Within broad federal requirements, each state administers and operates its Medicaid program in accordance with a Medicaid state plan, which must be approved by CMS. A state plan describes the groups of individuals to be covered; the methods for calculating payments to providers, including which types of providers are eligible to receive payments; and the categories of services covered. Federal law identifies broad categories of services that states must cover, such as inpatient hospital services, nursing facility services, and physician services, and also many categories of services that states can cover at their own option, such as home- and community-based long-term care services, physical therapy, or optometry. Any changes a state wishes to make in its Medicaid plan, such as establishing new Medicaid payments (including supplemental payments) to providers or changing methodologies for payment rates for services, must be submitted to CMS for review and approval as a state plan amendment. In reviewing state plan amendments to ensure that state provisions are consistent with federal Medicaid requirements, CMS reviews and approves payment methodologies and does not review actual payments for individual providers. CMS communicates Medicaid program requirements to states through federal regulations, a published State Medicaid Manual, standard letters issued to all state Medicaid directors, and technical guidance on particular topics. Under federal Medicaid requirements, federal Medicaid matching funds are available for state payments made for Medicaid-covered services provided to Medicaid beneficiaries. While payments are not limited to the costs of providing services, payments made to a provider under a state plan must be economical and efficient and within the Medicaid UPL, which is the ceiling on the amount of federal matching funds a state can claim for certain services. The UPL is based on an estimate of what Medicare would have paid for comparable services. Because states’ regular Medicaid payments are often lower than what Medicare would pay for similar services, states are able to make UPL supplemental payments, and the federal government shares in the payments to the maximum amount allowed under the UPL (see figure 1). The UPL is not a provider-specific limit but instead is applied on an aggregate basis for certain provider ownership types and categories of services. Each state must calculate a separate UPL for each combination of provider ownership type and category of service to determine the maximum amount of UPL payments that it can make for each ownership-service type combination. States may establish multiple UPL supplemental payment programs and hospitals may receive UPL supplemental payments from more than one of these programs. Approval to make new payments and apply other eligibility criteria is obtained through the state plan amendment process, which requires CMS review and approval. CMS’s review and approval role does not extend to reviewing the specific manner in which states distribute payments, including which individual providers receive payments, the amount of the payments, or how providers spend the payments they receive. Under the flexibility of the Medicaid UPL, some states have targeted UPL supplemental payments to a small number of hospitals within a particular category. For example, in 2012, we reported that a large share of UPL supplemental payments were concentrated on a small number of hospitals and in many cases resulted in Medicaid surpluses. We concluded that payments that greatly exceeded Medicaid costs raised questions about the purpose of the payments, including how they related to Medicaid services and if they are economical and efficient. In 2015, we reported that CMS lacked a policy and process to determine if payments to individual providers are economical and efficient, and we recommended that CMS develop criteria to assess payments to individual providers and develop a process to identify and review them. HHS agreed and reported that the agency is taking action to respond to our recommendation. States may also administer parts of their Medicaid programs under the authority of section 1115 of the Social Security Act, which authorizes the Secretary to waive certain federal Medicaid requirements and allow costs that would not otherwise be eligible for federal matching funds for experimental, pilot, or demonstration projects that, in the Secretary’s judgment, are likely to assist in promoting Medicaid objectives. In recent years an increasing number of states have received permission from HHS to make supplemental payments under Medicaid demonstrations. Supplemental payments under a Medicaid demonstration are made according to the terms and conditions approved by HHS for the demonstration and may include reporting or other requirements that do not apply to UPL supplemental payments authorized under the Medicaid state plan. States and the federal government share in the financing of Medicaid payments according to a formula established in law. States finance the nonfederal share of their Medicaid programs primarily with state funds, particularly state general funds appropriated to the state Medicaid agency. Within certain limits, however, states may also use other sources of funds—including funds from local government providers, such as county-owned or county-operated hospitals, or from local governments on behalf of government providers. For example, local government providers and local governments can provide Medicaid funding to the state via fund transfers, known as intergovernmental transfers. Federal law allows states to finance up to 60 percent of the nonfederal share from local government funds. This limit is applied in the aggregate—that is, across each state’s entire Medicaid program—and not for individual payments or categories of service. Under federal law, states cannot lower the amount, duration, scope, or quality of Medicaid services