Medicaid Demonstration Waivers: Recent HHS Approvals Continue to Raise Cost and Oversight Concerns
Published: 2008-01-31T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: Medicaid, a joint federal and state program, finances health care for 60 million low-income people. Section 1115 of the Social Security Act authorizes the Secretary of Health and Human Services to waive certain federal Medicaid requirements and allow demonstration projects that are likely to promote Medicaid objectives. Under federal policy, states must show that federal spending for proposed demonstrations will be no greater than if the state's existing Medicaid program were continued. GAO examined the extent to which HHS ensured that recent comprehensive 1115 demonstrations--affecting a broad range of services for beneficiaries statewide--will (1) be budget neutral to the federal government and (2) maintain Medicaid's fiscal integrity. For demonstrations approved in 2005 (Florida and Vermont), GAO obtained information from federal and state officials and also relied on past reviews of other demonstrations.
section_title: What GAO Found
paragraphs: HHS did not adequately ensure that Florida's and Vermont's Medicaid demonstrations will be budget neutral to the federal government before approving them. HHS approved spending limits that were higher than the limits that would have been granted if HHS had held the states to limits based on benchmark growth rates, that is, the lower of the state's historical spending growth or nationwide estimates of Medicaid growth. Although HHS allows states to deviate from these benchmarks if states can show that using them would not provide accurate projections, HHS's basis for approving the higher spending limits was not fully supported by documentation. In Florida, HHS approved a $52.6 billion spending limit for the 5 year demonstration-- $6.9 billion more than the documentation supported. In Vermont, HHS approved a $4.7 billion spending limit--$246 million higher than supported. HHS also did not ensure that the two demonstrations maintain Medicaid's fiscal integrity. In Florida, HHS allowed the state to establish a spending limit using a historical spending base that included payments HHS had previously identified as problematic. In 2005, an HHS review found several problems with the payment arrangement--problems that potentially resulted in inflated and inaccurate payments. In Vermont, where the state proposed operating a managed care organization, HHS agreed to an administrative reimbursement rate higher than what the state received prior to the demonstration. Under this arrangement, the state can use excess revenues to pay for health-related programs that were previously funded by the state and that do not exclusively benefit Medicaid beneficiaries, such as a grant to the University of Vermont medical school. A July 2007 GAO letter to the Secretary discussed concerns about this approval's consistency with federal law and recommended that the Secretary reexamine Vermont's demonstration and, where appropriate, either modify its terms or seek statutory authority for it to continue in its current form. Concerns about HHS's demonstration approval process in this report are consistent with those GAO has raised in past reviews of other states' demonstration proposals. In 2002 and 2004, GAO recommended that HHS take steps to strengthen its fiscal oversight of Medicaid by improving the Medicaid demonstration review and approval process, in part by (1) clarifying criteria for reviewing and approving states' demonstration spending limits, (2) better ensuring that valid methods are used to demonstrate budget neutrality and (3) documenting and making public material explaining the basis for any approvals. HHS has not taken action on these recommendations and maintains that its process is sufficient. Because HHS continues to disagree with these recommendations and with the need to reexamine the Vermont demonstration, GAO is elevating these issues to the Congress for consideration.

section_title: Letter
paragraphs: Medicaid is a federal-state program that finances health care services for  about 60 million low-income individuals, including children and aged or  disabled adults. Established in 1965 under title XIX of the Social Security  Act, Medicaid consists of more than 50 distinct state-based programs that  cost the federal government and states an estimated $317 billion in fiscal  year 2005. Each state administers its Medicaid program within federal  requirements established in statute and regulations, and the federal  government shares in the cost of each state’s program by paying an  established share of reported expenditures. Under section 1115 of the  Social Security Act, however, the Secretary of Health and Human Services  may waive certain federal requirements for demonstrations that the  Secretary deems likely to promote Medicaid objectives—allowing states to  test and evaluate new approaches for delivering Medicaid services.
In the early 1980s, the Department of Health and Human Services (HHS)  adopted a policy that required states to document that their proposed  demonstrations would be budget neutral to the federal government, that  is, the federal government will spend no more with the demonstrations  than without them. Each demonstration operates under a negotiated  budget neutrality agreement that places limits on federal Medicaid  spending over the life of the demonstration. A spending limit governing a  demonstration is based on the projected costs of the existing Medicaid  program without the demonstration. States estimate the cost of continuing  their existing Medicaid programs by projecting growth in per person costs  and beneficiary enrollment over the 5-year standard demonstration period.  HHS policy guidance states that spending limits are based on estimates of  growth (growth rates) that are the lower of (1) the state’s historical growth  for Medicaid in recent years or (2) Medicaid growth rates projected for the  nation. These estimates are termed benchmark rates in this report.
In 1995, 2002, and 2004, we reported that HHS had not adequately ensured  that approved Medicaid demonstrations would be budget neutral to the  federal government. The core of our findings included that (1) HHS  approved spending limits that were based on projections of growth that  exceeded state-specific and nationwide benchmarks, (2) HHS approved  spending limits that included costs that were impermissible or  inappropriate, and (3) the basis for HHS’s approval of states’  demonstration spending limits was unclear and the process by which this  was done was largely undocumented. We have also reported numerous  times since the early 1990s about some states’ financing arrangements that  took advantage of the flexibility in the Medicaid program to boost the  federal support they received for the program at little or no cost to states.  Under one such financing arrangement, for example, states made illusory  Medicaid payments to certain government-owned providers—payments in  excess of standard Medicaid reimbursement rates, otherwise known as  supplemental payments—to obtain the federal share on the supplemental  payments, then required providers to return most or all of the payments to  the state. We concluded that such practices undermined the fiscal  integrity of the program, and HHS in recent years has sought to curtail  them. Both of these issues—lack of budget neutrality and concerns about  fiscal integrity—have contributed to our designating Medicaid as a high- risk program since 2003.
You expressed interest in the costs of Medicaid section 1115  demonstrations to the federal government and asked us to examine recent  demonstration proposals approved by HHS. We selected demonstrations  based on when they were approved—we selected demonstrations  approved from July 2004 through December 2006—and whether they were  comprehensive and accounted for the majority of the state’s Medicaid  expenditures. Two section 1115 demonstrations that HHS approved—for  Florida and Vermont in 2005—met these criteria. Both demonstrations  involve expanding the use of managed care to deliver services to Medicaid  beneficiaries: in Florida, by requiring certain Medicaid beneficiaries to  enroll in competing state-approved managed care plans; in Vermont, by  creating a single state-run managed care organization. We have already  reported to you on certain aspects of HHS’s approval of demonstrations in  Florida and Vermont. In July 2007, we reported that demonstrations in  Florida and Vermont have mixed implications for beneficiaries and that  opportunities for public input to HHS during the approval process were  limited. Also in a July 2007 letter to the Secretary of HHS, we reported  concerns about the consistency of the Florida and Vermont  demonstrations with federal law: in Florida, about HHS allowing limits on  covered benefits and cost sharing in excess of statutory limits without  addressing statutory restrictions on its authority to do so; in Vermont,  about HHS allowing the state to operate its own Medicaid managed care  organization through a contract between two related state agencies and,  through this arrangement, to apply Medicaid funds to programs previously  funded by the state. This report addresses the extent to which the  Secretary of HHS ensured, before approving them, that the Florida and  Vermont demonstrations will (1) be budget neutral to the federal  government and (2) maintain the fiscal integrity of the Medicaid program.
To determine the extent to which HHS ensured that the demonstrations in  Florida and Vermont will be budget neutral, we examined each state’s  projection of the combined federal and state spending needed to continue  its existing Medicaid program. We compared the assumptions about cost  and beneficiary enrollment growth used to develop the demonstration  spending limits approved by HHS against our estimates of spending limits  had HHS’s benchmarks been used. We asked officials of the state Medicaid  agencies, HHS, and the Office of Management and Budget (OMB) for  explanations and quantitative support for spending projections that used  growth assumptions exceeding HHS benchmarks and estimated the  spending limits supported by these explanations and documentation.
