers, including many of the ``public'' health care 
providers, are not affected by the Medicaid cost limit provision and 
may therefore continue to receive Medicaid payments in excess of the 
cost of providing services to Medicaid individuals within existing 
Federal requirements.
    Moreover, the regulation reaffirms State Medicaid financing policy 
requiring that health care providers be allowed to fully retain their 
Medicaid payments, another provision of which clearly demonstrates the 
Federal government's intent to protect the nation's public safety net 
and its ability to continue delivering critical health care services to 
Medicaid individuals and the uninsured. Any health care providers that 
become ineligible to participate in the State financing of Medicaid 
payments following the effective date of this regulation can realize 
greater net revenues if State or local government funding sources are 
utilized to fund non-Federal share obligations to Medicaid payments 
historically financed by non-governmentally-operated ``public'' health 
care providers.
    259C. Comment: One commenter questioned why cost reporting is 
necessary for publicly-operated health care providers who do not 
participate in the non-federal share of Medicaid payments and who 
retain all of their Medicaid payments.
    259R. Response: The Federal Medicaid statute does not include a 
term nor discussion that references a ``public'' health care provider 
for purposes of State Medicaid financing. We do not believe the cost 
limit will impose significant administrative burden on States 
particularly since such limit applies only to governmentally-operated 
health care providers.
    For purposes of institutional governmentally-operated health care 
providers, the Medicaid cost limit determination will rely on existing 
reporting tools used by institutional health care providers. States 
will not be required to audit financial and cost information provided 
by individual institutional governmentally-operated health care 
providers as part of the Medicaid cost limit review. Each of the source 
documents is subject to reporting and auditing rules specific to the 
original purpose of that document and independent of the Medicaid cost 
limit and State review process. The State must render an determination 
on the cost limit methodology applied to the source documents but will 
not be required to validate the accuracy of the information and data 
within the source documents.
    For non-institutional services provided to Medicaid eligible 
individuals, a nationally recognized, standard cost report currently 
does not exist. Because of this, we will be publishing a standardized 
cost reporting form that should be used to document such services. The 
purpose of this standardized form is to document in a uniform manner 
the cost of providing non-institutional services to Medicaid 
individuals. The period of time to which this cost report applies will 
be the Medicaid State plan rate year.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally operated non-institutional health care 
providers

[[Page 29826]]

sufficient time to develop and implement Medicaid cost documentation 
and reporting processes consistent with the cost report template issued 
by CMS (including but not limited to changes in State/provider 
reporting systems, changes to the Medicaid State plan, changes to time 
studies, establish periodic review and audit processes, etc.), States 
will not be required to document and report cost information associated 
with non-institutional Medicaid services until the State's Medicaid 
State plan rate year 2009. Actual submission of the State's summary 
report on the Medicaid cost limit for non-institutional services will 
not be due to CMS until December 31, 2011, which allows States an 
opportunity to implement periodic review and audit processes for 
Medicaid non-institutional costs starting in Medicaid State plan rate 
year 2009.
    CMS has developed a general Medicaid Cost Reporting Protocol 
available on the CMS website that specifically addresses the methods 
under which institutional and non-institutional Medicaid costs will be 
determined. The protocol was designed to provide States with detailed 
instructions to determine compliance with Federal requirements.

IV. Provisions of the Final Regulations

    [If you choose to comment only on issues related to Unit of 
Government Definition (Sec.  433.50) in this section, please include 
the caption ``Provisions of the Final Regulations'' at the beginning of 
your comments.]
    As a result of our review of the comments we received during the 
public comment period, as discussed in section III of this preamble, we 
are making the following revisions to the regulation published on 
January 18, 2007.

Section 433.50--Definition of Unit of Government

    We have modified the regulation at Sec.  433.50 to address concerns 
regarding taxing authority as a requirement for an entity to be 
considered a unit of government. The regulation has been revised to 
indicate that a unit of government is a State, a city, a county, a 
special purpose district, or other governmental unit in the State that 
has taxing authority or direct access to tax revenues. We have added 
the phrase ``has direct access to tax revenues'' to recognize as 
governmental those entities that do not have taxing authority, but do 
have direct access to tax revenues that are imposed by a parent or 
related unit of government. For example, when a tax is imposed and 
collected by a State but is dedicated for use by a municipality or 
other entity, that entity would satisfy the criteria of direct access 
to tax revenues. Similarly, a county-operated hospital that is 
recognized in the county's budget to receive local tax subsidies via 
the county appropriation process, and without the need to contract for 
such tax revenues, would satisfy the criteria of direct access to tax 
revenues. We have deleted the phrase ``generally applicable'' because 
we do not believe it is necessary since the provider tax rules already 
require that permissible taxes be broad based and uniform. But we 
interpret the term ``taxing authority'' in this context to exclude 
authority to levy user fees in exchange for benefits specific to the 
payer, even though those fees would be considered a tax for other 
purposes.
    We have also modified the regulation to recognize the explicit 
reference to State university teaching hospitals in section 
1903(w)(6)(A) of the Act. We have added Sec.  433.50(a)(1)(ii)(C) to 
recognize State university teaching hospitals as a unit of government 
eligible to participate in the financing of the non-Federals hare of 
Medicaid payments.
    We have also modified the regulation at Sec.  433.50 to address 
concerns raised about the unique governance arrangements of Indian 
tribes and tribal organizations. Specifically, paragraph Sec.  
433.50(a)(1)(i) has been modified to consider as a unit of government 
``an Indian tribe as defined in section 4 of the Indian Self-
Determination and Education Assistance Act, as amended.'' Additionally, 
we have amended proposed language at Sec.  433.50(a)(1)(ii) by adding a 
new section (D) to define the criteria under which a health care 
provider operated by a tribe or tribal organization may also be 
considered a unit of government under this section. This criteria is 
consistent with policy articulated in State Medicaid Director (SMD) 
letters previously issued on October 18, 2005 and June 9, 2006.

Section 447.206--Cost Limit for Providers Operated by Units of 
Government

    In the summary section of the proposed regulation, we indicated 
that Medicaid managed care organizations (MCOs) are not subject to the 
Medicaid cost limit provision of this regulation, but this was not 
expressly identified in Sec.  447.206. In recognition of existing 
statutory and regulatory instruction applicable to Medicaid 
reimbursement to Medicaid MCOs, Prepaid Inpatient Health Plans (PIHPs) 
and Prepaid Ambulatory Health Plans (PAHPs) we have modified the 
regulation at Sec.  447.206(b) to specifically exempt MCOs, PIHPs and 
PAHPs from the Medicaid cost limit.
    In addition, in recognition of existing statutory instruction 
applicable to Medicaid reimbursement to Federally Qualified Health 
Centers (FQHCs) and Rural Health Clinics (RHCs), we have modified the 
regulation at Sec.  447.206(b) to also specifically exempt FQHCs and 
RHCs from the Medicaid cost limit.
    In addition to the exceptions listed above, Sec.  447.206(b) has 
also been modified to exclude disproportionate share hospital (DSH) 
payments from the Medicaid cost limit provision at Sec.  447.206. DSH 
payment adjustments are instead subject to limitations and requirements 
under section 1923 of the Act.
    A primary purpose of the regulation was to limit Medicaid payments 
to governmentally operated health care providers to the cost of 
providing services to Medicaid individuals. States will have an 
obligation to ensure that Medicaid reimbursements to governmentally 
operated health care providers do not exceed the individual 
governmentally operated health care provider's costs of serving 
Medicaid individuals (the newly established a ``cost limit''). CMS has 
modified the regulation and developed protocols in an effort to address 
concerns regarding requirements to properly document, audit, and review 
the costs associated with the provision of Medicaid services in both 
institutional and non-institutional environments.
1. Institutional Providers
    The Medicare cost allocation process utilized for institutional 
health care providers is considered a key component in determining 
Medicaid cost under the rule. Institutional governmentally-operated 
health care providers (i.e. hospitals, nursing facilities, and 
intermediate care facilities for the mentally retarded (ICFs/MR)) will 
be required to provide the State with data extracted from primary 
source documents as well as copies of the source documents. These 
documents would include the provider's Medicare cost report (or 
Medicaid cost report for intermediate nursing facility care and ICFs/MR 
consistent with Medicare cost reporting principles), and audited 
financial statements that will be used in conjunction with information 
provided by the States' Medicaid Management Information Systems (MMIS).
    CMS has modified the regulation to provide that the State's review 
of Medicaid payments to institutional governmentally operated providers 
to

