Each state administers its Medicaid program in accordance with its own Medicaid plan, which determines the groups of individuals to be covered, services to be provided, methodologies for providers to be reimbursed, and the administrative requirements that states must meet. To receive federal matching dollars for services provided to Medicaid beneficiaries, each state must submit a Medicaid plan for review and approval by HHS. States must meet certain federal requirements, but have flexibility beyond these federal parameters. For example, states must cover certain “mandatory” populations and benefits, but they have the option of covering “optional” categories of individuals and benefits. Coverage of optional populations and benefits varies across the states. States may also choose from different delivery systems, such as fee-for-service or managed care. States pay health care providers for covered services provided to Medicaid beneficiaries based on provider claims for services rendered. States generally make two types of supplemental payments to certain providers—payments separate from and in addition to those made to providers using regular Medicaid payment rates. Under federal law, states are required to make Disproportionate Share Hospital (DSH) payments to hospitals that serve a disproportionate share of low-income and Medicaid patients, in addition to regular Medicaid payments. Hospitals are subject to an annual limit on DSH payments, defined as the hospitals’ uncompensated care costs for Medicaid and uninsured patients minus Medicaid payments, and payments made on behalf of uninsured patients. States also make other supplemental payments, which are often referred to as non-DSH supplemental payments or “Upper Payment Limit (UPL) payments” to providers such as hospitals and nursing homes. These payments are based on the difference between Medicaid payments for services using regular Medicaid payment rates and the UPL, which is the ceiling on federal reimbursement. In general, the use of managed care to deliver Medicaid services precludes states from making UPL payments to providers because states are prohibited from making such payments for services provided under a managed care contract. Generally, the authority provided to the Secretary of Health and Human Services by section 1115 of the Social Security Act allows states to expand Medicaid coverage through demonstration projects to “expansion” populations that would not otherwise be eligible under traditional Medicaid programs. These demonstrations provide a way for states to innovate outside of many of Medicaid’s otherwise applicable requirements. For example, states may test ways to obtain savings or efficiencies in how they deliver services in order to cover expansion populations. Under a demonstration, states may also alter their Medicaid benefit package for categories of covered populations. Without this authority, states generally would be required to provide covered benefits in the same amount, duration, and scope to all beneficiaries covered under the state plan. States may have more than one comprehensive demonstration. For example, New Jersey had one demonstration targeted at expanding coverage to uninsured childless adults, and a separate demonstration targeted at expanding coverage to uninsured parents of Medicaid-eligible children. Both these demonstrations are comprehensive because they provide a broad range of services to these populations. States may also administer a large portion of their Medicaid program under a demonstration. For example, in Vermont, nearly all of the state’s Medicaid expenditures in fiscal year 2011 were for costs associated with a demonstration. Generally, to extend Medicaid to any previously uncovered populations or receive federal Medicaid matching funds for otherwise unallowable costs under the terms of a section 1115 demonstration, states must establish that the demonstration is budget neutral. To do so, states must show that their plans for changing their Medicaid program will generate savings to Medicaid, or they must get approval for redirecting existing Medicaid funding to cover the expected costs of the demonstration. For example: States have expanded the population eligible for Medicaid coverage by implementing managed care. In these demonstrations, states established budget neutrality by showing they would achieve savings from enrollment in managed care that could be used to cover new populations under the demonstration. States also have been approved by HHS to redirect certain categories of federal Medicaid funding for new purposes under the demonstration. Specifically, states have received approval to use all or a portion of their DSH allotments to cover previously ineligible individuals and costs under their demonstrations. States also have expanded coverage to previously ineligible populations, but in order to maintain budget neutrality, have provided the expansion population with a reduced benefit package—such as not covering inpatient hospital care—as compared to the typical benefits provided to Medicaid beneficiaries. Other strategies have included imposing higher cost-sharing on services or capping enrollment for expansion populations. States submit applications for section 1115 demonstrations to HHS. If HHS approves the demonstration, it is typically approved for a 5-year period. States that want to renew an existing demonstration have the option of requesting an extension or submitting an application for a new demonstration. States that submit an application for a new demonstration instead of an extension would need to terminate the existing demonstration, and would be required to notify beneficiaries of potential changes in coverage. A federal review team examines applications for both new demonstrations and extensions. The review team is led by