To determine the extent to which HHS ensured that the two  demonstrations will maintain the fiscal integrity of the Medicaid program,  we evaluated HHS’s process for reviewing section 1115 demonstration  proposals and whether the demonstrations held potential for  inappropriately leveraging federal Medicaid funds. We reviewed Florida  and Vermont demonstration-related materials, including the  demonstration proposals and supporting documentation, correspondence  between HHS and the two states, and the special terms and conditions that  govern implementation, operation, and evaluation of approved  demonstrations. We also reviewed HHS documentation related to the  states’ Medicaid financing methods and supplemental payment  arrangements. And we met with state and federal officials, including  officials from HHS’s Office of the Actuary, the Division of Family and  Children’s Health Programs Group (the division within the Centers for  Medicare & Medicaid Services (CMS) that reviews section 1115  demonstration proposals), the Division of Reimbursement and State  Financing (the division within CMS that monitors the appropriateness of  state financing arrangements), and from OMB. Appendix I more fully  discusses our scope and methodology. We conducted our work from June  2006 through January 2008 in accordance with generally accepted  government auditing standards.
subsections: section_title: Background
paragraphs: Medicaid is one of the largest programs in federal and state budgets. In  fiscal year 2005, Medicaid expenditures totaled an estimated $317 billion.  States pay qualified health providers for a broad range of covered services  provided to eligible beneficiaries. The federal government reimburses  states for a share of these expenditures. The federal matching share of  each state’s Medicaid expenditures for services is determined by a formula  defined under federal law and can range from 50 to 83 percent.
Each state administers its Medicaid program in accordance with a state  Medicaid plan that must be approved by HHS. Traditional Medicaid  programs represent an open-ended entitlement, meaning the state will  enroll all eligible individuals who apply for Medicaid, and both the state  and federal government will pay their shares of expenditures for  individuals covered under a state’s approved Medicaid plan. States have  considerable flexibility in designing their Medicaid programs, but under  federal Medicaid law, states generally must meet certain requirements for  what benefits are provided and who is eligible for the program.
Medicaid demonstrations provide a way for states to innovate outside of  many of Medicaid’s usual requirements. Under section 1115 of the Social  Security Act, the Secretary has authority to waive certain federal Medicaid  requirements and authorize otherwise unallowable expenditures for  “experimental, pilot, or demonstration projects” that are likely to promote  Medicaid objectives. States have used the flexibility granted through  section 1115 to implement major changes to existing state Medicaid  programs. For example, some states used Medicaid section 1115  demonstrations in the 1980s and 1990s to introduce mandatory managed  care for their Medicaid beneficiaries.
Since the early 1980s, HHS has required that states show that their  proposed section 1115 demonstrations will be budget neutral to the  federal government—that is, federal expenditures under a state’s  demonstration will not be greater than if the state had continued its  existing Medicaid program. HHS requires states to show that proposed  demonstrations are budget neutral by preparing 5-year projections of  spending (1) under the current Medicaid program and (2) under the  proposed demonstration. HHS policy states that for a demonstration to be  considered budget neutral, the federal share of projected Medicaid  expenditures under the demonstration can be no greater than the federal  share of projected Medicaid expenditures based on continuing the existing  Medicaid program.
subsections: section_title: Budget Neutrality Is Based on the Projected Cost of the Existing Medicaid Program
paragraphs: Because HHS bases spending limits for proposed demonstrations on the  projected cost of continuing an existing Medicaid program, a state has an  incentive to maximize its projected costs. HHS policy states that the  federal share of spending on demonstrations will be limited by spending  limits calculated from two components:    Spending base. States select a recently completed fiscal year that  establishes base levels of funding for services and programs affected by  the proposed demonstration—a state’s “spending base.” States also  identify beneficiary groups for inclusion in the proposed demonstration.  These beneficiary groups can, at the Secretary’s discretion, include  individuals enrolled in other demonstrations a state may be operating and  beneficiaries from the State Children’s Health Insurance Program (SCHIP),  which provides health coverage to children in families whose incomes,  while low, are above Medicaid’s eligibility requirements.
Growth rates. States should submit to HHS 5 years of historical data for  per person costs and beneficiary enrollment in their existing Medicaid  programs, including quantified explanations for anomalies in their  historical trends. HHS policy says that spending limits should be based on  growth rates that are the lower of state-specific history or estimates of  nationwide growth for the beneficiary groups included in the  demonstration (referred to in this report as benchmark growth rates).  HHS’s guidance is specific to per person cost growth rates and does not  explicitly address the application of enrollment growth rates; however,  HHS refers to state historical and nationwide enrollment growth rates in  considering the spending limits. Nationwide estimates of cost and  beneficiary enrollment growth are developed by CMS actuaries to assist  OMB in preparing the President’s Budget.
To project the costs of continuing a state’s existing Medicaid program,  HHS policy calls for applying the benchmark growth rates to the state’s  spending base over a 5-year period to establish total projected costs  absent the demonstration. HHS sets spending limits for proposed  demonstrations based in part on these total projected costs (see fig. 1).
HHS allows states to use higher-than-benchmark growth rates if they can  establish that historical or nationwide data do not accurately depict  anticipated growth in the state Medicaid program. HHS considers  spending limits to be a product of negotiations that are informed by HHS’s  policy to consider the state’s historical experience and projections of  growth in the President’s Budget. In addition, HHS’s policy indicates that  states, in providing HHS with state-specific historical growth rates, must  quantify any anomalies in the trends.
section_title: Recent Demonstrations Approved in Florida and Vermont Allow Significant Changes in How These States Operate Their Medicaid Programs
paragraphs: Recently approved section 1115 Medicaid demonstrations in Florida and  Vermont significantly change the operation of the two states’ Medicaid  programs. Both demonstrations expand the use of managed care by  requiring most Medicaid beneficiaries to enroll in managed care plans:  Florida through state contracts with multiple managed care plans to  provide services and Vermont by creating a single managed care  organization operated by an office within the state Medicaid agency.
Florida: Approved by HHS in October 2005 and launched in July 2006,  Florida’s demonstration is designed to give Medicaid beneficiaries  different options for health care plans and benefits through increased use  of managed care plans to provide Medicaid coverage to beneficiaries, in a  competitive environment. In the initial phase of the demonstration,  certain Medicaid beneficiaries in two counties are required to enroll in  state-approved managed care plans. Managed care plans compete for  Medicaid beneficiaries by offering different coverage options, including  customized benefits and cost sharing, subject to certain limitations. Unlike  many other previous Medicaid managed care systems, managed care plans  in Florida have the authority to design benefit packages subject to  approval by the state. Initially implemented in a two-county area, the  managed care components of the demonstration are planned for statewide  implementation by June 2010. Another key component of Florida’s  demonstration was the establishment of a pool of funds to finance  supplemental payments—payments above the state’s usual payment rate— to certain types of Florida health care providers. Known as the low-income  pool, this component of the demonstration was designed in part to  continue funding for a supplemental payment program for hospitals that  the state had in place prior to the demonstration. Payments from the   $5 billion low-income pool ($1 billion annually) are authorized for selected  Medicaid providers statewide to help offset the cost of providing care to  Medicaid beneficiaries and underinsured and uninsured individuals.
Vermont: Approved by HHS in September 2005 and launched the  following month, Vermont’s demonstration is designed to contain costs  and, by potentially delivering services to Medicaid beneficiaries for less  and reinvesting excess revenue, to allow the state to serve more of its  uninsured population. Under the demonstration, Vermont created a single,  state-operated managed care organization to cover virtually all of the  state’s Medicaid population. HHS approved a managed care arrangement  whereby the state Medicaid agency contracts with one of its own  components (the Office of Vermont Health Access) to operate as a  managed care organization. The Office of Vermont Health Access  receives monthly actuarially certified lump-sum payments from the state  Medicaid agency, which in turn receives the federal share of these lump- sum payments. The monthly payment is intended to cover the medical  costs and administrative expenses of serving enrolled beneficiaries.  Vermont also received authority to retain “savings,” that is, any excess  revenue generated by the state managed care organization, and apply them  to programs that meet certain agreed-upon health objectives, such as  increasing health insurance coverage.
section_title: Concerns about Budget Neutrality of Medicaid Demonstrations and Certain Excessive Supplemental Payments Are Long-standing
paragraphs: On several occasions since the mid-1990s, we have reported concerns that  HHS had approved Medicaid demonstrations that were not budget neutral  to the federal government.
In 1995 we reported that HHS applied new, more flexible budget neutrality  guidance allowing three states to consider “new methodologies” for  determining budget neutrality of proposed demonstrations. Based in part  on these new methodologies, HHS had approved spending limits for these  demonstrations that were not budget neutral and could increase federal  Medicaid expenditures.
In 2002, we reported that HHS approved spending limits for  demonstrations that were not budget neutral to the federal government by  allowing two states to include inappropriate or impermissible costs in  their spending projections. We recommended that HHS ensure that valid  methods are used to demonstrate budget neutrality by developing and  implementing consistent criteria for reviewing and approving states’  budget neutrality analyses. HHS disagreed with the recommendation,  stating that its methods were valid.