provided due to a lack of funds from local sources. We recently reported that states have increasingly relied on local governments to fund the nonfederal share of state Medicaid payments, particularly for supplemental payments. Selected hospitals that received large UPL supplemental payments under state plans in three of four selected states did not account specifically for the use of revenue from these payments in their financial systems, as they were not required to do so. But hospital officials described various uses of the revenue, such as defraying the costs of treating the uninsured and the costs of capital purchases. Selected hospitals that received large Medicaid payments in two of four selected states were required to track spending and allowed to use payments for purposes such as uninsured costs. Officials from all nine of our selected hospitals that received large UPL supplemental payments under state plans in three of the four states in our review reported that they did not track how they used the excess revenue from the UPL payments they received, nor were they required to do so. These surpluses reflect the amount that total Medicaid payments, which include regular Medicaid and supplemental payments, exceeded Medicaid costs and were significant for the selected hospitals. For example, in 2009, the Medicaid surpluses for the nine hospitals ranged from $400,000 to more than $77 million, with average Medicaid surpluses of about $39 million. Although supplemental payments to these hospitals amounted to tens or hundreds of millions annually and are generally paid on a lump sum, quarterly, or annual basis, officials told us that their financial systems do not separately identify the supplemental payment revenues or track the costs to which supplemental payments are applied. Rather, these officials said the UPL supplemental payments are treated as revenue along with other payments the hospital receives, and revenues are not segregated for specific purposes. Although hospitals did not track the UPL supplemental payment revenues, hospital officials were able to describe some of the general purposes for which the revenues, including the Medicaid surpluses resulting from the large payments, were used. Hospital officials described purposes such as defraying the costs of treating uninsured patients, contributing to specific capital purchases, and making general improvements to community access to care and services. Officials from several hospitals described more than one purpose for which the UPL supplemental payments and resulting Medicaid surpluses were used. (See table 1.) Hospital officials from seven of nine selected hospitals in these three states said they used the revenues from the large UPL supplemental payments they received in part to cover the costs of providing services to uninsured patients. Federal Medicaid law explicitly authorizes one type of Medicaid supplemental payment—Medicaid DSH supplemental payments—for which states can claim federal matching funds for the costs of treating uninsured patients. The amount of federal funding each state may claim for DSH supplemental payments is limited by federal law, as each state is subject to a federal DSH allotment that establishes the maximum federal funding available for DSH payments. These limits, however, do not restrict hospitals from using available revenues to cover the costs of providing services to uninsured patients. While officials with the seven hospitals were unable to specify how much of their UPL supplemental payments, including their Medicaid surpluses, were used to cover the costs of uninsured patients, the amount of federal funds above the states’ federal DSH allotments that were available to the hospitals for spending on the uninsured could be significant. For example, for New Mexico, Oklahoma, and Texas, statewide Medicaid surpluses due to UPL supplemental payments exceeded $400 million in federal funds in 2009, which is significant compared to these states’ DSH allotments of just over $1 billion in the same year. In New Mexico and Oklahoma, the federal share of Medicaid surpluses due to UPL payments actually exceeded the states’ federal DSH allotments. (See table 2.) Several hospital officials described other uses of revenues from UPL supplemental payments, including funding general hospital operations and maintenance; capital projects, such as new facilities; and equipment purchases, such as new imaging equipment. Although hospital officials were able to describe multiple purposes for which they used revenues from Medicaid surpluses resulting from large UPL supplemental payments, they were unable to specify how much was used for each purpose they described. Examples of specific expenses cited by hospital officials include the following: A New Mexico hospital official described a variety of capital expenses for which revenues from UPL payments, in part, were used. Examples included constructing new medical office buildings, constructing a new cancer treatment center, opening a new health clinic, purchasing a new CT scanner, purchasing a new X-ray imaging system, and purchasing a new helicopter to transport patients. Although hospital officials could not estimate how much of the Medicaid surplus was devoted to capital investment, the surplus was significant compared to the amount of its capital investments. For example, in 2009 this hospital had a Medicaid surplus of about $16 million. The budget for its capital investments totaled $24.6 million that year. The hospital reported an overall profit exceeding $5 million each in 2009 and 2012. Officials with a Texas hospital described the establishment of new outpatient clinics for both primary care and some specialty services, extension of clinic hours, and capital expenses as the types of services and projects that it would not have been able to provide or complete without the supplemental payments it received. Although hospital officials could not estimate