[[Page 29827]]

ensure compliance with the cost limit during Medicaid State Plan rate 
year 2008 must be completed no later than the last day of federal 
fiscal year 2010. The State must submit a summary report of the 
findings of this review by the last day of calendar year of 2010. The 
basis for these deadlines is the recognition that hospitals, nursing 
homes and ICFs/MR may have a cost reporting period that remains open 
after the Medicaid State Plan rate year under review has ended. The 
State review and reporting deadlines allow sufficient time for the cost 
report period that remains open at the end of a Medicaid State Plan 
rate year to close and for the cost report to be submitted to the 
fiscal intermediary. For any cost reports that are not finalized by the 
fiscal intermediary, the State should use the ``as filed'' report and 
indicate such in the summary report to CMS. The State should then 
submit a corrected summary report to CMS within 30 days of the 
finalization of the cost report.
2. Non-Institutional Providers
    For all non-institutional services provided to Medicaid eligible 
individuals, we note that a nationally recognized, standard cost report 
does not exist. Because of this, we are publishing a standardized cost 
reporting form that should be used to document such services. The 
purpose of this standardized form is to document in a uniform manner 
the cost of providing non-institutional services to Medicaid 
individuals.
    CMS has modified the regulation to include a transition period to 
allow States and governmentally operated non-institutional providers 
sufficient time to develop and implement Medicaid cost documentation 
and reporting processes consistent with the cost report template issued 
by CMS (including but not limited to changes in State/provider 
reporting systems, changes to the Medicaid State plan, changes to time 
studies, etc.), States will not be required to document and report cost 
information associated with non-institutional Medicaid services until 
the State's Medicaid State plan rate year 2009. Actual submission of 
the State's summary report on the Medicaid cost limit for non-
institutional services will not be due to CMS until December 31, 2011, 
which allows States an opportunity to establish periodic review and 
audit processes for Medicaid non-institutional costs starting in 
Medicaid State plan rate year 2009.
    CMS has developed a general Medicaid Cost Reporting Protocol 
available on the CMS website that specifically addresses the 
information utilized from each source document and the methods under 
which institutional and non-institutional Medicaid costs will be 
determined. The protocol was designed to provide States with detailed 
instructions to determine compliance with the Federal requirements.
    Each subsequent State review of Medicaid payments to governmentally 
operated health care providers, after the Medicaid State plan rate 
years identified above, must be performed annually and completed by the 
last day of the federal fiscal year ending two years from the Medicaid 
State plan rate year under review. Each State must submit a summary 
report to CMS showing the results of the State's review of payments to 
ensure compliance with the Medicaid cost limit for governmentally-
operated health care providers by the last day of the calendar year 
ending two years from the Medicaid State plan rate year under review.

Section 447.207--Retention of Payments

    We have revised some of the introductory wording of this provision 
to make clear that the requirements of this section are applicable to 
State Medicaid payment methodologies and do not impose a specific 
mandate on providers. We have also added a paragraph (b) to Sec.  
447.207 to note that payments authorized by Sections 701(d) and 705 of 
the Benefits Improvement Act of 2000 (BIPA), taxes that are permissible 
under Section 1903(w) of the Act, and normal operating expenses of 
conducting business shall not be questioned for purposes of compliance 
with the provision.

Section 447.321--Outpatient Hospital and Clinic Services: Application 
of Upper Payment Limits

    To address concerns that Sec.  447.321 does not identify 
disproportionate share hospital payments (DSH) as an exception to the 
Medicaid cost limit and to maintain consistency with the purpose of the 
Medicaid cost limit and with the statutory provision governing DSH at 
section 1923 of the Act, Sec.  447.321(c) has been modified to include 
an exemption for DSH payment adjustments from the application of 
outpatient hospital upper payment limit.
1. Payments authorized by the Benefits Improvement Act of 2000 (BIPA)
    To address concerns about the impact the proposed regulation might 
have on payments authorized by Sections 701(d) and 705 of the Benefits 
Improvement Act of 2000 (BIPA), we have modified the regulation at 
Sec.  447.207, Sec.  447.272, and Sec.  447.321 to clarify that these 
unique and statutorily authorized payments are not subject to the upper 
payment limits or retention provisions of this regulation.
2. ``Tool to Evaluate the Governmental Status of Health Care Provider'
    States will be required to apply the statutory and regulatory 
criteria to each individual health care provider to make initial 
determinations of governmental status. In connection with the proposed 
regulation, CMS published an instrument to collect information about 
the governmental nature of health care providers, referenced herein as 
the ``Tool to Evaluate the Governmental Status of Health Care 
Provider.'' Based on comments received, this tool has been modified to 
guide States in applying the statutory and regulatory criteria to make 
the initial determination of a health care provider's governmental 
status and to create a record supporting this determination relative to 
each governmentally operated health care provider in the State.
    States will be required to keep copies of each completed ``Tool to 
Evaluate the Governmental Status of Health Care Provider'' form on file 
in order to maintain a record of the official State determination 
regarding the governmentally operated status of individual health care 
providers. States must report the universe of governmental health care 
providers in each State by submitting a complete list of such providers 
to the Associate Regional Administrator for Medicaid of each State's 
respective CMS Regional Office within 90 days of the effective date of 
the regulation. CMS reserves the right to disagree with a State's 
initial determination of governmental status if we believe the State 
has not consistently applied the statutory and regulatory criteria. In 
addition, States will be required to submit these forms to CMS for any 
Medicaid institutional and non-institutional reimbursement State plan 
amendments and as requested under Medicaid financial management reviews 
performed by CMS.

V. Collection of Information Requirements

    [If you choose to comment only on issues related to Unit of 
Government Definition (Sec.  433.50) in this section, please include 
the caption ``Collection of Information Requirements'' at the beginning 
of your comments.]
    Under the Paperwork Reduction Act of 1995, we are required to 
provide 30-day notice in the Federal Register and solicit public 
comment before a collection of information requirement is

[[Page 29828]]

submitted to the Office of Management and Budget (OMB) for review and 
approval. In order to fairly evaluate whether an information collection 
should be approved by OMB, section 3506(c)(2)(A) of the Paperwork 
Reduction Act of 1995 requires that we solicit comment on the following 
issues:
     The need for the information collection and its usefulness 
in carrying out the proper functions of our agency.
     The accuracy of our estimate of the information collection 
burden.
     The quality, utility, and clarity of the information to be 
collected.
     Recommendations to minimize the information collection 
burden on the affected public, including automated collection 
techniques.
    We are soliciting public comment on each of these issues for the 
following sections of this document that contain information collection 
requirements (ICRs):

Section 433.51 Public Funds as the State Share of Financial 
Participation

    Section 433.51 requires that a certified public expenditure (CPE) 
be supported by auditable documentation in a form(s) approved by the 
Secretary that, at a minimum, identifies the relevant category of 
expenditures under the Medicaid State Plan, demonstrates the cost of 
providing services to Medicaid recipients, and is subject to periodic 
State audit and review.
    The burden associated with this requirement is the time and effort 
put forth by a provider to complete the approved form(s) to be 
submitted with a CPE. Depending upon provider size, we believe that it 
could take approximately 10-80 hours to fill out the form(s) that would 
be required for an annual certified public expenditure. We estimate 
that governmentally-operated health care providers in 50 States will be 
affected by this requirement. The total number of health care providers 
affected and the estimated total aggregate hours of paperwork burden 
for all health care providers (that is, both institutional and non-
institutional government health care providers) will be a direct result 
of the number of health care providers that are determined to be 
governmentally-operated.