In 2004, we reported that HHS approved spending limits for section 1115  demonstrations in four states that were not budget neutral to the federal  government. These states projected the costs of their Medicaid programs  at rates of growth exceeding state-specific and nationwide benchmarks for  Medicaid cost and enrollment growth without documenting the rationale  for the higher growth rates. We recommended that HHS (1) clarify criteria  for reviewing and approving spending limits of states’ proposed  demonstrations and (2) reconsider the spending limits of recently  approved demonstrations. We also recommended that HHS document and  make public the basis for any section 1115 demonstration approvals,  including the basis for cost and enrollment growth rates used to set  spending limits, and ensure that states comply with reporting and  evaluation requirements. HHS concurred with our recommendations to  make public the basis for its approvals, but did not concur with our  recommendations on clarifying approval criteria and reconsidering  recently approved demonstrations using these criteria.
Our past work also includes reports addressing concerns with aspects of  HHS’s oversight of certain state supplemental payment arrangements that  threatened the fiscal integrity of Medicaid’s federal-state partnership.  States, with HHS approval, can make supplemental Medicaid payments— payments above the state’s usual Medicaid payment rates for certain  services, such as nursing home care—and they often do so for appropriate  reasons. For example, states may make supplemental Medicaid payments  to certain safety net providers that serve a large share of high-cost  Medicaid beneficiaries. However, our work since the early 1990s  examining some of these arrangements found that many states were, in  essence, finding ways through the arrangements to inappropriately  increase the federal share of Medicaid spending at little or no cost to the  state. In February 2004, for example, we reported that states were taking  advantage of Medicaid upper payment limit (UPL) provisions, resulting in  excess federal payments. The UPL is the upper bound on what the federal  government will pay as its share of Medicaid costs for different classes of  covered services, and this limit often exceeds what states actually pay  providers for services. This difference creates a “gap” between what  states typically pay for services and the UPL. Some states took advantage  of this gap between their usual payment rates and what Medicaid could  pay under the UPL by making large supplemental payments to government  providers, acquiring a federal share of those payments, and subsequently  requiring the providers to return most or all of the supplemental payments  to the state. These states have collected billions of excessive federal  dollars in past years and often used these returned payments and the  accompanying federal funds to finance their own share of the Medicaid  program. We have reported on, and HHS has attempted to curb, such  recycling of federal Medicaid funds.
section_title: HHS Did Not Adequately Ensure the Budget Neutrality of Medicaid Demonstrations in Florida and Vermont before Approving Them
paragraphs: HHS approved 5-year demonstration spending limits for Florida and  Vermont based on projections of cost and beneficiary enrollment growth  rates that exceeded HHS’s own benchmarks—that is, the lower of the  state’s recent historical experience or estimates of Medicaid growth  nationwide—without adequate support for these deviations. For each  state, HHS provided support for some, but not all, of the increase above  these benchmark levels. For Florida, the unsupported difference totals  about $6.9 billion of the $52.6 billion in projected spending over the   5-year demonstration. For Vermont, the unsupported difference totals  about $246 million over its 5-year demonstration. HHS approved higher- than-benchmark growth rates in calculating spending limits for the  demonstrations and, in the case of Vermont, allowed the state to include  hypothetical projected expenses inappropriately. In particular, HHS  allowed Vermont to include projected costs in its spending limit based on  costs that had been budgeted for and allowed under a previous 1115  demonstration but that had not been spent. Although HHS provided some  documentation to justify the deviations from its benchmarks that it  approved, HHS did not justify all the deviations. In some cases, HHS  officials told us that the higher growth rates were the results of  negotiations. However, such negotiations were not always fully  documented.
subsections: section_title: Spending Limit for Florida’s Demonstration Not Fully Supported
paragraphs: HHS approved a spending limit for Florida’s demonstration that exceeded  the amount HHS could have approved under its benchmark policy, but did  not fully support the additional spending. Florida’s spending limit has two  primary components, beneficiary services and supplemental payments to  safety net hospitals. Beneficiary services account for the bulk of Medicaid  spending and include the medical costs of demonstration enrollees. For  beneficiary services, HHS established annual per person limits on federal  funds for medical services to groups of beneficiaries. Projected over the   5 years of the demonstration, these per person limits would result in  estimated Medicaid spending of about $47.6 billion. However, under HHS’s  benchmark policy of limiting projected growth to the lower of a state’s  recent historical experience or nationwide estimates of Medicaid growth,  the maximum spending allowed would have been a projected $38.6 billion,  or about $9 billion less. HHS supported deviations from its benchmarks  that would allow spending projected at an estimated $40.7 billion—  $2.1 billion above the level the benchmarks would have allowed, but still  $6.9 billion less than what it approved.
Table 1 shows the spending limit originally proposed by Florida and  agreed to by HHS. It also shows the spending limit that would have  resulted using the benchmark growth rates of the lower of the state’s  historical growth or the growth projected in the President’s Budget, as  well as the estimated spending limit that HHS and state officials supported  through explanations and documentation.
A further discussion of HHS’s explanations of its approvals follows.
subsections: section_title: Higher Spending Limit in Florida Is Based on Assumptions of Cost Growth That Exceed Benchmarks
paragraphs: Projected spending on medical services to beneficiary groups in Florida is  based on assumptions of per person cost and beneficiary enrollment  growth rates for two primary groups of Medicaid beneficiaries: (1) the  aged, blind, and disabled and (2) children and families. Florida submitted  to HHS 5 years of historical data and calculations of cost growth rates over  this period for the two groups. HHS, in turn, compared Florida’s state- specific history to estimates of Medicaid growth for these beneficiary  groups nationwide. However, neither Florida’s proposed nor HHS’s  approved spending limit is based on projected spending using the lower of  the state-specific or nationwide benchmarks consistent with HHS policy.  Instead, according to HHS and state officials, Florida proposed—and HHS  approved—higher per person cost growth based on adjustments to the  growth rates that were made during negotiations between HHS and state  officials that were not documented.
The cost growth rates HHS accepted in negotiations were substantially  above those that would have been allowed under HHS’s benchmark  policy. As table 2 shows, HHS approved cost growth rates of 8 percent for  both aged, blind, and disabled beneficiaries, and for families and  children—lower than Florida was proposing for the first group, and  slightly higher than Florida was proposing for the second group. Under  HHS’s benchmark policy, which calls for basing spending limits on  projections of growth at the lower of state-specific history or estimates of  Medicaid growth nationwide, the approved cost growth rates would have  been 4.80 percent for aged, blind, and disabled beneficiaries and   3.11 percent for children and families.
HHS officials allow states to use higher cost growth rates if state officials  can establish that state-specific or nationwide data do not accurately  depict expected growth in the state Medicaid program. HHS’s policy  indicates that states are to provide quantified explanations of growth rate  anomalies. For the Florida demonstration, HHS officials explained and  provided public or internal documents to support part, but not all, of the  increases to benchmark cost growth rates that HHS approved.  1.  For aged, blind, and disabled beneficiaries, HHS allowed adjustments  to nationwide estimates of cost growth to account for effects of the  Medicare prescription drug benefit, but quantified explanations for  only part of the approved increase. HHS officials explained that the  implementation of the Medicare Part D prescription drug benefit,  which would have the effect of shifting the cost of many prescription  drugs out of the Medicaid program and into Medicare, caused a sharp  decrease in estimated costs for aged, blind, and disabled Medicaid  beneficiaries nationwide in 2006. This decrease in the cost growth rate  for that unusual year lowered the nationwide benchmark growth rate  for these beneficiaries. HHS officials adjusted for the effects of the  Medicare prescription drug benefit by removing drug-related  expenditures from the nationwide estimates over the time period  under review and recalculating estimated nationwide cost growth. As a  result of these adjustments, HHS provided quantified explanations to  the deviation from its benchmark and supported projected cost growth  of 6.45 percent for aged, blind, and disabled beneficiaries—higher than  the 4.80 percent allowed under its benchmark policy. HHS officials  indicated that the remaining deviation from the benchmark was  attributable to adjustments they made to the growth rate to account  for an expected increase in enrollment of low-cost beneficiaries. HHS  officials, however, did not identify and correct anomalies in the  nationwide enrollment data to support the additional increase in cost  growth from 6.45 percent to the 8 percent HHS approved for the  demonstration.  2.  For families and children, HHS claimed that higher growth over a  selected time period more accurately reflected cost growth. According  to HHS’s guidance, state-specific growth rates are based on 5 years of  historical data. HHS, however, allowed Florida to calculate a cost  growth rate for its families and children based on data from a  truncated period of higher growth of 3 years and 9 months. Cost  growth over this shortened period of time was 5.88 percent, as  compared to cost growth of 3.11 percent when using data from the full  5 years leading up to Florida’s base year. HHS officials explained that  they allowed Florida to selectively use the higher years of data to  calculate its growth rates for two reasons: (1) that the shortened time  period replaced earlier years of unusually low cost growth with more  recent data and (2) that HHS had recently approved a higher cost  growth rate for a subset of this particular beneficiary group in  renewing an ongoing Medicaid managed care demonstration. HHS  officials did not, however, identify and correct an anomaly in the  state’s earlier data, nor did HHS document and explain why the state  was allowed to establish its spending limits using growth rates that  were based on anticipated higher growth under the demonstration. In  particular, the state, in its application, stated that it anticipated higher  cost growth under the demonstration due to greater use of managed  care by Medicaid children and families. A review of Florida’s historical  cost growth that includes more recent data cited by HHS officials, and  that uses data from a 5-year period as indicated by HHS policy,  supports a cost growth rate of 3.77 percent.