CMS and includes representatives from OMB; from other agencies within HHS as applicable, such as the Substance Abuse and Mental Health Services Administration providing a review of waivers that affect mental health; and HHS Secretarial offices including the Assistant Secretary for Planning and Evaluation and the Assistant Secretary for Financial Resources. CMS’s Office of the Actuary provides nationwide data on projected Medicaid cost growth, but is not part of the federal review team. The federal review may consist of negotiations, including the exchange of questions and answers between the review team and the state. In approving applications, HHS might not approve all components of the states’ request contained in their applications. (See app. I for a discussion of applications that were submitted and reviewed between January 2007 and May 2012.) According to HHS’s policy, spending limits are based on the projected cost of continuing states’ existing Medicaid programs without a demonstration. The higher the projected costs, the more federal funding states are eligible to receive. The spending limits can be either an annual per person limit or an aggregate spending limit that remains fixed for the entire length of the demonstration, or a combination of both. HHS policy states that demonstration spending limits will be calculated from two components: Spending base. States select a recently completed year that establishes base levels of expenditures for populations included in the proposed demonstration—a state’s “spending base.” States also identify beneficiary groups for inclusion in the proposed demonstration. For example, demonstrations may include beneficiary groups, such as aged, blind and disabled, or families with children. However, the spending base must exclude certain base year expenditures, such as impermissible provider payments. Growth rates. States should submit to HHS 5 years of historical data for per person costs and beneficiary enrollment in their existing Medicaid program. HHS’s policy states that spending limits should be based on a benchmark growth rate, which is the lower of state- specific historical growth or the estimates of nationwide growth for the beneficiary groups included in the demonstration. The policy indicates that states, in providing HHS with state-specific historical growth rates, must also provide quantified explanations of any unusual changes in the trends. Nationwide projections of cost growth are developed by CMS actuaries to assist OMB in preparing the President’s budget. Growth rates for determining budget neutrality can vary for different eligibility groups. For example, the nationwide estimates of per capita cost growth in Medicaid for fiscal year 2012 were 6.0 percent for children, 3.4 percent for aged individuals, 2.6 percent for blind and disabled individuals, and 2.5 percent for adults. Figure 1 illustrates steps used to set spending limits for proposed section 1115 demonstrations. Some types of section 1115 demonstrations are not required to follow this process for determining spending limits. Specifically, for demonstrations that redirect a state’s federal DSH funding, HHS policy is to base the spending limit on the lower of the state’s DSH allotment or actual DSH expenditures prior to the demonstration. In addition, there is another group of recent section 1115 demonstrations pursuant to which federal law has defined how to calculate budget neutrality. Specifically, under the Children’s Health Insurance Program Reauthorization Act of 2009 (CHIPRA), states with existing section 1115 demonstrations covering childless adults using State Children’s Health Insurance Program (CHIP) funding were required to end these projects.apply and receive approval for new section 1115 demonstrations through which they could continue to cover childless adults using Medicaid funds. CHIPRA required that these new demonstrations be budget neutral, and required HHS to use a defined process of identifying the spending base and growth rates for demonstration spending limits. The 10 new comprehensive section 1115 demonstrations we examined focused on implementing ways of using federal funds to pay for services not typically covered under Medicaid. All 10 demonstrations were approved to implement different coverage strategies or cost sharing for certain beneficiary populations. Appendix II provides a brief summary of the key features of 10 demonstrations. Two states we reviewed—Arizona and Texas—obtained the authority under their section 1115 demonstrations to establish funding pools for purposes of making supplemental payments and to receive federal matching funds for these payments. As approved, Arizona’s section 1115 demonstration allows the state to make new types of supplemental payments to providers, and allowed the state to establish a funding pool from which these payments could be made. Arizona has operated a comprehensive section 1115 demonstration for many years, under which the majority of the Medicaid population is enrolled in managed care. Under its previous demonstration, the state made DSH payments to hospitals, but did not make UPL payments to its providers because the majority of services were provided under managed care contracts. UPL payments for services provided under managed care are generally prohibited under federal regulations. In March 2011, the state requested to terminate its existing section 1115 demonstration in order to limit coverage of certain adult populations.Subsequently, the state received approval for a new demonstration that continued the existing managed care delivery system, granted the authority for the state to make new types of supplemental payments to providers through a Safety Net Care Pool (SNCP), and expanded coverage to certain populations. Under the demonstration, the state obtained the