how much of the Medicaid surplus was devoted to capital investment, the surplus was significant compared to its capital investments. For example, in 2009, this hospital had a Medicaid surplus of nearly $78 million. That same year the hospital spent $100 million for construction of a new patient tower that included new operating rooms, emergency rooms, examination rooms, isolation rooms, three floors of patient rooms, administration offices, and waiting rooms. Under Medicaid demonstrations, states were approved to make Medicaid supplemental payments to hospitals for costs and activities not otherwise covered under Medicaid to promote Medicaid objectives, and hospitals were required to track how they used these payments. Specifically, the two states in our review that operated under demonstrations, Florida and Texas, were authorized to make new types of supplemental payments to hospitals for hospitals’ uncompensated care costs associated with Medicaid-enrolled and uninsured patients, and Texas was also authorized to make incentive payments for broadly targeted improvements to hospitals’ health care delivery systems. Florida began its Medicaid demonstration in fiscal year 2006 and Texas began its demonstration in fiscal year 2012. When the states began making demonstration supplemental payments to hospitals, they ended the hospitals’ UPL supplemental payments, although they continued to make DSH payments. Hospitals in both states receiving demonstration supplemental payments for uncompensated care costs were subject to certain payment limits and reporting requirements, and overall spending approved for uncompensated care costs was higher than the federal limits would have been without the demonstration. In addition, the terms of the demonstrations allowed the states to include costs not otherwise eligible for Medicaid reimbursement under the demonstration. The terms and conditions of the demonstrations established a facility-specific limit on hospital payments. In particular, hospitals could not receive more in payments than their actual uncompensated care costs, including new costs allowed under the demonstration. The Texas demonstration allowed hospitals to include uncompensated care costs beyond those that the state could have covered without the demonstration, including uncompensated costs for physician services, clinic services, and prescription drugs. Further, the Florida demonstration allowed hospitals to include uncompensated care costs for underinsured individuals with private insurance as well as for the cost of operating poison control centers, costs that the state could not have covered without the demonstration. Hospitals were required to report their estimated Medicaid and uninsured costs and payments to the state, using an approved methodology, as a condition of receiving payment, so that the amount of uncompensated care costs could be determined. Hospitals are subject to a verification of actual costs and payments when final data for the year become available, and any payments above costs are required to be returned to the state. The federal spending levels approved by HHS under demonstrations in Florida and Texas for 2012 allowed additional uncompensated care spending that was more than double the amount of each state’s DSH allotment—the statutory limit on the amount of federal funds a state may receive for hospital uncompensated care that would have applied had the demonstration not been approved. Hospitals in Texas receiving incentive payments for health care delivery system improvements under that state’s Medicaid demonstration were required to develop an implementation plan and report their progress in meeting designated milestones. To receive the incentive payments, referred to as Delivery System Reform Incentive Payments (Incentive Payments), participating hospitals must develop a plan, subject to CMS and state approval, that identifies the specific projects that they plan to implement, from a menu of options, along with data-driven milestones that hospitals must reach in order to receive full payment. Incentive payments could be made for various projects, such as improving care for patients with certain conditions or increasing delivery system capacity. The terms and conditions of the demonstration included specific reporting requirements to track incentive payments—for example, reports to CMS that include both hospital-specific incentive payment amounts and summary information about the delivery system improvements the payments incentivized. A March 2015 report conducted for the Medicaid and CHIP Payment and Access Commission found that: comprehensive data was lacking to evaluate the outcomes from state spending on incentive payments, states have pursued incentive payment programs to preserve the federal matching funds from their UPL supplemental payment programs, and supplemental payment spending under demonstrations on incentive payments has exceeded prior levels of spending on UPL supplemental payments in some states. The bulk of supplemental payments in three of four selected states we reviewed were distributed to hospitals based on the availability of funding from hospital or local government contributions toward the nonfederal share of the payments, rather than the volume of services each hospital provided. We also identified instances in which actual payments to providers were contingent on the availability of such funding. However, CMS has not issued written guidance to articulate and broadly communicate its policy regarding the appropriate basis for states’ distribution of supplemental payments or regarding the practice of making payments contingent on the availability of local financing. Our review of state documentation shows that in three of four selected states—New Mexico, Texas, and Florida—the bulk of the supplemental payments to hospitals were made contingent on these hospitals or the relevant local governments providing funds to finance the