HHS officials maintained that HHS’s methods for ensuring budget  neutrality are valid and indicated that the department’s budget neutrality  decisions are, to some extent, the product of negotiations. HHS officials  also said that HHS can assign growth rates that vary from the results of  analysis of historical data and the President’s Budget projections if  officials are convinced that the trends are merited.
section_title: Spending Limit for Vermont’s Demonstration Also Not Fully Supported
paragraphs: To a lesser degree than Florida, HHS approved a spending limit for  Vermont’s demonstration based on assumptions of beneficiary enrollment  growth that exceeded HHS’s benchmarks. HHS approved a spending limit  of $4.7 billion for Vermont’s 5-year demonstration. This spending limit,  however, is $180 million above the maximum supported by HHS and the  state in explanations and documentation. HHS also allowed Vermont to  include in its spending limit funds that were “hypothetical,” that is,   $67 million in funds that had been approved as budget neutral for a prior  section 1115 demonstration but that the state had not actually spent.
Table 3 shows the spending limit as originally proposed by Vermont and as  agreed to by HHS. It also shows the limit that would apply if HHS  benchmarks had been used and the limit that HHS and state officials  explained and supported in documentation. Although HHS reduced  Vermont’s proposed spending limit by over $1.4 billion, this reduction  resulted from an agreement that the state not include the financing of  three major programs in the demonstration. These three programs that  were removed from the state’s initial proposal—a long-term care  demonstration, payments to hospitals under the Disproportionate Share  Hospital program, and SCHIP—account for most of the $1.4 billion and  will continue to be operated and reimbursed apart from the Vermont  demonstration, thus having no affect on the budget neutrality of the  demonstration.
Vermont submitted 5 years of historical cost and beneficiary enrollment  data for assessment by HHS. For per person costs, HHS required Vermont  to hold growth rates in line with the department’s benchmark policy. For  beneficiary enrollment, however, HHS approved growth rates that were  higher than benchmark levels. For example, the benchmark rate for  enrollment growth of aged, blind, and disabled beneficiaries was   1.52 percent per year; HHS approved a rate of 2.52 percent. For the largest  group of beneficiaries under the demonstration—families and children— HHS approved an enrollment growth rate of 1.99 percent, higher than the  1.05 percent nationwide benchmark for this group (see table 4).
Similar to Florida, but to a lesser degree, a portion of Vermont’s spending  limit that exceeds HHS benchmarks was not supported. HHS used  beneficiary cost and enrollment growth rates to provide the basis for  Vermont’s aggregate spending limit. Although HHS held Vermont’s  beneficiary cost growth rates to the lower of HHS’s benchmarks, HHS did  not do so with regard to enrollment growth rates. HHS approved  enrollment growth rates that were proposed by Vermont but were higher  than the benchmarks without adequate documentation for the higher  growth rate (see table 4). HHS officials told us the higher growth rates  were the results of negotiations. However, such negotiations were not well  documented. For one group of beneficiaries—families and children—HHS  approved an enrollment growth rate of 1.99 percent, consistent with the  state’s historical growth but almost twice the 1.05 percent nationwide  benchmark for this group, without explanation. For another group— beneficiaries from an ongoing developmental services demonstration— HHS allowed the state to exceed the benchmark growth rate based in part  on a state management plan to cover more people in the future by  removing them from a waiting list for developmental services. For this  same group, Vermont supported part, but not all, of the spending limit in  excess of the benchmarks by presenting a more narrowly focused analysis  of its historical enrollment data. Specifically, for this subset of the state’s  aged, blind, and disabled beneficiary group, Vermont officials identified  enrollment growth of 4.25 percent, higher than the benchmark level for  aged, blind, and disabled beneficiaries. HHS officials told us that they  considered both state-specific and nationwide benchmarks before  approving Vermont’s requested enrollment growth rates. We estimate that  the higher-than-benchmark enrollment growth rates approved by HHS that  were not supported by explanation and documentation increased  Vermont’s spending ceiling by about $180 million.
HHS also allowed Vermont to include in its spending limit the projected  costs for “hypothetical” expenditures, that is, expenditures the state could  have made but did not make. Specifically, HHS allowed Vermont to  include in its spending limit nearly $67 million that the state was  authorized to have spent under an ongoing Medicaid section 1115  demonstration, but that was unspent under the program. At the time of its  proposal, Vermont had an ongoing 1115 demonstration called the Vermont  Health Access Program that began in 1996 and was later extended. While  program expenditures for the Vermont Health Access Program were well  under that demonstration’s spending limit in the early years of the  demonstration, in 2004 the program began operating at a deficit as  expenditures exceeded its annual spending targets (see fig. 2). Vermont  ended this demonstration early because the state could no longer afford to  incur the deficits. Because of its early completion, $67 million under the  spending limit for the demonstration was unspent.
HHS policy requires a state to capture actual expenditures in its spending  base, and the $67 million allowed was a hypothetical expenditure that did  not represent true expenditures of the state under its program. We have  previously reported a concern about HHS’s allowing states to include  hypothetical costs in their spending limits. For example, in 2002, we  reported that HHS had approved an inflated spending limit for one state by  allowing the state to include projected costs of covering a population that  the state had not actually covered under its program.
section_title: HHS Has Not Ensured That Demonstrations in Florida and Vermont Maintain the Fiscal Integrity of the Medicaid Program
paragraphs: HHS has not ensured that demonstrations in Florida and Vermont  maintain the fiscal integrity of the Medicaid program. In Florida, HHS  approved the state’s use of spending from a problematic supplemental  payment arrangement that the state had in place prior to the  demonstration as the basis for allowed spending under the demonstration,  without correcting all identified problems. A 2005 HHS financial  management review found several problems with the earlier financing  arrangement that involved supplemental payments to certain hospitals and  other health care providers. Among the problems, the HHS review found  that Florida had incorrectly calculated the level of supplemental payments  for which federal Medicaid funds could be obtained, resulting in inflated  payments under the arrangement. Without taking corrective action, HHS  allowed Florida to use the prior financing arrangement as the basis for  allowed spending in a $1 billion per year low-income pool under its  current demonstration. We had, in 2004, recommended that HHS establish  methods for states’ calculations of supplemental payments, but HHS has  not implemented this recommendation. In Vermont, HHS allowed the state  to operate a managed care organization and, through this arrangement,  retain excess revenue from payments to the organization for previously  state-funded programs. In July 2007, we raised concerns about this  demonstration’s consistency with federal law. We recommended that the  Secretary reexamine Vermont’s demonstration and, where appropriate,  either modify the terms of the demonstration or seek statutory  authorization for the state to continue the demonstration in its present  form.
subsections: section_title: Florida Allowed to Use Spending under a Problematic Supplemental Payment Arrangement as the Basis for Spending under the Demonstration
paragraphs: A key component of Florida’s demonstration is a pool of federal, state, and  local money to supplement payments to the state, or to hospitals, clinics,  or other providers (see table 5). Florida agreed to discontinue its  supplemental payment program under the terms of the demonstration, but  to ensure continued funding for providers that had been receiving  supplemental payments under the former program, requested HHS  approval to make supplemental payments through a low-income pool.  HHS approved a $5 billion low-income pool that allows Florida to spend   $1 billion per year for the 5 years of the demonstration for uncompensated  medical care costs to the uninsured and underinsured, Medicaid costs  above standard Medicaid reimbursement rates, health insurance  premiums, and insurance products for such services provided to otherwise  uninsured individuals.
At the time the demonstration was approved, however, HHS also had  indications that Florida made excessive supplemental payments through  the existing supplemental payment arrangement, and these concerns had  not been resolved as of the time the demonstration was approved. A  September 2005 HHS review of Florida’s financing arrangements found  that the methods and data used to calculate the amount of supplemental  payments eligible for federal matching funds were unreliable. The  reviewer, for example, found that Florida established Medicaid UPLs— which cannot exceed what Medicare would pay for the same services, and  which determine the maximum amount of federal matching funds the state  could obtain for its supplemental payment program—without making  adjustments to account for the fact that Medicare beneficiaries are  typically older and more expensive to treat. For example, the review found  that the state’s estimate of what Medicare would pay for hospital services  was nearly three times what Medicaid would typically pay, which the  reviewer questioned. Not adjusting for the higher cost of treating Medicare  patients inflates the state’s calculation of allowable payments under the  program. HHS’s review also found that the data used to calculate the  supplemental payment levels under Medicaid’s UPL contained errors and  did not provide a reliable basis for determining the appropriate payment  levels. HHS’s 2005 review did not estimate the actual allowable payments  under the program or the extent that the prior supplemental payment  arrangement was considered excessive or inflated.