Section 447.206 Cost Limit for Providers Operated by Units of 
Government

    Section 447.206(e) states that each governmentally-operated health 
care provider must submit annually a cost report to the Medicaid agency 
which reflects the individual governmentally-operated health care 
provider's cost of serving Medicaid recipients during the year. The 
Medicaid Agency must review the cost report to determine that costs on 
the report were properly allocated to Medicaid and verify that Medicaid 
payments to the governmentally-operated health care provider during the 
year did not exceed the governmentally-operated health care provider's 
cost.
    States will have an obligation to ensure that Medicaid 
reimbursements to governmentally operated health care providers do not 
exceed the individual governmentally operated health care provider's 
costs of serving Medicaid individuals (the newly established ``cost 
limit''). CMS has modified the regulation and developed protocols in an 
effort to address concerns regarding requirements to properly document, 
audit, and review the costs associated with the provision of Medicaid 
services in both institutional and non-institutional environments.
    The Medicare cost allocation process utilized for institutional 
health care providers is considered a key component in determining 
Medicaid cost under the rule. Institutional governmentally-operated 
health care providers (i.e. hospitals, nursing facilities, and 
intermediate care facilities for the mentally retarded (ICFs/MR)) will 
be required to provide the State with data extracted from primary 
source documents as well as copies of the source documents. These 
documents would include the provider's Medicare cost report (or CMS-
approved cost report for intermediate nursing facility care and ICFs/MR 
consistent with Medicare cost reporting principles), and audited 
financial statements that will be used in conjunction with information 
provided by the States' Medicaid Management Information Systems (MMIS). 
The protocols provide guidance regarding the methodology States must 
utilize for determining Medicaid costs associated with these existing 
cost reporting documents.
    For all non-institutional services provided to Medicaid eligible 
individuals, we note that a nationally recognized, standard cost report 
does not exist. Because of this, we are establishing a standardized 
cost reporting form that should be used to document such services. The 
purpose of this standardized form is to document in a uniform manner 
the cost of providing non-institutional services to Medicaid 
individuals. We will submit this information collection for the non-
institutional cost documentation to OMB for its review and approval. 
This information collection is not effective until OMB approves it.
    The burden associated with this requirement is the time and effort 
for the institutional governmentally-operated health care provider to 
report the cost information annually to the Medicaid Agency and the 
time and effort involved in the review and verification of the report 
by the Medicaid Agency. We estimate that it will take a governmentally-
operated health care provider 1 hour to prepare and submit the report 
annually to the Medicaid Agency. We estimate it will take the Medicaid 
Agency 1 to 10 hours to review and verify the information provided. We 
are unable to identify the total number of governmentally-operated 
health care providers affected or the estimated total aggregate hours 
of paperwork burden for all governmentally-operated health care 
providers, as such this information will be a direct result of the 
number of health care providers that are determined to be 
governmentally operated.
    The burden associated with this requirement is the time and effort 
for the governmentally-operated health care provider to report the cost 
information annually to the Medicaid Agency and the time and effort 
involved in the review and verification of the report by the Medicaid 
Agency. We estimate that it will take a governmentally-operated health 
care provider 2 to 90 hours to prepare and submit the report annually 
to the Medicaid Agency. We estimate it will take the Medicaid Agency 1 
to 10 hours to review and verify the information provided. We are 
unable to identify the total number of governmentally-operated health 
care providers affected or the estimated total aggregate hours of 
paperwork burden for all governmentally-operated health care providers, 
as such this information will be a direct result of the number of 
health care providers that are determined to be governmentally 
operated.
    In the preamble of this final regulation, under the section titled 
``Tool to Evaluate Governmental Status of Providers'', we discuss a 
form questionnaire that we have developed to assist us in making a 
determination as to whether or not the health care provider is a unit 
of government. We will submit this information collection to OMB for 
its review and approval. This information collection is not effective 
until OMB approves it.
    As required by section 3504(h) of the Paperwork Reduction Act of 
1995, we have submitted a copy of this final regulation to OMB for its 
review of these information collection requirements described above.

[[Page 29829]]

    If you comment on these information collection and record keeping 
requirements, please mail copies directly to the following:

Centers for Medicare & Medicaid Services, Office of Strategic 
Operations and Regulatory Affairs, Division of Regulations Development, 
Attn.: Melissa Musotto, CMS-2258-FC, Room C5-14-03, 7500 Security 
Boulevard, Baltimore, MD 21244-1850.
Office of Information and Regulatory Affairs, Office of Management and 
Budget, Room 10235, New Executive Office Building, Washington, DC 
20503, Attn: Katherine T. Astrich, CMS Desk Officer, CMS-2258-FC, 
Katherine--T.--Astrich@omb.eop.gov. Fax (202) 395-6974.

VI. Regulatory Impact Analysis

    [If you choose to comment only on issues related to Unit of 
Government Definition (Sec.  433.50) in this section, please include 
the caption ``Regulatory Impact Analysis'' at the beginning of your 
comments.]

A. Introduction

    We have examined the impacts of this regulation as required by 
Executive Order 12866 (September 1993, Regulatory Planning and Review), 
the Regulatory Flexibility Act (RFA) (September 19, 1980, Pub. L. 96-
354), section 1102(b) of the Social Security Act, the Unfunded Mandates 
Reform Act of 1995 (Pub. L. 104-4), and Executive Order 13132.
    Executive Order 12866 (as amended by Executive Order 13258, which 
merely reassigns responsibility of duties) directs agencies to assess 
all costs and benefits of available regulatory alternatives and, if 
regulation is necessary, to select regulatory approaches that maximize 
net benefits (including potential economic, environmental, public 
health and safety effects, distributive impacts, and equity). A 
regulatory impact analysis (RIA) must be prepared for major rules with 
economically significant effects ($100 million or more in any 1 year).
    The RFA requires agencies to analyze options for regulatory relief 
of small businesses. For purposes of the RFA, small entities include 
small businesses, nonprofit organizations, and small governmental 
jurisdictions. Most hospitals and most other providers and suppliers 
are small entities, either by nonprofit status or by having revenues of 
$6.5 million to $31.5 million in any 1 year. Individuals and States are 
not included in the definition of a small entity.
    In addition, section 1102(b) of the Act requires us to prepare a 
regulatory impact analysis if a rule may have a significant impact on 
the operations of a substantial number of small rural hospitals. This 
analysis must conform to the provisions of section 603 of the RFA. For 
purposes of section 1102(b) of the Act, we define a small rural 
hospital as a hospital that is located outside of a Metropolitan 
Statistical Area and has fewer than 100 beds. For the reasons cited 
below, we have determined that this regulation may have a significant 
impact on small rural hospitals.
    Section 202 of the Unfunded Mandates Reform Act of 1995 also 
requires that agencies assess anticipated costs and benefits before 
issuing any rule whose mandates require spending in any 1 year of $100 
million in 1995 dollars, updated annually for inflation. That threshold 
level is currently approximately $120 million. We are not imposing any 
unfunded mandates on States that would rise to the $120 million 
threshold level established by Section 202 of the Unfunded Mandates 
Reform Act of 1995.
    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. The provisions of this regulation were designed to ensure 
consistent application of the Federal statutory instructions regarding 
the definition of a unit of government for purposes of Medicaid 
reimbursement and State financing. States continue to maintain 
flexibility, within Federal statute and regulation, to decide on 
medically necessary services that will be covered, populations that 
will be covered and rates that will be paid to health care providers. 
This regulation merely ensures the fiscal integrity of the Medicaid 
program. Consistent with this analysis, for purposes of Executive Order 
13132, we do not find that this regulation will have a substantial 
effect on State or local governments.