nonfederal share of the payments the hospitals received, rather than Medicaid services they provided. Each of these states had multiple supplemental payment programs—that is, separate payments for different ownership types and categories of service—and the rules regarding which hospitals would receive payments and the amounts of the payments were established through a combination of Medicaid state plan provisions, state administrative code provisions, other state requirements, or, in the case of states operating under Medicaid demonstrations, through the funding protocols approved for the demonstration. Specifically: In New Mexico, the amount of a hospital’s UPL supplemental payment from two of the five supplemental payment programs in the state was determined by the amount of local government funds provided to finance the nonfederal share. The New Mexico state plan established that, to be eligible for the payments, hospitals must provide a “valid request” to the state Medicaid agency. To be valid, this request had to include a letter from the local government authority indicating its level of financial support, up to a maximum limit, which determined the amount of each hospital’s supplemental payment. The state plan section for New Mexico’s largest supplemental payment program stated that if the hospital does not submit a valid request, then the hospital is not eligible for a supplemental payment even if the hospital was otherwise eligible. In 2009, a total of about $207 million of the state’s supplemental payments was distributed based on the availability of local funding, and, in 2012, $233 million in supplemental payments was distributed based on these requirements. In contrast, the state distributed about $39 and $38 million in supplemental payments in 2009 and 2012 through three other supplemental payment programs for which the nonfederal share was funded by state revenue, according to state officials. These payment programs distributed payments based on measures related to the purpose of the payments, such as the number of medical residents. In Texas, the state’s administrative code specified that payments from the state’s three largest UPL supplemental payment programs in 2009 were to be distributed based on the amount of local funding provided. Specifically, the Texas Administrative Code specified that for these supplemental payments the nonfederal share of the payments will be obtained through intergovernmental transfer of public funds and the amount of the payment to the hospital will be calculated in proportion to the amount of the funds transferred by the hospital to the state. In 2009, about $2.3 billion in supplemental payments was distributed under these three programs. The remaining $100 million in supplemental payments that year was distributed through two smaller, state-funded supplemental payment programs based in part on each hospital’s level of Medicaid services provided. In 2012, Texas made two types of supplemental payments under a Medicaid demonstration—uncompensated care payments and incentive payments for health care delivery system improvements—and the terms and conditions of the demonstration established that the nonfederal share for both types of payments would be financed by funds from local government hospitals or local governments, such as counties or hospital districts. The terms established that hospitals receiving payments for uncompensated care costs or incentive payments must be part of an organization called a Regional Healthcare Partnership, which is led by a public hospital or a local governmental entity that provides local funding of the nonfederal share. The local government hospitals or entities were required to submit a plan showing how much funding they could provide, with payment amounts determined by the amount of funds contributed for the nonfederal share. In Florida, for most hospitals receiving supplemental payments under its demonstration in 2009 and 2012, supplemental payments were largely distributed based on the availability of funding for the nonfederal share from the local government hospitals or local governments on their behalf. The terms and conditions of the state’s Medicaid demonstration established that local government funding was an allowed source of funds for the nonfederal share of the supplemental payments but did not specify how hospitals’ payment amounts would be determined. Florida created a complex funding relationship between large public hospitals that funded the entire nonfederal portion of estimated payments (for all hospitals, including those that are not required to fund the nonfederal share) and other hospitals that might receive payments, according to state officials. Based on 2012 payment data provided by the state, we found that hospitals that provided intergovernmental transfers of funds for their nonfederal share received significantly more, on average, in total payments than hospitals that were not required to finance the payments. The hospitals providing intergovernmental transfers of funds received supplemental payments equal to the nonfederal share plus a small percentage of the federal share. The state used the remaining portion of the federal share to fund the nonfederal share of demonstration supplemental payments for other hospitals—usually smaller, private, or rural hospitals, according to state officials. These other payments were distributed to the hospitals based on factors other than the availability of local funding, such as Medicaid patient volume. In 2009, a total of about $712 million of the state’s supplemental payments was distributed based on the availability of local funding, and, in 2012, $823 million in supplemental payments was distributed based on these requirements. In contrast, the state distributed about $140 million and $96 million in supplemental payments in 2009 and 2012, respectively, to hospitals that were not required to provide the nonfederal share of the payments. In