HHS required the state to correct one issue the review had identified with  the source of the state’s own funding for the supplemental payments it was  making as a condition of approving the demonstration. However, HHS did  not require Florida to address the problems with the methodology and  data used to determine the amount of supplemental payments eligible for  federal matching funds before projecting allowed spending under the  demonstration. HHS’s required terms of the demonstration, however, did  allow for future adjustments to the spending limit under certain  circumstances. In November 2006, HHS officials said that problems  identified with the improper calculation of states’ allowed supplemental  payment amounts would be corrected at a later date.
section_title: Vermont Allowed to Use Medicaid Funds to Supplant State Funding for Certain Purposes
paragraphs: Under Vermont’s demonstration, HHS authorized the state to operate its  own managed care organization and, through this arrangement, to apply  federal Medicaid matching funds to programs that were previously funded  by the state and that do not exclusively benefit those eligible for Medicaid.  Under this approach, the state’s Medicaid agency—the Agency of Human  Services—makes actuarially certified monthly lump-sum payments to one  of its own offices. That office, the Office of Vermont Health Access, serves  as the managed care organization for the Medicaid program. In state fiscal  year 2006, for example, the state Medicaid agency made lump-sum  payments to its Office of Vermont Health Access of $65.4 million per  month. The Agency of Human Services, in turn, receives federal Medicaid  matching funds on these monthly payments. If Vermont can operate its  public managed care organization and provide services to Medicaid  beneficiaries for less than $65.4 million per month, HHS allows the state,  under the demonstration, to spend excess revenues on programs that meet  any of four broad health care objectives: (1) increase health insurance  coverage, (2) increase access to quality health care for Medicaid enrollees  and those lacking adequate insurance, (3) improve health outcomes and  quality of life for Medicaid-eligible individuals, and, (4) encourage public- private health care partnerships.
In fiscal year 2006—the first full year of the demonstration—the Vermont- operated managed care organization generated $56.5 million in excess  revenues and invested $43 million of the funds into various programs. HHS  allowed Vermont to invest the remainder of the excess revenues generated  by the managed care organization in a reserve fund for future use. Over the  5 years of the demonstration, Vermont estimates that it will accumulate  $300 million in excess revenues. The state plans to use these excess  revenues to supplant state funding for a number of programs that do not  exclusively benefit Medicaid-eligible individuals (see table 6). For  example, Vermont plans to use excess revenues from the demonstration to  fund a grant for the University of Vermont and to provide loan forgiveness  for doctors and dentists. Vermont officials indicated that state funds— freed up by investment of excess revenues from the demonstration—could  then be used to reduce Vermont’s budgetary constraints, projected in the  demonstration’s proposal as a $656.8 million 5-year shortfall in state funds  to pay for the state’s own share of Medicaid expenditures.
The Vermont arrangement generates excess administrative reimbursement  in two ways. First, HHS allowed the Agency of Human Services to pay its  Office of Vermont Health Access at a rate that, while typical for private  managed care organizations, is higher than the rate Vermont had been paid  prior to the demonstration and higher than average Medicaid agency  administrative costs. Second, because the payments for which matching  funds are provided are lump-sum payments that include the managed care  organization’s administrative costs, HHS pays a higher portion of the  administrative costs associated with the managed care organization than it  pays for administrative costs in the rest of Vermont’s Medicaid program or  in Medicaid programs in other states. At the state’s historical rate and in a  proportion consistent with other states’ administrative costs, Vermont  would have received an estimated $71 million less.
The reimbursement attributable to administrative costs could help ensure  that the state has excess revenues for the state’s purposes, including  supplanting state funding for non-Medicaid programs. A September 2005  independent review and risk analysis conducted by a consultant to  Vermont concluded that the likelihood that there would be savings under  the demonstration available to be used for programs formerly funded with  state dollars was very high for two reasons. First, the spending limit and  corresponding premium structure of the managed care organization  assumed a 9 percent administrative cost component, which is typical for  private managed care organizations but nearly double the average state  Medicaid agency administrative costs. According to the consultant, such  costs typically run in the 3 to 5 percent range. According to HHS data,  administrative costs averaged 4.6 percent nationwide in fiscal year 2005.  Second, unlike the situation where the state contracts with a private  managed care organization, there is an incentive to pay the state-operated  managed care organization on the high end of the actuarial range approved  for the managed care premium because any excess payments can be used  for state-funded programs.
This financing arrangement allows Vermont to increase federal Medicaid  payments to the state without a commensurate increase in state Medicaid  spending. The state agency, by making a payment to itself in excess of the  cost of providing Medicaid services, generates federal matching funds,  which can be used to supplant state spending on certain programs. This  supplanted state money, in turn, can be used to reduce Vermont’s  projected $656.8 million 5-year shortfall in state funds for Medicaid, thus  generating even more federal matching funds in a process known as  recycling. Curtailing practices that allow states to reduce the proportion of  Medicaid spending for which they are responsible has been part of the  ongoing congressional scrutiny of Medicaid programs.
In a letter to the Secretary of HHS, we raised concerns about the Vermont  program’s consistency with federal law. These concerns stemmed from  HHS’s decision to allow the state to operate its own managed care  organization and, through this arrangement, to apply federal Medicaid  matching funds to programs previously funded by the state. The approval  of the Vermont program raised the question whether the Vermont  Medicaid agency could enter into a managed care contract with one of its  own offices and receive federal matching funds for lump-sum payments to  that office rather than for payments based on actual costs. The letter also  noted that in connection with its managed care regulations, HHS has  expressed concerns about states obtaining federal matching funds through  managed care contracts for state-funded services for which such funds  would not ordinarily be available. Given our concerns, we recommended  that the Secretary of HHS reexamine the demonstration and, where  appropriate, either modify its terms or seek statutory authorization for it  to continue in its current form.
section_title: Conclusions
paragraphs: After examining HHS’s approvals of demonstrations in Florida and  Vermont, our long-standing cost and oversight concerns related to HHS  approvals of comprehensive Medicaid demonstration proposals remain. In  determining the budget neutrality of proposed demonstrations, HHS  approved spending limits for Florida and Vermont that exceeded its own  benchmarks without adequately supporting the basis for the deviations.  Our findings in Florida and Vermont are similar to the concerns we raised  in our earlier reports—during its budget neutrality process, HHS did not  adequately support the deviations from benchmark rates that it allowed in  the development of states’ spending limits, or clearly document and make  public the basis for the approved limits. When combined, the spending  limits approved for Florida and Vermont are nearly $7.2 billion more than  what the documentation and explanations support for the demonstrations.  Given the significant federal expenditures for these demonstrations,  improved accountability and transparency in HHS’s budget neutrality  process, including in the approval of states’ spending limits, is warranted.
HHS’s approvals in Florida and Vermont also raise concerns about  precedents they establish that affect the federal and state partnership and  fiscal integrity of the Medicaid program. By allowing Florida to use  spending from a prior supplemental payment arrangement as the basis for  new spending without correcting known problems, and by allowing  Vermont to create its own state-run managed care organization and use  excess revenue to fund other state programs, HHS has not taken the steps  needed to ensure that Medicaid funds are used for Medicaid purposes.  HHS has not corrected the problems it found with historical spending  under Florida’s supplemental payment arrangement—historical spending  that was used to set the spending limit under the demonstration—and  reexamined the level of Florida’s spending limit accordingly. We believe a  related recommendation from our 2004 report on the fiscal integrity of  state Medicaid supplemental payment arrangements remains valid: that  the department establish uniform guidance to states setting forth  acceptable methods for calculating supplemental payment arrangements,  such as the one that served as the basis for Florida’s low-income pool.  Such guidance could help ensure that payments under ongoing  supplemental payment arrangements, and any related demonstration  proposals, are appropriate in the future. HHS agreed to implement this  recommendation in responding to our 2004 report, but as of December  2007 had not done so.
Our concerns about HHS approvals extend beyond those related to costs  and oversight. The Secretary’s approval of the Vermont demonstration  establishes a precedent for future proposals, but raises legal concerns. As  of January 2008, HHS had no plans to implement our July 2007  recommendation to address concerns with the demonstration’s  consistency with federal law. Because HHS disagrees with this  recommendation—and other recommendations we have made to improve  the demonstration review process—we are elevating this and other  recommendations to the Congress for its consideration.
section_title: Matters for Congressional Consideration
paragraphs: The Congress should consider requiring increased attention to fiscal  responsibility in the approval of section 1115 Medicaid demonstrations by  requiring the Secretary of HHS to improve the demonstration review  process through steps such as (1) clarifying criteria for reviewing and  approving states’ proposed spending limits, (2) better ensuring that valid  methods are used to demonstrate budget neutrality, and (3) documenting  and making public material explaining the basis for any approvals.