B. Costs and Benefits

    This rule is a major rule because it is estimated to result in $120 
million in savings during the first year and $3.87 billion in savings 
over five years.
    As CMS has examined Medicaid State financing arrangements across 
the country, we have identified numerous instances in which State 
financing practices do not comport with the Medicaid statute. Since the 
summer of 2003, we have reviewed and processed over 1,400 State plan 
amendments related to State payments to health care providers. Through 
this examination we have developed a greater understanding of how to 
ensure that payment and financing arrangements comply with statutory 
intent. We found that many States make supplemental payments to 
governmentally-operated health care providers that are in excess of 
cost. These health care providers, in turn, use that excess of Medicaid 
revenue over cost to subsidize health care (or other) operations that 
are unrelated to Medicaid, or they may return a portion of the 
supplemental payments in excess of cost to the States and/or local 
government. This regulation strengthens accountability to ensure that 
statutory requirements within the Medicaid program are met in 
accordance with sections 1902, 1903, and 1905 of the Act.
    As explained in the background section of the preamble, section 
1903(w) of the Act permits units of government to participate in the 
financing of the non-Federal share; however, in some instances States 
rely on funding from non-governmental entities for the non-Federal 
share. Because such practices are expressly prohibited by the donations 
and taxes amendments at section 1903(w) of the Act, we are issuing this 
regulation to clarify the requirements of entities and health care 
providers that are able to finance the non-Federal share.
    Arrangements in which health care providers did not retain the full 
amount of their Medicaid payments is inappropriate and inconsistent 
with statutory construction that the Federal government pays only its 
proportional cost for the delivery of Medicaid services. When a State 
claims Federal reimbursement in excess of net payments to health care 
providers, the FMAP rate has effectively been increased, and federal 
Medicaid funds are redirected toward non-Medicaid services. When a 
State chooses to recycle FFP in this manner, the Federal taxpayers in 
other States disproportionately finance the Medicaid program in the 
State that is recycling FFP. This regulation is designed to eliminate 
such practices.
    The regulation should also have a beneficial distributive impact on 
governmentally-operated health care providers because in many States 
there are a few selected governmentally-operated health care providers 
receiving payments in excess of cost, while other governmentally-
operated health care providers receive a lower rate of reimbursement. 
This regulation will reduce inflated payments to those few

[[Page 29830]]

governmentally-operated health care providers and promote a more even 
distribution of funds among all governmentally-operated health care 
providers. This is because all governmentally-operated health providers 
will be limited to a level of reimbursement that does not exceed the 
individual governmentally-operated health care provider's cost of 
providing services to Medicaid individuals.
    We have observed that there are a variety of practices used by 
State and local governments in identifying costs and submitting a CPE 
as the basis of matching FFP for the provision of Medicaid services. 
These different cost methods and CPE practices make it difficult to (1) 
align claimed expenditures with specific services covered under the 
State plan or identifiable administrative activities; (2) properly 
identify the actual cost to the governmental entity of providing 
services to Medicaid recipients or performing administrative 
activities; and (3) audit and review Medicaid claims to ensure that 
Medicaid payments are appropriately made. Such circumstances present 
risks of inflationary costs being certified and excessive claims of 
FFP. This regulation will facilitate a more consistent methodology in 
Medicaid cost identification and allocation across the country, thereby 
improving the fiscal integrity of the program.
    Because the RFA includes small governmental jurisdictions in its 
definition of small entities, we expect this regulation to have a 
significant economic impact on a substantial number of small entities, 
specifically health care providers that are operated by units of 
government, including governmentally-operated small rural hospitals, as 
they will be subject to the new Medicaid cost limit imposed by this 
regulation. We have previously reviewed CMS'' Online Survey and 
Certification and Reporting System (OSCAR) data for information about 
select provider types that may be impacted by this rule. According to 
the OSCAR data, there are:
     1,153 hospitals that have identified themselves as 
operated by local governments or hospital districts/authorities;
     822 nursing facilities that have identified themselves as 
operated by counties, cities, or governmental hospital districts;
     113 intermediate care facilities for the mentally retarded 
(ICF/MR) that have identified themselves as operated by cities, towns, 
or counties.
    We have not counted State operated facilities in the above numbers 
because for purposes of the RFA, States are not included in the 
definition of a small entity. Note further that OSCAR data is self-
reported, so the figures provided above do not necessarily reflect the 
number of governmentally-operated health care providers according to 
the provisions of this regulation.
    Small governmental jurisdictions (population under 50,000) may be 
impacted by this regulation depending upon their responsibilities for 
participating in financing of the non-Federal share of Medicaid 
payments and other governmental obligations to uninsured individuals. 
If a governmentally-operated health care provider within the small 
governmental jurisdiction was receiving Medicaid payments in excess of 
its Medicaid costs of providing health care services to Medicaid 
individuals, the governmentally-operated health care provider will 
experience a reduction in Medicaid revenues. While this itself would 
not result in a direct impact on the small governmental jurisdiction 
there could be an indirect impact. If the small governmental 
jurisdiction was not responsible for financing the non-Federal share of 
such payments and those Medicaid payments above cost were being used to 
subsidize uninsured health care costs, the small governmental 
jurisdiction may now have to subsidize the uninsured health care costs 
out of its own revenues.
    On the other hand, if the small governmental jurisdiction was 
responsible for financing the non-Federal share of Medicaid payments 
above the individual governmentally-operated health care provider's 
Medicaid costs, it will no longer have to finance Medicaid payments 
above costs. The small governmental jurisdiction could then use these 
previously obligated revenues to satisfy other costs or obligations 
within its jurisdiction.
    This analysis is not unique to small governmental jurisdictions and 
would hold true for both States and larger local governmental 
jurisdictions.
    Under the provisions of the regulation, all governmentally-operated 
health care providers will be permitted to receive no more than 100 
percent of the cost of serving Medicaid individuals. Some of the 
governmentally-operated health care providers identified as small 
entities for RFA purposes may have been receiving Medicaid payments in 
excess of cost. If a health care provider operated by a small unit of 
government has been historically receiving Medicaid payments above cost 
and using excess Medicaid revenues to subsidize other costs outside of 
the Medicaid program, this regulation would cause a net reduction in 
revenue to the health care provider.
    Governmentally-operated health care providers, including those 
operated by small units of local government, that are not receiving 
Medicaid payments in excess of costs would not be adversely impacted by 
the Medicaid cost limit and would be eligible to receive greater 
Medicaid revenues, up to the cost limit.
    There are health care providers that are considered under the RFA 
as small entities (including small rural hospitals) but are not 
governmentally operated; to the extent these providers have been 
involved in financing the non-Federal share of Medicaid payments, this 
regulation will clarify whether or not such practices may continue. 
Non-governmentally-operated health care providers are not affected by 
the cost limit provision of the regulation and may therefore continue 
to receive Medicaid payments in excess of the cost of providing 
services to Medicaid individuals within existing Federal requirements.
    Moreover, the provisions of the regulation reaffirm State Medicaid 
financing policy requiring that health care providers be allowed to 
fully retain their Medicaid payments. Any health care providers that 
become ineligible to participate in the State financing of Medicaid 
payments following the effective date of the provisions of this 
regulation can realize greater net revenues if State or local 
government funding sources are utilized to fund non-Federal share 
obligations to Medicaid payments historically financed by non-
governmentally-operated ``public'' health care providers. On the other 
hand, if States reduce payment rates to such governmentally operated 
health care providers after this regulation is effective, such 
governmentally-operated health care providers may experience a decrease 
in net revenue.
    As stated earlier, for purposes of the RFA, the small entities 
principally affected by this regulation are governmentally-operated 
health care providers. In light of the specific universe of small 
entities impacted by the regulation, the fact that this regulation 
requires States to allow governmentally-operated health care providers 
to receive and retain their Medicaid payments, and the allowance for 
governmentally operated health care providers to receive a Medicaid 
rate up to cost, we have not identified a need for regulatory relief 
under the RFA.
    Ultimately, this regulation is designed to ensure that Medicaid 
payments to governmentally-operated health care