contrast to these three states, the fourth state we reviewed, Oklahoma, did not base hospital payment amounts on the availability of local government funds to finance the nonfederal share, according to state officials. The state had multiple supplemental payment programs in which payments were based on hospitals’ Medicaid workload or other factors. According to state officials, state general funds were used to finance the nonfederal share for all but one of the state’s supplemental payment programs. For the remaining supplemental payment program, the nonfederal share was financed by revenue from a hospital provider tax, and each hospital’s supplemental payment was based on its relative Medicaid workload. In the three states that based supplemental payments on the availability of local funds—Florida, New Mexico, and Texas—we found that over 90 percent of the total amount of supplemental payments in 2009 and 2012 was made based on the availability of local funds to finance the nonfederal share. Specifically, based on our review of state documents governing the distribution of supplemental payments, we found that in 2009, over $3.2 billion, or 92 percent of the total $3.5 billion in supplemental payments the three states made that year, was based on the contribution of local funds; in 2012, $4.9 billion, or 97 percent of the total $5.0 billion in supplemental payments, was based on the contribution of local funds. The amount and proportion of supplemental payments made by states that were distributed to hospitals based on the availability of local funds varied among the three states, although in each state the large majority of payments was distributed in this manner. (See table 3.) Distributing payments only to hospitals that are capable of financing the nonfederal share of the payment can result in payments that are not made to otherwise eligible hospitals that lack the ability to finance the expected nonfederal share of the payment, or to obtain local government support for such financing. Because most of the supplemental payments to hospitals in the three states were made to hospitals only if there was local funding to support the nonfederal share of the payment, some hospitals that would otherwise have been eligible for the payments did not receive them. We found examples in New Mexico and Texas of hospitals that did not receive a payment, or received a smaller payment, because the hospital or local government did not provide an intergovernmental transfer of funds, or provided a smaller contribution to the nonfederal share than expected. For example, several hospitals in New Mexico received no UPL supplemental payment, or smaller supplemental payments than usual, from the state in 2012 because of the inability of certain local counties to provide the nonfederal share. In Texas, there have been several hospitals each year that did not receive a payment, or received a partial payment, due to their lack of local funds to provide a contribution to the nonfederal share, according to Texas Medicaid officials. In 2009, when Texas was still making UPL supplemental payments to rural hospitals, there were 18 rural hospitals that were otherwise eligible for the payments but that did not receive a payment because, according to state officials, local funding was not provided for the nonfederal share. In 2012, after Texas converted its supplemental payments to a demonstration, there were 7 hospitals for which the state did not make a demonstration supplemental payment for uncompensated care because, according to state officials, these hospitals did not provide local funding for the nonfederal share. This method of distributing payments may also result in payments that are not necessarily aligned with the level of hospitals’ low-income patient workloads, as measured by their hospitals’ patient volume or costs associated with serving low-income or uninsured individuals. In the case of demonstration supplemental payments for hospitals’ Medicaid and uninsured uncompensated care costs, some hospitals with large uncompensated costs associated with serving the Medicaid and low- income population received relatively little in demonstration supplemental payments for uncompensated care. Other hospitals with relatively low uncompensated care costs received large supplemental payments relative to those costs. Still others received uncompensated care payments under the Medicaid demonstration even though they had no uncompensated care costs before receiving the payment. For example: In 2012, one hospital in Florida had about $352 million in uncompensated care costs and received $384 million in demonstration supplemental payments for those costs, for which local funding of the nonfederal share was provided on the hospital’s behalf, in addition to $77 million in DSH payments. In contrast, another hospital with about $121 million in uncompensated care costs—which was the fourth-highest amount of uncompensated care costs among hospitals that year—had no local funding provided on its behalf and received no such payments. In 2012, among Texas hospitals that had uncompensated Medicaid and uninsured costs and were eligible to receive a demonstration supplemental payment for uncompensated care, the extent to which the hospitals’ uncompensated care costs were covered by the payments varied widely based on the availability of local funding, from 0 percent for the 7 hospitals that were otherwise eligible but did not receive a payment, to more than 100 percent for 44 other hospitals, based on data provided by the state. CMS guidance regarding the basis on which states can distribute both demonstration and UPL supplemental payments is lacking. CMS has not issued written guidance articulating its policy regarding appropriate bases for making such payments to ensure they are linked to Medicaid purposes. While CMS has recently acted to curtail one state’s demonstration supplemental payments because the state based the payments on