The Congress should consider addressing whether demonstrations that  allow states to operate public managed care organizations and retain  excess revenue to support programs previously funded by the state— including the Vermont demonstration—are within the scope of the  Secretary of HHS’s authority under section 1115 of the Social Security Act.
section_title: Recommendation for Executive Action
paragraphs: To help ensure that the Florida demonstration will maintain the fiscal  integrity of the Medicaid program, we recommend that the Secretary of  HHS ensure that the level of supplemental payments for which the state  could have obtained federal Medicaid funds in the absence of the  proposed demonstration is calculated using appropriate methods and  accurate data sources, and adjust the approved spending limit  appropriately.
section_title: Agency and State Comments and Our Evaluation
paragraphs: We provided a draft of this report for comment to HHS, Florida, and  Vermont. All three provided written comments which we summarize and  evaluate below. The full text of HHS’s comments is reprinted in appendix  II along with our response to certain comments. Florida’s and Vermont’s  comments are reprinted in appendixes III and IV, respectively. HHS and  each state also provided technical comments, which we incorporated as  appropriate.
subsections: section_title: HHS Comments and Our Evaluation
paragraphs: In commenting on a draft of this report, HHS strongly disagreed with our  findings, conclusions, and recommendation, stating that the draft report  mischaracterized the nature of the approved demonstration programs and  HHS’s budget neutrality policies. We based our characterizations of HHS  programs and policies on documentation obtained from HHS and states  and interviews with HHS and state officials; we believe we have captured  and reported them accurately. In its comments, HHS also said that our  analysis did not adequately account for the likelihood of differences in  professional interpretation in quantifiable analyses. HHS emphasized that  the demonstrations are approved at the discretion of the Secretary of HHS  and that the review of demonstration proposals includes both budgetary  and programmatic elements. We recognize that the Secretary has some  discretion in approving demonstrations and in establishing policies and  processes for doing so. But we believe that to maintain accountability and  transparency in the Medicaid program, of which section 1115  demonstrations are a major component, the Secretary has the  responsibility to approve demonstrations based on clearly articulated  policies and spending limits that are consistent with these policies. In  conducting our work and preparing the draft report, we accepted HHS’s  explanations for spending limit amounts that deviated from HHS’s  benchmarks when they were clearly articulated and documented. Our  draft report acknowledged these explanations in noting that some of the  deviations from the benchmarks were explained. We did not, however,  accept estimates when program officials could not clearly articulate the  reasoning they had used, demonstrate how this reasoning was consistent  with budget neutrality and fiscal integrity principles, and explain how the  resulting spending limits were derived.
section_title: HHS Comments Related to Past GAO Reviews on 1115 Demonstration and Fiscal Integrity Issues
paragraphs: HHS commented that we unnecessarily cite points from prior reviews  regarding section 1115 demonstrations. We cite our earlier work to  provide a broader perspective and context for our discussion about  individual states. We also use our prior work as a basis to highlight actions  that we have recommended that HHS take and that relate to problems we  identified in this review, but that HHS has not acted upon. We believe it is  an important part of our work to underscore recurring problems as well as  areas where HHS has made significant progress.
HHS also said that we had not given the agency sufficient credit for the  steps it has taken to ensure fiscal integrity within the Medicaid program,  stating that we overlooked and understated the progress HHS has made  since the early 1990s to curtail improper financing arrangements. HHS said  that the draft report inappropriately focused on our 2004 report that did  not address related issues and omitted mention of our other relevant  reports, including those that had recognized HHS’s efforts. The reports we  have cited were those that focused on areas relevant to the scope of this  work. We have acknowledged in earlier reports that the agency has taken  a number of steps in recent years to strengthen Medicaid’s financial  management, but in the particular areas of concern here—the  demonstration criteria, methods, and documentation for agreed-upon  spending limits—HHS has chosen not to make changes that would better  ensure accountability and transparency. In 2002 and 2004, we  recommended that HHS undertake these changes. Because it has not, we  now raise these as a matter for congressional consideration.
section_title: HHS Comments Related to the Application of Budget Neutrality Policy
paragraphs: HHS stated that there are multiple methods of establishing that a project is  budget neutral and that each agreement must be considered as part of a  larger picture, and suggested that we inappropriately characterized HHS’s  internal guideline as a “benchmark policy” and then criticized HHS for  making minor adjustments for real-world factors that could affect a state’s  spending. We presented the information on HHS’s policy in the draft  report as found in written HHS guidelines on its Web site in March 2007  and as told to us by HHS officials. As noted in the draft report, HHS’s  policy for reviewing and approving demonstration proposals and their  spending limits lacks transparency. HHS’s complete policy should be  clearly identifiable, in writing, and publicly available. Furthermore, we  disagree that adjustments that account for billions of dollars in federal  spending, without documentation and explanation, are of a minor nature.  Agreements that commit the federal government to reimbursing states  tens of billions of dollars should be documented and include explanations  of the basic reasoning behind the final spending limits, including the  adjustments to benchmarks that have been approved.
section_title: HHS’s Comments Related to Approvals of Florida and Vermont Demonstrations
paragraphs: HHS noted that one of its most significant concerns about the draft was  that it failed to acknowledge that HHS had capped Medicaid program  growth in Florida, which had averaged 13 percent in recent years. We  disagree. As noted in the draft report, HHS approved a per person  spending limit for Florida’s demonstration; however, there is no aggregate  cap on spending in Florida similar to that in Vermont, where HHS placed a  cap on total spending.
HHS also strongly disagreed with our recommendation that it recalculate  the Florida spending limit using appropriate methods and data sources  and adjust the spending limit accordingly. HHS indicated that Florida’s  data and methods for calculating payments for its supplemental payment  program were irrelevant to the development of the Florida demonstration.  We disagree that Florida’s calculations were not relevant to the Florida  demonstration, since Florida’s historical payments were used as a basis  for the low-income pool spending limit under the demonstration, and as a  result, the spending limit allows for continuation of spending that a HHS  review suggests should not have been allowed.
With regard to HHS’s approval of the Vermont demonstration, HHS  disagreed with our concerns and prior recommendation to reexamine the  terms of the demonstration and, where appropriate, to either modify its  terms or seek statutory authority for the demonstration to continue in its  current form. HHS maintained that issues of legal authority were  adequately and appropriately addressed in the information provided to us  during the course of our fieldwork. We disagree and note that HHS has not  addressed the concerns raised in our July 2007 letter.
HHS also commented that our concern regarding excessive  reimbursement for administrative expenditures for the public managed  care organization in Vermont was unwarranted because all demonstration  revenue must be spent for demonstration purposes and costs matched by  federal funds would be clearly identified. Our concern remains that the  broad scope of costs identified as for “demonstration purposes”—for  example, funding the state public health laboratory—can allow Vermont to  shift costs to the federal government that were previously funded by the  state and that do not exclusively benefit individuals eligible for Medicaid.
section_title: Comments from Florida and Vermont and Our Evaluation
paragraphs: We provided a draft of this report to Florida and Vermont. Florida stated  that during the negotiations over the demonstration waiver, state officials  worked closely with HHS to ensure that all data and documentation were  provided in a timely and accurate manner to support the waiver  application. Vermont indicated that the state had assumed an  unprecedented amount of risk related to program expenditures in  exchange for the flexibility granted by the Secretary and that state and  federal staff had engaged in extensive discussion and analysis of  Vermont’s historical expenditures, cost and caseload trends, and program  policies in arriving at the final budget neutrality spending limit. Vermont  also questioned our finding that HHS agreed to reimburse the state’s  administrative expenditures under the demonstration at a rate higher than  prior to the demonstration, indicating that an independent actuary relied  on Vermont’s historical administrative expenditures in developing this  component of the capitation rate.
We agree that the states provided data and documentation to HHS to show  the basis for their demonstration proposals. Our concern remains,  however, with the lack of sufficient documentation showing how the final  spending limits were derived, particularly since they were different from  the proposals and were based on assumptions about cost and enrollment  growth that were higher than HHS’s benchmarks. Finally, we base our  finding that HHS agreed to reimburse Vermont at a rate higher than what  the state received prior to its demonstration in part on our review of the  independent actuary’s report.