[[Page 29831]]

providers are based on actual costs of providing services to Medicaid 
individuals and that the financing arrangements supporting those 
payments are consistent with the statute. While some health care 
providers may lose revenues in light of this rule, those revenues were 
likely in excess of Medicaid cost or may have been financed using 
methods that did not permit the health care provider to retain Medicaid 
payments received. Other health care providers that were adversely 
affected by questionable reimbursement and financing arrangements may 
now, under this regulation, benefit from a more equitable distribution 
of funds. Private health care providers are generally unaffected by 
this rule, except for limited situations where the clarification 
provided by the regulation may require a change to current financing 
arrangements.
    With respect to clinical care, we anticipate that this regulation's 
effect on actual patient services to be minimal. The regulation 
presents no changes to coverage or eligibility requirements under 
Medicaid. The rule clarifies statutory financing requirements and 
allows governmentally-operated health care providers to be reimbursed 
at levels up to the full cost of providing services to Medicaid 
individuals. Federal matching funds will continue to be made available 
based on expenditures for appropriately covered and financed services. 
While States may need to change reimbursement or financing methods, we 
do not anticipate that services delivered by governmentally-operated 
health care providers or private health care providers will change.

C. Anticipated Effects

    The following chart summarizes our estimate of the anticipated 
effects of this regulation.

    Estimated Reduction in Federal Medicaid Outlays Resulting From the Provider Payment Reform Proposal Being
                                            Implemented by CMS-2258-P
                                              [Amounts in millions]
----------------------------------------------------------------------------------------------------------------
                                                                         Fiscal year
                                           ---------------------------------------------------------------------
                                                2007          2008          2009          2010          2011
----------------------------------------------------------------------------------------------------------------
Payment Reform............................         -120          -530          -840        -1,170        -1,210
----------------------------------------------------------------------------------------------------------------

    These estimates are based on recent reviews of state Medicaid 
spending. Payment reform addresses both spending through 
intergovernmental transfers (IGT) and limiting payments to 
governmentally-operated health care providers to the cost or providing 
services to Medicaid individuals. For IGT spending, recent reports on 
spending on Disproportionate Share Hospitals (DSH) and Upper Payment 
Limit (UPL) spending were reviewed. From these reports, an estimate of 
the total spending that would be subject to the net expenditure policy 
was developed and then projected forward using assumptions consistent 
with the most recent President's Budget projections. The estimate of 
the savings in federal Medicaid spending as a result of this policy 
factors in the current authority and efforts of CMS and the impact of 
recent waivers; the estimate also accounts for the potential 
effectiveness of future efforts. There is uncertainty in this estimate 
to the extent that the projections of IGT spending may not match actual 
future spending and to the extent that the effectiveness of this policy 
is greater than or less than assumed.
    Reports on UPL spending following the most recent legislation 
concerning UPL were reviewed to develop a projection for total enhanced 
payments in Medicaid spending. The estimate of savings from this policy 
reflects both estimates of the amount of UPL spending that exceeds cost 
and the effectiveness of this policy in limiting payments to cost. The 
estimate also accounts for transitional UPL payments, which are 
unchanged under this policy, and for the impact of recent waivers. 
There is uncertainty in this estimate to the extent that the 
projections of UPL spending may not match actual future spending, to 
the extent that the amount of UPL spending above cost differs from the 
estimated amount, and to the extent that the effectiveness of this 
policy is greater than or less than assumed.

D. Alternatives Considered

    In developing this regulation various options were considered. We 
considered seeking to implement policies requiring provider retention 
of payments, greater accountability for certified public expenditures, 
and clarification of the definition of a unit of government without any 
new regulation (using existing statutory and regulatory authority). We 
determined that the rulemaking process would be a more effective method 
of implementing these policies because the rulemaking process would 
better inform affected parties, allow for public input, and make clear 
that the standards set forth are uniform, fair and consistent with the 
underlying statutory intent.
    We considered deferring to States and local governments to define 
which entities are units of government for purposes of Medicaid 
financing. We considered this possibility of deferring to State 
determinations, but we concluded that it was important for effective 
oversight review to receive standardized information under a clear, 
uniform and enforceable standard.
    Similarly, we considered allowing governmentally-operated health 
care providers to be reimbursed at current rates and not be limited to 
the cost of serving Medicaid individuals. Given the information CMS has 
gathered regarding the use of Medicaid payments to governmentally-
operated health care providers, we find that the provision to limit 
governmentally-operated health care providers to Medicaid cost offers a 
way to reasonably reimburse governmentally-operated health care 
providers while ensuring that Federal matching funds are used for their 
intended purpose, which is to pay for a covered Medicaid service to a 
Medicaid beneficiary and not non-Medicaid activities.
    Likewise, we considered the option of limitomg only those 
governmentally-operated health care providers that participate in IGTs 
and CPEs to the cost of providing Medicaid services to Medicaid 
individuals. However, we believe it is not appropriate that units of 
State or local government would ``profit'' from Federal taxpayer 
dollars that are intended to match a percentage of the cost of 
providing services to Medicaid individuals. We do not find that 
Medicaid payments in excess of cost to governmentally-operated health 
care providers are consistent with the statutory principles of economy 
and efficiency.
    With respect to the timeframe for implementation of the Medicaid 
cost

[[Page 29832]]

limit to governmentally-operated health care providers of non-
institutional services, we considered requiring compliance with the 
effective date of the regulation. However, a nationally recognized, 
standard cost report does not exist for non-institutional services, we 
allow States and governmentally-operated health care providers 
sufficient time to develop and implement Medicaid cost documentation 
and reporting processes. Likewise, we considered providing a similar 
delay in implementation for governmentally-operated institutional 
health care providers, but since there are existing standardized, 
nationally recognized cost reporting mechanisms we did not believe a 
delay was appropriate.

E. Accounting Statement

    As required by OMB Circular A-4 (available at MACROBUTTON 
HtmlResAnchor http://www.whitehouse.gov/omb/circulars/a004/a-4.pdf), in 
the table below, we have prepared an accounting statement showing the 
classification of the expenditures associated with the provisions of 
this regulation. This table provides our best estimate of the decrease 
in Federal Medicaid outlays resulting from the provider payment reform 
requirements being implemented by CMS-2258-P (Cost Limit for Providers 
Operated by Units of Government and Provisions to Ensure the Integrity 
of Federal-State Financial Partnerships). The sum total of these 
expenditures is classified as savings in Federal Medicaid spending.