the availability of local financing, it has not taken steps to clarify and broadly communicate to all states guidance regarding appropriate payment distribution methodologies. Specifically, in April of 2015, CMS sent a letter to Florida raising concerns about the state’s demonstration supplemental payments, including concerns that the state’s supplemental payments were being distributed based on access to local government funds and not distributed based on services provided to Medicaid patients. In a May 2015 letter, CMS stated that it will work with the state to develop a distribution methodology for demonstration supplemental payments that more closely aligns with providers’ roles in serving the Medicaid population and in providing other uncompensated care authorized under the demonstration. Florida officials told us that CMS officials worked closely with the state to develop a distribution methodology that ensured the payments were not contingent on local financing and were made only for covered demonstration services, including raising regular payment rates for all hospitals and reducing the size of the supplemental payments that were targeted to those hospitals financing the nonfederal share. According to CMS officials, the May 2015 letter represents a developing national policy regarding demonstration supplemental payments—that is, that they should be based on the provision of services to Medicaid and uninsured individuals rather than on the availability of local funding. CMS stated that it had contacted affected states with demonstrations that include supplemental payments for uncompensated care to articulate the policy principles the agency would use when reviewing the states’ demonstrations for potential renewal. CMS also said it articulated the types of independently conducted impact analyses and information that a state would need to provide, as part of any request to renew the demonstration, in order for CMS to assess the role supplemental payments had in promoting Medicaid objectives. Apart from communicating directly with these states, CMS’s communication of its policy at a national level has consisted of posting the Florida letter on its website. CMS officials have not said whether they plan to issue guidance more broadly that would provide clarity around its policy and how it is applied for all states, including states that may be contemplating seeking demonstration authority for similar arrangements. For UPL supplemental payments made under state Medicaid plans rather than demonstrations, CMS officials also told us that the agency has not issued guidance on how states should distribute these payments. Although CMS has not issued guidance to the states, CMS officials told us that, when approving state plan provisions, they expect states to include a Medicaid metric, such as Medicaid volume, in their supplemental payment distribution methodology. CMS officials told us the agency plans to issue a proposed rule later in the spring of 2016 to specify appropriate methodologies for state distribution of UPL supplemental payments to ensure the payments are consistent with economy and efficiency. Because the proposed rule was under development as of December 2015, details regarding the payment distribution methodologies that will be articulated in the rule were not available at the time of our review. CMS also lacks guidance regarding how states demonstrate that supplemental payments are not contingent on the availability of local financing. CMS officials told us that the agency interprets federal law and regulation as prohibiting states from making payments contingent on the availability of local funding. In particular, federal law requires a state plan to provide assurances that a lack of funds from local sources to finance the nonfederal share will not result in lowering the amount, duration, scope, or quality of Medicaid services provided under the plan in any part of the state. Officials told us that in reviewing state plan amendments, they require states to remove language that would make providers’ receipt of a payment contingent on local funding of the nonfederal share. However, as shown by our review, there are instances in which supplemental payments to providers under state plans are being made contingent on the availability of local financing, suggesting that states lack a common understanding of CMS’s interpretation of the law as prohibiting this practice. According to CMS officials, the agency has not issued written guidance articulating to states that payments should not be contingent on the availability of local funds. Officials said the agency instead instructs states to remove contingent financing language from their state plans. CMS officials stated that they would expect providers to alert them if payments are not sufficient to ensure access and providers have generally not done so. The absence of written guidance to states is inconsistent with federal standards for internal control. Specifically, federal information and communications standards state that for an entity to run and control its operations, it must have relevant, reliable, and timely communications relating to internal as well as external events. Information is needed throughout the agency to achieve all of its objectives, and effective communication should occur in a broad sense, with information flowing down, across, and up the organization. In addition to internal communications, management should ensure there are adequate means of communicating with, and obtaining information from, external stakeholders who may have a significant impact on the agency achieving its goals. The lack of guidance may result in inconsistent application of CMS’s policy among states with overpayments to some providers and underpayments to others due to the unavailability of local funding. Under broad federal requirements, Medicaid payments are to be made for Medicaid-covered services delivered to Medicaid beneficiaries