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If you or your staff members have any questions, please contact me at  (202) 512-7114 or kanofm@gao.gov. Contact points for our Offices of  Congressional Relations and Public Affairs may be found on the last page  of this report. Major contributors to this report are acknowledged in  appendix V.
section_title: Appendix I: Scope and Methodology
paragraphs: Section 1115 of the Social Security Act provides the Secretary of Health  and Human Services the authority to approve demonstration projects that  test policy innovations likely to further the objectives of certain programs,  including Medicaid. Under section 1115, the Secretary has authority to  waive provisions of the Social Security Act, allowing states to operate  demonstrations, and to provide federal Medicaid matching funds for  states’ costs that otherwise cannot be matched under federal law.
Section 1115 demonstrations vary in scope, from targeted demonstrations  limited to specific services or populations, to comprehensive  demonstrations affecting Medicaid populations and services throughout a  state and including most of a state’s Medicaid expenditures. For example,  a section 1115 demonstration in Virginia that the Department of Health  and Human Services (HHS) approved in July 2002 affects limited Medicaid  services—family planning services—for about 8,300 beneficiaries. A  section 1115 demonstration in New York that HHS approved in July 1997,  on the other hand, changes the delivery of a broad range of Medicaid  benefits for over 2.5 million beneficiaries from fee-for-service to managed  care.
Our review addressed the budget neutrality and fiscal integrity of recently  approved, comprehensive section 1115 demonstrations. We selected  demonstrations to include in this review based on when they were  approved and whether they were comprehensive and accounted for a  major portion of the state’s Medicaid program. Specifically, we selected  demonstrations based on the following:  1.  Approval by HHS from July 2004 (when we last reviewed HHS- approved section 1115 demonstrations) through December 2006.  2.  Meeting HHS’s definition of comprehensive, that is, those that affect a  broad range of services for Medicaid populations statewide.  3.  The demonstration accounted for greater than 50 percent of the state’s  Medicaid expenditures.
We used a two-step process to identify demonstrations that met our  criteria. First, to identify comprehensive section 1115 demonstrations  approved by HHS from July 2004 through December 2006, we reviewed a  Centers for Medicare & Medicaid Services (CMS) report that listed all  section 1115 demonstrations approved through February 2006 and  updated the list though discussions with agency officials. Four  comprehensive demonstrations met these criteria: the California Medi-Cal  Hospital Uninsured Care program; the Florida Medicaid Reform program;  the IowaCare program, and the Vermont Global Commitment to Health  program.
Second, to identify which of these four demonstrations met our third  criterion that expenditures under the demonstration account for a  majority of state Medicaid spending, we compared estimated first-year  spending under the demonstration to 2004 total Medicaid spending in each  state. First-year spending in two of the four states, California and Iowa,  was less than 5 percent of total 2004 Medicaid spending, so we did not  include these two states in our study. First-year demonstration spending in  Florida and Vermont was projected to account for 59.9 and 117.2 percent,  respectively, of 2004 Medicaid spending, so we included the  demonstrations in these two states for further review in our study.
To determine the extent to which the Secretary of HHS ensured that  Medicaid section 1115 demonstrations would be budget neutral to the  federal government prior to approving them, we reviewed HHS’s policies  for determining budget neutrality as documented on HHS’s Web site and in  information provided by HHS officials. We examined each state’s  projection of the total spending needed to maintain its existing Medicaid  program in the absence of the proposed demonstrations. Specifically, we  assessed the extent to which each state’s assumptions about per person  cost and beneficiary enrollment growth conform to HHS’s policy that these  growth rates are the lower of state-specific or nationwide benchmarks of  Medicaid growth. In instances where per person and beneficiary  enrollment growth rates exceeded the lower of these two benchmarks, we  asked HHS and state officials for explanations and documentation to  support the higher growth rates HHS approved. We also compared  spending limits for the demonstrations—based on the per person cost and  beneficiary enrollment growth rates HHS approved—against (1) our  estimates of demonstration spending limits had HHS required Florida and  Vermont to have spending limits consistent with benchmarks and (2) our  estimates of the spending limits had HHS held per person cost and  beneficiary enrollment growth in each state to levels we determined that  HHS and state officials had explained with quantified support. HHS’s  policy states that adjustments to benchmark growth rates should address  anomalies in the underlying data.
To determine the extent to which HHS ensured that the Florida and  Vermont demonstrations maintain the fiscal integrity of the Medicaid  federal-state financial partnership, we evaluated HHS’s process for  reviewing section 1115 demonstration proposals and reviewed related  financial management reports. We interviewed HHS officials from the  Center for Medicaid and State Operations that has direct oversight  responsibilities for these demonstrations, including officials from the  Division of Reimbursement and State Financing who reviewed funding of  the demonstrations in Florida and Vermont to ensure consistency and  compliance with federal requirements. We also interviewed state officials  to gain their understanding of the waiver authorities HHS granted each  state by approving its demonstration, as well as their understanding of the  special terms and conditions that govern each demonstration. We also  relied on the work conducted for an earlier study that reviewed the  consistency of the Florida and Vermont demonstrations with federal law.
Our findings concerning HHS’s approval of these two states’  demonstrations cannot be generalized to HHS’s approval of other states’  demonstrations. We used the selection criteria discussed above for  purposes of assessing HHS’s process as it was applied in these particular  cases of importance. We considered these cases to be important because  they allowed significant changes in the states’ Medicaid programs and the  majority of the states’ Medicaid spending was governed by the terms of the  demonstrations.
To assess the reliability of the data submitted by states to HHS to calculate  historical state spending and enrollment growth rates, we reviewed the  steps HHS takes to ensure the accuracy of spending data compiled in  states’ automated Medicaid information systems. We obtained the data  states’ submitted to HHS and reviewed them for anomalies and missing  information. We also interviewed HHS and state officials knowledgeable  about the data. We discussed limitations of the automated Medicaid data,  such as potentially incomplete data and states’ ability to revise data for up  to 2 years, with HHS officials. Because the data used to establish spending  limits were for a time frame for which the states’ data should have been  largely completed and finalized, we concluded that states’ Medicaid  spending and enrollment data are sufficiently reliable for the purposes of  this report.
We conducted our work from June 2006 through January 2008 in  accordance with generally accepted government auditing standards.
section_title: Appendix II: Comments from the Department of Health and Human Services
paragraphs: The following are GAO’s comments to certain concerns raised in HHS’s  letter dated December 21, 2007.
subsections: section_title: GAO Comments
paragraphs: 1.  We refer to our 2004 report because of the significant role  supplemental payments play in Florida’s demonstration and our  concern that HHS did not require the state to correct known problems  with these supplemental payments before establishing a spending limit  on the basis of historical payments. HHS stated that we did not address  financing arrangements in our 2004 report, but we disagree. An  objective of the 2004 report was to determine if HHS’s continuing  oversight of supplemental payment arrangements was sufficient to  ensure that claims submitted by states were calculated appropriately  and complied with Medicaid requirements. Although we noted that  HHS had taken a number of steps to strengthen its oversight of these  payment arrangements, we found that HHS had not issued guidance  for states’ use on appropriate methods for calculating their Medicaid  Upper Payment Limit (UPL). We recommended that HHS establish  uniform guidance that would set forth to states acceptable methods for  calculating the UPL. Our concern in this report is that HHS approved a  spending limit for Florida’s low income pool based on the state’s UPL  without first requiring Florida to address problems HHS identified in  Florida’s methodology for calculating this UPL.
We disagree that the draft of this report erroneously suggested that  Medicaid payment limits necessarily result in proper sources of state  financing. As noted in the draft, we are concerned that HHS approved a  spending limit for the low-income pool based on potentially inflated  historical payments. Our draft report credited HHS for requiring  Florida to correct the issue the department had identified with the  source of the state’s financing.  2.  We disagree with HHS’s characterization of the findings from our 2006  and 2007 reports. Although our 2006 and 2007 reports addressed HHS  oversight of Medicaid and discussed agency actions to strengthen  oversight, certain of the findings of these earlier reports resonate with  our current findings. In 2007, for example, we found HHS review and  approval of state plan amendments to be marked by a lack of  transparency and clear guidance. And in 2006, although we noted  recent improvements in the financial management processes HHS uses  in its oversight of states, we found it too soon to assess their impact,  and further noted additional weaknesses that HHS had not addressed.  3.  As discussed in the draft report, we are concerned that HHS allowed  Vermont to seek reimbursement for administrative costs higher than  that of other public health entities, and that HHS agreed to reimburse  Vermont for a larger portion of these administrative costs than  typically afforded other states. We disagree that HHS transparently  identified costs for which federal reimbursement of excess revenues  from the public managed care organization are available. As noted in  the report, the purposes for which Vermont may spend these excess  revenues are governed only by a set of broad health objectives. For  example, HHS allowed Vermont to spend excess revenues on  expenditures that increase access to quality health care for Medicaid  enrollees and those lacking adequate insurance and that improve  health outcomes and quality of life for Medicaid-eligible individuals.  4.  Our draft report recognized HHS’s discretion in making adjustments in  the spending limits. For example, we accepted a projected $2.1 billion  in adjustments to the spending limits for Florida and Vermont because  these adjustments were supported by quantified explanations. As  noted in the draft, seemingly small changes to per person cost growth  rates are amplified by the high volume of beneficiaries that access  Medicaid services and the number of years across which these cost  growth rates are applied. As noted in the draft, the seemingly small  changes to the growth rates in Florida and Vermont resulted in nearly  $7.2 billion that we identified as not budget neutral.  5.  As noted in the draft report, the established agreement did limit how  Medicaid spending in Florida could grow in the future. Our concern,  however, is that these spending limits are not budget neutral.  Furthermore, we disagree with HHS’s assertion that Florida’s spending  limits reflect projected future growth in the absence of the  demonstration. For example, over $5.5 billion in projected spending  we identified as not budget neutral stems from an adjustment to reflect  in part what the state projected would be higher anticipated costs of  delivering Medicaid services in a managed care environment. These  costs would not be incurred absent the demonstration, and as noted in  the draft report, absent evidence supporting the approved changes to  benchmark amounts, HHS should not have allowed them as a  consideration in establishing a higher spending limit for the  demonstration.