  Accounting Statement: Classification of Estimated Expenditures, From
                  Fiscal Year 2007 to Fiscal Year 2011
                              [In millions]
------------------------------------------------------------------------
                Category                            Transfers
------------------------------------------------------------------------
Annualized Monetized Transfers.........  Negative Transfer-Estimated
                                          decrease in expenditures:
                                          $774.
From Whom To Whom?.....................  Federal Government to States.
------------------------------------------------------------------------

F. Conclusion

    We expect that this regulation will promote the fiscal integrity of 
the Medicaid program. The regulation will enhance accountability for 
States to properly finance the non-Federal share of Medicaid 
expenditures and allow them to pay reasonable rates to governmentally-
operated health care providers. To the extent prior Medicaid payments 
to governmentally-operated health care providers were inflated, the 
regulation will reduce such payments to levels that more accurately 
reflect the actual cost of Medicaid services and ensure that the non-
Federal share of Medicaid payments has been satisfied in a manner 
consistent with the statute. Private health care providers are 
predominately unaffected by the regulation, and the effect on actual 
patient services should be minimal.
    In accordance with the provisions of Executive Order 12866, this 
regulation was reviewed by the Office of Management and Budget.

List of Subjects

42 CFR Part 433

    Administrative practice and procedure, Child support, Claims, Grant 
programs-health, Medicaid, Reporting and recordkeeping requirements.

42 CFR Part 447

    Accounting, Administrative practice and procedure Drugs, Grant 
programs-health, Health facilities, Health professions, Medicaid 
Reporting and recordkeeping requirements, Rural areas.

42 CFR Part 457

    Administrative practice and procedure, Grant programs-health, 
Health insurance, Reporting and recordkeeping requirements.

0
For the reasons set forth in the preamble, the Centers for Medicare & 
Medicaid Services amends 42 CFR chapter IV as set forth below:

PART 433--STATE FISCAL ADMINISTRATION

0
1. The authority citation for part 433 continues to read as follows:

    Authority: Sec. 1102 of the Social Security Act (42 U.S.C. 
1302).

0
2. Amend Sec.  433.50 by revising paragraph (a)(1) to read as follows:

Sec.  433.50  Basis, scope, and applicability.

    (a) * * *
    (1) Section 1902(a)(2) and section 1903(w)(7)(G) of the Act, which 
require States to share in the cost of medical assistance expenditures 
and permit State and local units of government to participate in the 
financing of the non-Federal portion of medical assistance 
expenditures.
    (i) A unit of government is a State, a city, a county, a special 
purpose district, or other governmental unit in the State that: has 
taxing authority, has direct access to tax revenues, is a State 
university teaching hospital with direct appropriations from the State 
treasury, or is an Indian tribe as defined in Section 4 of the Indian 
Self-Determination and Education Assistance Act, as amended [25 U.S.C. 
450b].
    (ii) A health care provider may be considered a unit of government 
only when it is operated by a unit of government as demonstrated by a 
showing of the following:
    (A) The health care provider has generally applicable taxing 
authority; or
    (B) The health care provider has direct access to generally 
applicable tax revenues. This means the health care provider is able to 
directly access funding as an integral part of a unit of government 
with taxing authority which is legally obligated to fund the health 
care provider's expenses, liabilities, and deficits, so that a 
contractual arrangement with the State or local government is not the 
primary or sole basis for the health care provider to receive tax 
revenues;
    (C) The health care provider receives appropriated funding as a 
State university teaching hospital providing supervised teaching 
experiences to graduate medical school interns and residents enrolled 
in a State university in the State; or
    (D) The health care provider is an Indian Tribe or Tribal 
organization (as those terms are defined in Section 4 of the Indian 
Self-Determination and Education Assistance Act (ISDEAA); 25 U.S.C. 
450b) and meets the following criteria:
    (1) If the entity is a Tribal organization, it is--
    (a) Carrying out health programs of the IHS, including health 
services which are eligible for reimbursement by Medicaid, under a 
contract or compact entered into between the Tribal organization and 
the Indian Health Service pursuant to the Indian Self-Determination and 
Education

[[Page 29833]]

Assistance Act, Public Law 93-638, as amended, and
    (b) Either the recognized governing body of an Indian tribe, or an 
entity which is formed solely by, wholly owned or comprised of, and 
exclusively controlled by Indian tribes.
* * * * *

0
3. Section 433.51 is revised to read as follows:

Sec.  433.51  Funds from units of government as the State share of 
financial participation.

    (a) Funds from units of government may be considered as the State's 
share in claiming FFP if they meet the conditions specified in 
paragraphs (b) and (c) of this section.
    (b) The funds from units of government are appropriated directly to 
the State or local Medicaid agency, or are transferred from other units 
of government (including Indian tribes) to the State or local agency 
and are under its administrative control, or are certified by the 
contributing unit of government as representing expenditures eligible 
for FFP under this section. Certified public expenditures must be 
expenditures within the meaning of 45 CFR 95.13 that are supported by 
auditable documentation in a form approved by the Secretary that, at a 
minimum--
    (1) Identifies the relevant category of expenditures under the 
State plan;
    (2) Explains whether the contributing unit of government is within 
the scope of the exception to limitations on provider-related taxes and 
donations;
    (3) Demonstrates the actual expenditures incurred by the 
contributing unit of government in providing services to eligible 
individuals receiving medical assistance or in administration of the 
State plan; and
    (4) Is subject to periodic State audit and review.
    (c) The funds from units of government are not Federal funds, or 
are Federal funds authorized by Federal law to be used to match other 
Federal funds.

PART 447--PAYMENTS FOR SERVICES

0
1. The authority citation for part 447 continues to read as follows:

    Authority: Sec. 1102 of the Social Security Act (42 U.S.C. 
1302).

0
2. Section 447.206 is added to read as follows:

Sec.  447.206  Cost limit for providers operated by units of 
government.

    (a) Scope. This section applies to payments made to health care 
providers that are operated by units of government as defined in Sec.  
433.50(a)(1) of this chapter.
    (b) Exceptions. The limitation in paragraph (c) of this section 
does not apply to:
    (1) Indian Health Services facilities and tribal facilities that 
are funded through the Indian Self-Determination and Education 
Assistance Act (Pub. L. 93-638);
    (2) Managed Care Organizations (MCOs), Prepaid Inpatient
    Health Plans (PIHPs), and Prepaid Ambulatory Health Plans (PAHPs) 
which are organized and operating in accordance with the provisions of 
42 CFR 438;
    (3) Federally Qualified Health Centers (FQHCs) and Rural
    Health Clinics (RHCs) reimbursed in accordance with Section 
1902(bb) of the Act; and
    (4) Disproportionate share hospital payments. The limitation in 
paragraph (c) of this section does not apply to payment adjustments 
made under section 1923 of the Act that are made under a State plan to 
hospitals found to serve a disproportionate number of low-income 
patients with special needs as provided in section 1902(a)(13)(A)(iv) 
of the Act. Disproportionate share hospital (DSH) payments are subject 
to the following limits:
    (i) The aggregate DSH limit using the Federal share of the DSH 
limit under section 1923(f) of the Act.
    (ii) The hospital-specific DSH limit in section 1923(g) of the Act.
    (iii) The aggregate DSH limit for institutions for mental disease 
(IMDs) under section 1923(h) of the Act.
    (a) General rules. (1) All health care providers that are operated 
by units of government are limited to reimbursement not in excess of 
the individual health care provider's cost of providing covered 
Medicaid services to eligible Medicaid recipients.
    (2) Reasonable methods of identifying and allocating costs to 
Medicaid will be determined by the Secretary in accordance with 
sections 1902, 1903, and 1905 of the Act, as well as 45 CFR 92.22 and 
Medicare cost principles when applicable.
    (3) Institutional governmentally-operated health care providers 
(i.e., hospitals, nursing facilities, and ICFs/MR) are required to 
provide the State with data extracted from primary source documents as 
well as copies of the source documents. These source documents would 
include the health care provider's Medicare cost report (or Medicaid 
cost report for intermediate nursing facility care and ICFs/MR 
consistent with Medicare cost reporting principles, and audited 
financial statements that will be used in conjunction with information 
provided by the States' Medicaid Management Information System (MMIS).
    (4) Medicaid costs for non-institutional governmentally-operated 
health care providers must be supported by auditable documentation in a 
form approved by the Secretary that is consistent with Sec.  
433.51(b)(1) through (b)(4) of this chapter.
    (d) Use of certified public expenditures. This paragraph applies 
when States use a cost reimbursement methodology funded by certified 
public expenditures.
    (1) In accordance with paragraph (c) of this section, each provider 
must submit annually a cost report to the Medicaid agency that reflects 
the individual provider's cost of serving Medicaid recipients during 
the year.
    (2) States may utilize most recently filed cost reports to develop 
interim rates and may trend those interim rates by an applicable health 
care-related index. Interim reconciliations must be performed by 
reconciling the interim Medicaid payment rates to the filed cost report 
for the spending year in which interim payment rates were made.
    (3) Final reconciliation must be performed annually by reconciling 
any interim payments to the finalized cost report for the spending year 
in which any interim payment rates were made.
    (4) Non-institutional governmentally-operated health care providers 
must utilize a cost report, approved by the Secretary, beginning in 
their Medicaid State plan rate year 2009. Interim rates set by States 
for purposes of Medicaid payments funded by certified public 
expenditures in Medicaid State plan rate year 2009 must be calculated 
based on cost data from at least one quarter of their Medicaid State 
plan rate year 2008 documented in accordance with the cost report 
approved by the Secretary. Existing certified public expenditure 
methodologies can be used to make Medicaid payments during Medicaid 
State plan rate year 2008.
    (e) Payments not funded by certified public expenditures. This 
paragraph applies to payments made to providers operated by units of 
government that are not funded by certified public expenditures. In 
accordance with paragraph (c) of this section, each provider must 
submit annually a cost report to the Medicaid agency that reflects the 
individual provider's cost of serving Medicaid recipients during the 
year. The Medicaid agency must review the cost report to determine that 
costs on the report were properly allocated to Medicaid and verify that 
Medicaid