and should be economical and efficient and sufficient to ensure beneficiaries’ access to care. States are not required to limit their hospital payments to hospitals’ costs, and we have previously found that CMS lacks criteria to determine when payments to individual providers, such as hospitals, are economical and efficient. This review illustrates further concerns with CMS oversight, as states have made extremely large supplemental payments that resulted in total Medicaid payments well in excess of Medicaid costs and allowed for significant hospital spending on equipment, construction projects, and services not directly related to Medicaid. This can be partly attributed to the fact that CMS has not issued guidance to clearly articulate its policy for states on how they should be distributing supplemental payments or that payments should not be contingent on the availability of financing for the nonfederal share. As a result, CMS cannot ensure that states’ payments are based on the provision of Medicaid services or for demonstration purposes, and not based on the availability of provider and local government financing. Lacking guidance from CMS, states have distributed supplemental payments to hospitals based on the availability of hospital and local government contributions and, in some cases, have reduced or not made payments to providers that were unable to provide the expected nonfederal share. The absence of CMS guidance around how to distribute Medicaid supplemental payments may be leading to inconsistent application among states and the distribution of supplemental payments that are counter to agency policies, resulting in some providers for which local financing was provided being overpaid while others for which local financing was not available being underpaid relative to the Medicaid services they provide. To promote consistency in the distribution of supplemental payments among states and with CMS policy, we recommend that the Administrator of CMS take the following two actions: (1) issue written guidance clarifying its policy that requires a link between the distribution of supplemental payments and the provision of Medicaid-covered services, and (2) issue written guidance clarifying its policy that payments should not be made contingent on the availability of local funding. We received written comments on a draft of this report from HHS, which are reprinted in appendix I. In its comments, HHS concurred with the first recommendation and agreed with our concerns regarding the second recommendation. HHS concurred with our recommendation to clarify in written guidance the agency’s current policy that supplemental payments support the provision of services to Medicaid and low-income uninsured individuals. HHS cited the rule it plans to propose in the spring of 2016 that would set forth additional requirements to ensure that supplemental payments are consistent with the statutory principles of economy, efficiency, and quality of care. HHS also noted that it has begun an effort to apply its demonstration supplemental payment policy principles to the approval of demonstrations that contain such payments for uncompensated care, which it has communicated to Florida and other affected states. CMS did not comment that it planned to more broadly communicate guidance regarding its policy to all states. In responding to the second recommendation, HHS agreed that the issue of Medicaid supplemental payments being contingent on the availability of local funding is a concern. HHS also referenced its plans to issue a proposed rule in spring of 2016 and indicated that the rule will highlight the issue. Although HHS did not explicitly concur with the recommendation, HHS did state it is considering additional options to address the issue. We encourage HHS, in light of our report findings and recommendations, to issue explicit guidance on these two issues. HHS also provided technical comments, which we incorporated as appropriate. As agreed with your offices, unless you publicly announce the contents of the report earlier, we plan no further distribution until 30 days from the report date. At that time, we will send copies of this report to the Secretary of Health and Human Services and other interested parties. In addition, the report is available at no charge on the GAO website at http://www.gao.gov. If you or your staffs have any questions about this report, please contact me at (202) 512-7114 or iritanik@gao.gov. Contact points for our Offices of Congressional Relations and Public Affairs may be found on the last page of the report. GAO staff who made key contributions to this report are listed in appendix II. In addition to the contact named above, Tim Bushfield, Assistant Director; Christine Davis; Iola D’Souza; Sandra George; Laurie Pachter; Ashley Nurhussein; and Perry Parsons made key contributions to this report. Medicaid Demonstrations: Approval Criteria and Documentation Need to Show How Spending Furthers Medicaid Objectives. GAO-15-239. Washington, D.C.: April 13, 2015. Medicaid: CMS Oversight of Provider Payments is Hampered by Limited Data and Unclear Policy. GAO-15-322. Washington, D.C.: April 10, 2015. Medicaid Financing: States Increased Reliance on Funds from Health Care Providers and Local Governments Warrants Improved CMS Data Collection. GAO-14-627. Washington, D.C.: July 29, 2014. Medicaid Demonstration Waivers: Approval Process Raises Cost Concerns and Lacks Transparency. GAO-13-348. Washington, D.C.: June 25, 2013. High-Risk Series: An Update. GAO-13-283. Washington, D.C.: February 2013. Medicaid: More Transparency of and Accountability for Supplemental Payments Are Needed. GAO-13-48. Washington, D.C.: November 26, 2012. Medicaid: States Made Multiple Program Changes, and Beneficiaries Generally Reported Access Comparable to Private Insurance. GAO-13-55. Washington, D.C.: November 15, 2012. Medicaid: States Reported Billions More in Supplemental Payments in Recent