We also disagree that HHS capped Medicaid program growth in  Florida. The agency approved per person spending limits rather than a  total limit on programmatic spending. Thus Medicaid spending in  Florida may grow by more or less than 13 percent per year depending  on enrollment in the program.  6.  We believe the spending limit HHS approved for Florida’s low-income  pool was problematic because HHS did not require Florida to correct  known deficiencies in the state’s method for calculating historical  supplemental payments that served as the basis for the spending limit.  We did not estimate how the low-income pool should have been  adjusted because HHS’s September 2005 review—which identified the  problems with Florida’s calculation of its financing arrangement—did  not estimate the actual allowable payments under the program or the  extent that the prior supplemental payment arrangement was  considered excessive or inflated. Consequently, we did not have the  information available to us that would allow a detailed estimate of how  the low-income pool spending limit should be adjusted. We believe  that the concerns raised by HHS’s own review should have been  addressed prior to establishing a spending limit based on historical  spending. As noted in the draft report, HHS should ensure that the  level of supplemental payments for which Florida could have obtained  federal Medicaid funds in the absence of the demonstration is  calculated accurately, and adjust the approved spending limit  accordingly.  7.  By not requiring Florida to correct known deficiencies in the state’s  historical spending, we believe HHS did not ensure the fiscal integrity  of Florida’s low-income pool. In the draft report we credited HHS for  requiring Florida to correct a problem the department identified with  the manner in which Florida used local financing as the nonfederal  share of its supplemental payments. Our concern remains, however,  that HHS did not require Florida to correct a separate problem the  department identified in the methods and data by which the state  calculated the amount of supplemental payments eligible for federal  matching funds under its program. By not requiring Florida to correct  its method and data sources as a condition of approving the  demonstration, HHS approved a spending limit for the low-income  pool based on potentially inflated historical spending.  8.  We believe that we accurately characterized Florida’s low-income pool  in this report. We agree that Florida discontinued its inpatient  supplemental payment UPL program as a condition of the  demonstration, and have clarified the language to indicate that HHS  allowed Florida to develop the low-income pool in order to continue  funding for a program of supplemental payments to providers.  9.  HHS’s estimation of the maximum amount Florida could have spent  under its UPL is irrelevant to the discussion of the appropriate  spending limit for the low-income pool. As we stated in the draft  report, consistent with HHS policy, spending limits should be based on  actual historical spending and quantified explanations for trend  anomalies. We believe that, in the absence of reliable historical data,  spending limits should be based on transparent, clearly articulated  methodologies. Our concern is that HHS allowed Florida to base this  spending limit on potentially inflated historical payments as a result of  the state’s flawed methodology for calculating its UPL.  10. HHS’s efforts to limit and document Florida’s Medicaid state plan  spending and low-income pool spending under the demonstration do  not speak to the extent to which HHS ensured the fiscal integrity and  budget neutrality of the state’s proposed demonstration prior to  approving it. We are concerned that HHS approved growth rates for  the demonstration without adequate support and did not require  Florida to correct problems the department identified in the state’s  methodology for calculating its UPL.  11. To ensure that the spending limit on Florida’s low-income pool is  budget neutral and based on allowable historical spending, we believe  that HHS should require Florida to correct problems the agency  identified in Florida’s methodology for calculating its UPL and adjust  the spending limit for future payments made under the low-income  pool accordingly. We are not suggesting a retroactive adjustment to the  spending under the supplemental payment program. This  recommendation is consistent with our long-standing conclusions that  spending limits for proposed demonstrations should be based on valid  methods.  12. We characterize accumulated savings from an expired demonstration  in Vermont as hypothetical because they do not represent actual  expenditures incurred during the historical period HHS reviewed in  approving a new demonstration in Vermont. We do not object to  consideration of actual expenditures from a predecessor  demonstration in determining a spending limit for a new  demonstration. But according to HHS’s written budget neutrality  guidance, surpluses generated early in the life of the expired  demonstration would not have been available to Vermont in the  absence of a new demonstration.  13. During the course of our review of the Vermont demonstration, we  considered the statutory provisions cited by HHS, and nonetheless, as  indicated in the July 2007 letter, had concerns about the consistency  of the Vermont demonstration with federal law.  14. Our discussion and use of enrollment growth benchmarks reflect  HHS’s description of its policy, as written in guidance and as described  by officials. During the course of our work, HHS officials told us that  they considered benchmarks of enrollment growth in determining an  aggregate spending limit for the Vermont demonstration. Yet HHS  approved enrollment growth rates for the demonstration equal to, and  in some cases exceeding, the highest rates HHS considered. Our main  concern is that HHS’s basis for approving these enrollment growth  rates was not well documented. We believe that to maintain  accountability and transparency in the Medicaid program, the  Secretary’s approvals should be based on clearly articulated policies  and spending limits that are consistent with these policies.
section_title: Appendix III: Comments from the State of Florida
section_title: Appendix IV: Comments from the State of Vermont
section_title: Appendix V: GAO Contact and Staff Acknowledgments
subsections: section_title: Acknowledgments
paragraphs: In addition to the contact named above, Katherine M. Iritani,   Assistant Director; Kathryn Allen; Ted Burik; Tim Bushfield;   Helen Desaulniers; Tom Moscovitch; Hemi Tewarson; Terry Saiki;   Stan Stenersen; and Jennifer Whitworth made key contributions to this  report.
section_title: Related GAO Products
paragraphs: Medicaid Demonstration Waivers: Lack of Opportunity for Public Input  during Federal Approval Process Still a Concern. GAO-07-694R.  Washington, D.C.: July 24, 2007.
Medicaid Demonstration Projects in Florida and Vermont Approved  Under Section 1115 of the Social Security Act. B-309734. Washington,  D.C.: July 24, 2007.
High-Risk Series: An Update. GAO-07-310. Washington, D.C.: January  2007.
Medicaid Financial Management: Steps Taken to Improve Federal  Oversight but Other Actions Needed to Sustain Efforts. GAO-06-705.  Washington, D.C.: June 22, 2006.
Medicaid: States’ Efforts to Maximize Federal Reimbursements  Highlight Need for Improved Federal Oversight. GAO-05-836T.  Washington, D.C.: June 28, 2005.
Medicaid Waivers: HHS Approvals of Pharmacy Plus Demonstrations  Continue to Raise Cost and Oversight Concerns. GAO-04-480.  Washington, D.C.: June 30, 2004.
Medicaid: Improved Federal Oversight of State Financing Schemes Is  Needed. GAO-04-228. Washington, D.C.: February 13, 2004.
SCHIP: HHS Continues to Approve Waivers That Are Inconsistent with  Program Goals. GAO-04-166R. Washington, D.C.: January 5, 2004.
Medicaid and SCHIP: Recent HHS Approvals of Demonstration Waiver  Projects Raise Concerns. GAO-02-817. Washington, D.C.: July 12, 2002.
Medicare and Medicaid: Implementing State Demonstrations for Dual  Eligibles Has Proven Challenging. GAO/HEHS-00-94. Washington, D.C.:  August 18, 2000.
Medicaid Section 1115 Waivers: Flexible Approach to Approving  Demonstrations Could Increase Federal Costs. GAO/HEHS-96-44.  Washington, D.C.: November 8, 1995.
Medicaid: Statewide Section 1115 Demonstrations’ Impact on  Eligibility, Service Delivery, and Program Cost. GAO/T-HEHS-95-182.  Washington, D.C.: June 21, 1995.