authority to claim federal matching funds for new types of supplemental payments made to providers from SNCP. The state did not commit any state funds for these supplemental payments and instead relied on the contributions of eligible government entities for the nonfederal share of payments. According to HHS officials, because these supplemental payments were created under the authority of the demonstration, they were not subject to certain federal requirements that would otherwise apply. For example, officials reported that they did not consider these to be DSH payments and therefore the federal reimbursement for SNCP payments exceeds the maximum amount Arizona is allowed to receive under its DSH allotment. They were not considered to be UPL payments and therefore could be made even when services were provided under a managed care contract. According to HHS officials, the terms and conditions of the demonstration defined requirements for these payments. For example, under the terms and conditions, as the SNCP payments were Medicaid payments, HHS required they be subject to certain requirements when made to DSH hospitals. Specifically, SNCP payments received for inpatient or outpatient hospital costs were required to be counted against each hospital’s annual DSH payment limit. The terms and conditions of Arizona’s demonstration also included other federal requirements and limits for the SNCP payments. Specifically: For each year of the demonstration, the state was allowed to make up to $332 million—total federal and nonfederal funds—in payments to hospitals, clinics, and other nonhospital providers that have high levels of uncompensated care for medical services provided to Medicaid eligible and uninsured individuals. Demonstration requirements also limited these SNCP payments for individual providers’ to their costs of delivering services to Medicaid and uninsured individuals, and prohibited SNCP payments for nonemergency services provided to noncitizens who were not eligible for Medicaid. In addition to the $332 million, the state was allowed, for the first 2 years of the demonstration, to make up to $20 million—total federal and nonfederal funds—in payments that were previously made under a state-funded health program. Specifically, the state was approved to make payments to hospital trauma centers, hospital emergency departments, and rural hospitals across the state for clinical, professional, and operational costs. These payments were intended to help hospitals manage their uncompensated care costs. Prior to the demonstration, these were entirely state-funded payments that Arizona voters approved in 2002. Other features of Arizona’s demonstration included expanding coverage to two groups of children: children with family income at or below 175 percent of the federal poverty level (FPL), who were not otherwise eligible for Medicaid; and children up to age 19 with incomes between 100 and 200 percent of the FPL, who had access to employer sponsored health care coverage, and were not otherwise eligible for Medicaid. Total funding—federal and nonfederal funds—available for expansion was capped at about $77 million each year by the demonstration. The state was also allowed to extend the length of Medicaid coverage for postpartum women from the typical 60 days to 24 months. The total cost allowed for this program—federal and nonfederal—was $20 million. Two of the purposes of the Texas section 1115 demonstration were to allow the state to expand its use of managed care statewide, and to authorize new supplemental payments through two new funding pools. Prior to the demonstration, the state provided services to most of the state’s Medicaid population on a fee-for-service basis. Under this system, hospitals provided services to Medicaid-covered individuals and then submitted bills to the state for reimbursement based on the state’s regular Medicaid payment rates. In addition, the state made DSH payments and UPL payments for hospital services provided on a fee-for-service basis. Under the demonstration, HHS approved two new types of supplemental payments to be distributed through two funding pools. In creating these pools, the state did not commit any state funds and instead relied on the contributions of eligible government entities for the nonfederal share of payments. Under one pool, called the Uncompensated Care (UC) pool, the state could obtain federal matching funds on provider payments totaling up to $17.6 billion over the 5-year term of the demonstration. Under the second pool, called the Delivery System Reform Incentive Payment (DSRIP) pool, the state could obtain federal matching funds on provider payments totaling up to $11.4 billion over the 5-year term of the demonstration. The demonstration significantly increased the amount of federal funding Texas could claim for the two new types of supplemental payments. For example, in fiscal year 2011—the year prior to the demonstration—the state claimed federal matching funds on about $2.6 billion in UPL payments. Under the demonstration, the state was authorized to receive federal matching funds on $4.2 billion in payments made in the first year of the demonstration and on $6.2 billion in payments made in each of the remaining 4 years of the demonstration. HHS officials told us that because the UC pool payments were created under the demonstration, they were not DSH or UPL payments and therefore were not subject to the federal requirements that govern those payments. Thus, as with Arizona, these payments were in addition to, and not limited by, the maximum cap on federal matching that was provided to the state under its DSH allotment. Officials told us the UC pool payments also were not considered to be UPL payments and could be made for services provided to individuals enrolled in managed care. According to HHS, the