Years. GAO-12-694. Washington, D.C.: July 20, 2012. Opportunities to Reduce Potential Duplication in Government Programs, Save Tax Dollars, and Enhance Revenue. GAO-11-318SP. Washington, D.C.: March 1, 2011. High-Risk Series: An Update. GAO-11-278. Washington, D.C.: February 2011. Medicaid: Ongoing Federal Oversight of Payments to Offset Uncompensated Hospital Care Costs Is Warranted. GAO-10-69. Washington, D.C.: November 20, 2009. Medicaid: CMS Needs More Information on the Billions of Dollars Spent on Supplemental Payments. GAO-08-614. Washington, D.C.: May 30, 2008. Medicaid Financing: Long-standing Concerns about Inappropriate State Arrangements Support Need for Improved Federal Oversight. GAO-08-650T. Washington, D.C.: April 3, 2008. Medicaid Financing: Long-Standing Concerns about Inappropriate State Arrangements Support Need for Improved Federal Oversight. GAO-08-255T. Washington, D.C.: November 1, 2007. Medicaid Financing: Federal Oversight Initiative Is Consistent with Medicaid Payment Principles but Needs Greater Transparency. GAO-07-214. Washington, D.C.: March 30, 2007. Medicaid: Improved Federal Oversight of State Financing Schemes is Needed. GAO-04-228. Washington, D.C.: February 13, 2004.

Summary: In 2012, GAO reported that 505 hospitals received Medicaid payments that resulted in Medicaid payment surpluses—that is, payments that exceeded the costs of providing services—of about $2.7 billion. These surpluses were due in part to the lump-sum supplemental payments hospitals received that were above their regular payments for individual services. States made them under broad Medicaid payment authorities that allow federal matching on payments up to an upper payment limit or under Medicaid demonstrations. These types of supplemental payments are authorized, but not required, by law. GAO was asked to examine how hospitals used revenues from large supplemental payments and the states' basis for distributing the payments. For four selected states making large payments and 12 hospitals receiving them, GAO examined (1) how these hospitals used revenues from the payments and (2) the basis on which the states distributed the payments. GAO reviewed documents authorizing payments and interviewed hospital, state and federal officials. GAO also obtained payment data for 2009, the year hospitals were identified as having large payments, and for 2012, the most recent year available. Not all selected hospitals in the four states GAO reviewed tracked their use of revenues from the large supplemental payments they received and tracking of revenues is generally not required. Based on information obtained from hospital officials and a review of demonstration approval documents, GAO determined that the revenues were used for a broad range of purposes. For example, Officials from nine selected hospitals that received large supplemental payments under three states' traditional state Medicaid programs reported using revenues—which resulted in average surpluses of about $39 million—to cover the costs of uninsured patients as well as funding general hospital operations, maintenance, and capital purchases, such as a helicopter. Hospitals in two selected states that GAO reviewed that were approved to make supplemental payments under Medicaid demonstrations were subject to certain tracking requirements to ensure payment revenues were used for approved demonstration purposes. Documentation for one state showed that approved uses of revenues included hospitals' uncompensated costs of serving underinsured or uninsured individuals and operating poison control centers. In the other state, which moved during the study timeframe from making supplemental payments under a traditional Medicaid program to under a demonstration, payments were allowed for purposes such as incentivizing health care delivery system improvements and for uncompensated costs for physician and clinic services, and drugs. Three selected states distributed Medicaid supplemental payments largely based on the availability of local government funds to finance the nonfederal share of the payments, rather than on the services the hospitals provided. Medicaid payments should be made for Medicaid services or, if under demonstrations, for demonstration purposes and be economical and efficient. GAO found that three states made supplemental payments based on the ability of hospitals, or their local governments, to finance the nonfederal share. Consequently, hospitals otherwise eligible for payments but whose local government could not finance them did not receive them. The Centers for Medicare & Medicaid Services (CMS), which oversees Medicaid, communicated in writing to one state two key principles regarding payment distribution: (1) payments should be distributed based on Medicaid or demonstration purposes, and (2) payments should not be made based on the availability of local financing. However, CMS has not provided written guidance to articulate or broadly communicate these requirements to all states. Federal internal controls standards stress the need for effective communications with external stakeholders that have a significant impact on the agency achieving its goals. The absence of written guidance may result in inconsistent application of CMS's policies among states, the distribution of supplemental payments that are counter to the agency's policies and not aligned with the program's purposes, and the potential for states to overpay or underpay providers depending on the availability of local government financing. In commenting on a draft of this report, HHS concurred with the first recommendation and agreed with GAO's concerns regarding the second recommendation but did not explicitly concur with it. GAO recommends that CMS issue written guidance clarifying its policies that (1) supplemental payments should be linked to the provision of Medicaid services and (2) payments should not be contingent on the availability of local financing.