[[Page 29834]]

payments to the provider during the year did not exceed the provider's 
cost.
    (f) Overpayments. If, under paragraph (d) or (e) of this section, 
it is determined that a governmentally-operated health care provider 
received an overpayment, amounts related to the overpayment will be 
properly credited to the Federal government, in accordance with part 
433, subpart F of this chapter.
    (g) Compliance dates. Initial compliance dates have been separately 
established for institutional and non-institutional Medicaid providers 
operated by units of government. Following initial compliance dates, 
ongoing compliance will be consistent for all providers operated by 
units of government. A State must comply with the Medicaid cost limit 
described in paragraph (c) of this section in accordance with the 
timeframes and requirements in paragraphs (g)(1) through (g)(3) of this 
section.
    (1) Initial Compliance for Institutional Govermentally-Operated 
Health Care Providers. For each State, compliance with the Medicaid 
cost limit described in paragraph (c) of this section applicable to 
institutional governmentally-operated health care providers begins with 
the Medicaid State plan rate year 2008. A State's review of Medicaid 
payments made to institutional governmentally-operated health care 
providers to ensure compliance with the Medicaid cost limit during 
Medicaid State plan rate year 2008 must be completed no later than the 
last day of federal fiscal year 2010 (September 30, 2010). The State 
must submit to CMS a summary report of the findings of this review by 
the last day of calendar year of 2010 (December 31, 2010). For any cost 
reports that are not finalized, the State should use the ``as filed'' 
cost report and indicate such in the summary report to CMS. The State 
should then submit a corrected summary report to CMS within 30 days of 
the finalization of the cost report.
    (2) Initial Compliance for Non-Institutional Governmentally-
Operated Health Care Providers. For each State, compliance with the 
cost limit described in paragraph (c) of this section applicable to 
non-institutional governmentally-operated health care providers begins 
with the Medicaid State plan rate year 2009. A State's review of 
Medicaid payments made to non-institutional governmentally-operated 
health care providers to ensure compliance with the Medicaid cost limit 
during Medicaid State plan rate year 2009 must be completed no later 
than the last day of federal fiscal year 2011 (September 30, 2011). The 
State must submit to CMS a summary report of the findings of this 
review by the last day of calendar year of 2011 (December 31, 2011).
    (3) Ongoing Compliance for Institutional and Non-Institutional 
Governmentally-Operated Health Care Providers. Each subsequent State 
review of Medicaid payments made to governmentally-operated health care 
providers, after the Medicaid State plan rate years identified in 
paragraphs (g)(1) and (g)(2) of this section, must be performed 
annually and completed by the last day of the federal fiscal year 
ending two years from the Medicaid State plan rate year under review. 
Each State must submit a summary report to CMS demonstrating the 
results of the State's review of Medicaid payments to ensure compliance 
with the Medicaid cost limit applicable to governmentally-operated 
health care providers by the last day of the calendar year ending two 
years from the Medicaid State Plan rate year under review.
    (i) For any cost reports that are not finalized at the time the 
State performs the review of Medicaid payments to institutional 
governmentally-operated health care providers, the State should use the 
``as filed'' cost report and indicate such in the summary report to 
CMS. The State should then submit a corrected summary report to CMS 
within 30 days of the finalization of the cost report.

0
3. Section 447.207 is added to read as follows:

Sec.  447.207  Retention of payments.

    (a) Payment methodologies must permit the provider to receive and 
retain the full amount of the total computable payment for services 
furnished under the approved State plan (or the approved provisions of 
a waiver or demonstration if applicable). The Secretary will determine 
compliance with this provision by examining any associated transactions 
that are related to the provider's total computable payment to ensure 
that the State's claimed expenditure, which serves as the basis for 
Federal Financial Participation, is equal to the State's net 
expenditure, and that the full amount of the non-Federal share of the 
payment has been satisfied.
    (b) Exceptions. Provisions of paragraph (a) of this section 
specifically do not pertain to:
    (1) Use of Medicaid revenues to fund payments that are normal 
operating expenses of conducting business, such as payments related to 
taxes (including permissible health-care related taxes), fees, or 
business relationships with governments unrelated to Medicaid in which 
there is no connection to Medicaid payment.
    (2) Payments authorized by Sections 701(d) and 705 of the Benefits 
Improvement Act of 2000 (BIPA).

0
4. Section Sec.  447.271 is revised to read as follows:

Sec.  447.271  Upper limits based on customary charges.

    (a) The agency may not pay a provider more for inpatient hospital 
services under Medicaid than the provider's customary charges to the 
general public for the services.
    (b) [Reserved]

0
5. Section 447.272 is amended by revising paragraphs (a) through (d) to 
read as follows:

Sec.  447.272  Inpatient services: Application of upper payment limits.

    (a) Scope. This section applies to rates set by the agency to pay 
for inpatient services furnished by hospitals, nursing facilities, and 
ICFs/MR within one of the following categories:
    (1) State government operated facilities (that is, all facilities 
that are operated by the State) as defined at Sec.  433.50(a) of this 
chapter.
    (2) Non-State government operated facilities (that is, all 
governmentally operated facilities that are not operated by the State) 
as defined at Sec.  433.50(a) of this chapter.
    (3) Privately operated facilities, that is, all facilities that are 
not operated by a unit of government as defined at Sec.  433.50(a) of 
this chapter.
    (b) General rules. (1) For privately operated facilities, upper 
payment limit refers to a reasonable estimate of the amount that would 
be paid for the services furnished by the group of facilities under 
Medicare payment principles in subchapter B of this chapter.
    (2) For State government operated facilities and for non-State 
government operated facilities, upper payment limit refers to the 
individual health care provider's Medicaid cost as defined at Sec.  
447.206.
    (3) Except as provided in paragraph (c) of this section, aggregate 
Medicaid payments to the group of privately operated facilities 
described in paragraph (a) of this section may not exceed the upper 
payment limit described in paragraph (b)(1) of this section.
    (4) Except as provided in paragraph (c) of this section, Medicaid 
payments to State government operated facilities and non-State 
government operated facilities must not exceed the individual health 
care provider's Medicaid cost as documented in accordance with Sec.  
447.206.