terms and conditions of the demonstration established requirements and limits for the UC pool payments. Among other things, the terms and conditions required that these payments be limited to individual providers’ uncompensated costs of delivering services to Medicaid beneficiaries and uninsured individuals.Arizona, because the UC pool payments were Medicaid payments, the payments for inpatient or outpatient hospital costs were required to be counted against the amount of DSH payments that an individual hospital could receive. The terms and conditions also allowed the state to make these Medicaid supplemental payments to a variety of providers for serving Medicaid and uninsured individuals. These providers included physician-practice groups, government ambulance providers, government dental providers, and rural health providers with no public hospitals. According to the terms and conditions, the state could not receive federal funding for expenditures from the DSRIP pool until key milestones are met including: HHS’s approval of the state’s plan for and status of forming regional health care partnerships; identification of the public hospitals directing each of these partnerships; and development of a list of projects related to the four main areas noted above. In addition, incentive payments from the pool would be based on successful completion of HHS-approved metrics submitted by the regional healthcare partnerships related to the four areas. counted against the amount of DSH payments a hospital could receive under its hospital specific DSH limit. The DSRIP payments were approved by HHS under the expectation that the state would be expanding its Medicaid coverage under PPACA; however, since the demonstration’s approval, the state has not confirmed that it intends to expand Medicaid to new populations allowed under PPACA. At the time Texas’s demonstration was approved, PPACA required all states to expand Medicaid coverage to a new mandatory category of low-income individuals, and states were eligible to receive enhanced federal funding for this population beginning in January of 2014. However, subsequent to this approval, the U.S. Supreme Court ruled that any state that chooses not to expand Medicaid coverage will not be subject to a penalty of losing Medicaid funding for the entire program, and instead will only forego the enhanced funding for that population, therefore making the expansion a choice for the states. In June 2013, a state law was enacted that would prohibit the state Medicaid agency from expanding Medicaid coverage. In general, HHS can withdraw authorities to claim federal funding for expenditures under demonstrations in certain circumstances, including if it determines that the approval no longer promotes the objectives of the Medicaid program. However, HHS officials stated that the delivery system improvements that will result from the DSRIP pool payments will benefit low-income and Medicaid populations, whether the state expands Medicaid or not. HHS does not plan to revisit the terms and conditions of the Texas demonstration as it relates to the DSRIP pool, even if the state does not expand Medicaid as provided under PPACA. Indiana, the District of Columbia, Wisconsin, and Missouri were allowed to redirect all or a portion of their federal DSH allotment, primarily to cover populations made eligible for Medicaid under the terms of the demonstration. Three of the states—Indiana, the District of Columbia, and Wisconsin—were approved to use at least some of their DSH allotment solely for coverage expansion. Indiana was allowed to use a portion of its DSH allotment to pay for services for a new population of about 36,000 higher-income parents and childless adults. The District of Columbia demonstration expanded full Medicaid coverage to childless adults with incomes higher than the income level that would qualify them for Medicaid coverage under PPACA beginning in 2014—over 133 percent of the FPL. Individuals in this expansion population were previously covered under a local program for which the District of Columbia did not receive federal matching funds. Wisconsin was approved to expand its plan to an estimated 35,000 childless adults, providing them with benefits, such as physician and hospital services. The fourth state, Missouri, was also approved to redirect a portion of its DSH allotment for new purposes established under the demonstration, including, among other things, providing coverage to previously ineligible populations. Missouri was also allowed to redirect a portion of its DSH funds for payments for other purposes, as authorized under the demonstration, including payments to health clinics that provided ambulatory services to uninsured and indigent populations in and near St. Louis; payments for administrative costs—nonhospital services—to a health commission, which will coordinate, monitor, submit reports on the demonstration’s activities, and make recommendations for payment allocations; a program that educated patients on primary care and proper use of the initiation of a coverage expansion pilot that would provide a limited primary care benefit package and test the use of a voucher system to provide acute hospital services when needed by individuals in the pilot expansion population. This program worked with uninsured individuals that come to the emergency rooms and educated them on available resources for primary/non-emergent care, scheduled follow- up appointments with primary care providers, and arranged transportation to appointments. These services were coordinated while the individuals were in the emergency room. The costs—both state and federal—for this program could not exceed $175,000 per year for 2 years of the demonstration or $700,000 per year for 3 years. 