[[Page 29835]]

    (c) Exceptions--(1) Indian Health Services and tribal facilities. 
The limitation in paragraph (b) of this section does not apply to 
Indian Health Services facilities and tribal facilities that are funded 
through the Indian Self-Determination and Education Assistance Act 
(Pub. L. 93-638).
    (2) Disproportionate share hospitals. The limitation in paragraph 
(b) of this section does not apply to payment adjustments made under 
section 1923 of the Act that are made under a State plan to hospitals 
found to serve a disproportionate number of low-income patients with 
special needs as provided in section 1902(a)(13)(A)(iv) of the Act. 
Disproportionate share hospital (DSH) payments are subject to the 
following limits:
    (i) The aggregate DSH limit using the Federal share of the DSH 
limit under section 1923(f) of the Act.
    (ii) The hospital-specific DSH limit in section 1923(g) of the Act.
    (iii) The aggregate DSH limit for institutions for mental disease 
(IMDs) under section 1923(h) of the Act.
    (3) The limitation in paragraph (b) of this section does not apply 
to payments authorized by Sections 701(d) and 705 of the Benefits 
Improvement Protection Act of 2000 (BIPA).
    (d) Compliance dates. Except as permitted under paragraph (e) of 
this section, a State must comply with the upper payment limit 
described in paragraph (b) of this section by one of the following 
dates:
    (1) For State government operated and non-State government operated 
hospitals, nursing facilities and ICFs/MR `` Medicaid State plan rate 
year 2008.
    (2) For all other facilities--March 13, 2001.
* * * * *

0
6. Section 447.321 is amended by revising paragraphs (a) through (d) to 
read as follows:

Sec.  447.321  Outpatient hospital and clinic services: Application of 
upper payment limits.

    (a) Scope. This section applies to rates set by the agency to pay 
for outpatient services furnished by hospitals and clinics within one 
of the following categories:
    (1) State government operated facilities (that is, all facilities 
that are operated by the State) as defined at Sec.  433.50(a) of this 
chapter.
    (2) Non-State government operated facilities (that is, all 
governmentally operated facilities that are not operated by the State) 
as defined at Sec.  433.50(a) of this chapter.
    (3) Privately operated facilities that is, all facilities that are 
not operated by a unit of government as defined at Sec.  433.50(a) of 
this chapter.
    (b) General rules. (1) For privately operated facilities, upper 
payment limit refers to a reasonable estimate of the amount that would 
be paid for the services furnished by the group of facilities under 
Medicare payment principles in subchapter B of this chapter.
    (2) For State government operated facilities and for non-State 
government operated facilities, upper payment limit refers to the 
individual health care provider's Medicaid cost as defined at Sec.  
447.206.
    (3) Except as provided in paragraph (c) of this section, aggregate 
Medicaid payments to the group of privately operated facilities within 
one of the categories described in paragraph (a) of this section may 
not exceed the upper payment limit described in paragraph (b)(1) of 
this section.
    (4) Except as provided in paragraph (c) of this section, Medicaid 
payments to State government operated facilities and non-State 
government operated facilities must not exceed the individual health 
care provider's Medicaid cost as documented in accordance with Sec.  
447.206.
    (c) Exceptions--(1) Indian Health Services and tribal facilities. 
The limitation in paragraph (b) of this section does not apply to 
Indian Health Services facilities and tribal facilities that are funded 
through the Indian Self-Determination and Education Assistance Act 
(Pub. L. 93-638).
    (2) Disproportionate share hospitals. The limitation in paragraph 
(b) of this section does not apply to payment adjustments made under 
section 1923 of the Act that are made under a State plan to hospitals 
found to serve a disproportionate number of low-income patients with 
special needs as provided in section 1902(a)(13)(A)(iv) of the Act. 
Disproportionate share hospital (DSH) payments are subject to the 
following limits:
    (i) The aggregate DSH limit using the Federal share of the DSH 
limit under section 1923(f) of the Act.
    (ii) The hospital-specific DSH limit in section 1923(g) of the Act.
    (iii) The aggregate DSH limit for institutions for mental disease 
(IMDs) under section 1923(h) of the Act.
    (3) The limitation in paragraph (b) of this section does not apply 
to payments authorized by Sections 701(d) and 705 of the Benefits 
Improvement Protection Act of 2000 (BIPA).
    (d) Compliance dates. Except as permitted under paragraph (e) of 
this section, a State must comply with the upper payment limit 
described in paragraph (b) of this section by one of the following 
dates:
    (1) For State government operated and non-State government operated 
hospitals--Medicaid State plan rate year 2008.
    (2) For State government operated and non-State government operated 
clinics--Medicaid State plan rate year 2009.
    (3) For all other facilities--March 13, 2001.
* * * * *

PART 457--ALLOTMENTS AND GRANTS TO STATES

0
1. The authority for part 457 continues to read as follows:

    Authority: Sec. 1102 of the Social Security Act (42 U.S.C. 
1302).

0
2. Section 457.220 is revised to read as follows:

Sec.  457.220  Funds from units of government as the State share of 
financial participation.

    (a) Funds from units of government may be considered as the State's 
share in claiming FFP if they meet the conditions specified in 
paragraphs (b) and (c) of this section.
    (b) The funds from units of government are appropriated directly to 
the State or local Medicaid agency, or are transferred from other units 
of government (including Indian tribes) to the State or local agency 
and are under its administrative control, or are certified by the 
contributing unit of government as representing expenditures eligible 
for FFP under this section. Certified public expenditures must be 
expenditures within the meaning of 45 CFR 95.13 that are supported by 
auditable documentation in a form approved by the Secretary that, at a 
minimum--
    (1) Identifies the relevant category of expenditures under the 
State plan;
    (2) Explains whether the contributing unit of government is within 
the scope of the exception to limitations on provider-related taxes and 
donations;
    (3) Demonstrates the actual expenditures incurred by the 
contributing unit of government in providing services to eligible 
individuals receiving medical assistance or in administration of the 
State plan; and
    (4) Is subject to periodic State audit and review.
    (c) The funds from units of government are not Federal funds, or 
are Federal funds authorized by Federal law to be used to match other 
Federal funds.

[[Page 29836]]

0
3. Amend Sec.  457.628 by--
0
A. Republishing the introductory text to the section.
0
B. Revising paragraph (a).
    The republication and revision read as follows:

Sec.  457.628  Other applicable Federal regulations.

    Other regulations applicable to SCHIP programs include the 
following:
    (a) HHS regulations in Sec.  433.50 through Sec.  433.74 of this 
chapter (sources of non-Federal share and Health Care-Related Taxes and 
Provider-Related Donations) and Sec.  447.207 of this chapter 
(Retention of payments) apply to States' SCHIP programs in the same 
manner as they apply to States' Medicaid programs.
* * * * *
(Catalog of Federal Domestic Assistance Program No. 93.778, Medical 
Assistance Program)

    Dated: May 23, 2007.
Leslie V. Norwalk,
Acting Administrator, Centers for Medicare & Medicaid Services.

    Approved: May 23, 2007.
Michael O. Leavitt,
Secretary.
[FR Doc. 07-2657 Filed 5-25-07; 8:45 am]
BILLING CODE 4120-01-P
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