1115 demonstration, and multiple other Medicaid waivers. According to HHS, this consolidation would allow Rhode Island to seamlessly provide services to individuals who previously had to qualify to receive services, such as home and community-based services through different programs that were governed by different rules and authorities. The state’s proposal indicated that this flexibility would allow the state to better manage the use of long-term care and increase home and community-based services. Through the demonstration, the state also was given the flexibility to make certain programmatic changes to its Medicaid program without having to follow more formal procedures. For example, for certain changes, such as those that would otherwise need to be processed as an amendment to the Medicaid state plan or to the demonstration terms and conditions or that did not affect eligibility or benefits, the state was allowed to only notify HHS of the change.was the first time they approved a test of this type of administrative flexibility. Idaho, Michigan, and New Mexico were required by federal law to discontinue using CHIP funds to cover childless adults, but were allowed to continue services for this population with Medicaid funds under a new section 1115 demonstration. These three states each applied and received approval for new demonstrations to continue to provide coverage to childless adults, without expanding to any new populations. Under these demonstrations, various types of benefits were provided to the childless adult populations. For example, Idaho was approved to provide premium assistance for qualifying employer-sponsored insurance, while Michigan and New Mexico were approved to provide coverage for services. Michigan was approved to limit benefits to outpatient services, and New Mexico was approved to provide coverage for both inpatient and outpatient services. All 10 states we reviewed were approved to implement new ways of expanding coverage or imposing cost sharing requirements on different Medicaid populations. Examples of these strategies are presented below. Arizona’s demonstration allowed, for a limited time, the state to charge expansion enrollees a fee when they miss a physician appointment in order to encourage proper use of medical services. The demonstration also allowed the state to impose cost sharing for non-emergency use of the emergency room, as well as higher cost sharing for brand name drugs when a generic is available. Indiana’s demonstration allowed the state to establish a high- deductible health plan and health care spending account for uninsured adults enrolled for coverage under the demonstration. Expansion enrollees must make specified contributions to their accounts, based on income levels, as a condition of continued enrollment. The accounts must be used by enrollees to pay for the cost of health care services until a deductible is reached; however, preventive services up to a maximum amount would be exempt from this requirement. The spending account was intended to provide incentives for participants to utilize services in a cost-efficient manner. This demonstration also allowed the state to impose an enrollment cap on the number of childless adult expansion enrollees for its health savings account program. Three states—Idaho, Michigan, and New Mexico—were approved to continue some coverage strategies from their previous demonstrations.demonstration required a 50 percent employer contribution toward the cost of the health benefit plan. Michigan’s demonstration allowed the state to continue to provide a limited benefit package that focused on outpatient services and required prior authorization for some of these services. Finally, New Mexico’s demonstration allowed the state to cap medical expenditures for each enrollee. For example, Idaho’s premium assistance Rhode Island was allowed to form and pay for entities dedicated to reviewing the needs of enrollees eligible for long-term care. According to the state’s proposal, this process facilitated the appropriate care setting by shifting care away from high-cost institutional settings when less costly home and community-based care was appropriate. The organization did this by helping enrollees decide how to manage their health care needs based on a distinction given to them as “highest need,” “high need,” or “preventive.” This designation allowed the state to determine which cost-effective, long-term services an enrollee could receive. For example, those designated as highest need were approved to receive nursing home care, while those designated as preventive were approved to receive certain home health services. For 4 of 10 demonstrations we reviewed, HHS approved spending limits that were based on assumptions of cost growth that were higher than those reflected by the state’s historical spending and the President’s budget. In addition, in some cases the approved spending limits included costs in the base year that were hypothetical. If HHS had held spending limits in the four demonstrations to levels suggested by its policy, we estimate that the spending limits would have been $32 billion lower over the 5-year term of the demonstrations. We also found that HHS’s budget neutrality policy is out-dated, because it does not reflect HHS’s current processes or provide assurances that data used for spending limits are reliable. HHS approved spending limits for the Arizona, Indiana, and Rhode Island demonstrations that used growth rates that exceeded benchmark rates and, in the case of Texas, included hypothetical costs in the base year spending. HHS officials reported that their policy and process allow for negotiations in determining spending limits, including adjustments to the benchmark policy. However, HHS’s policy does not specify criteria and methods for such adjustments or the documentation and support needed for adjustments. We found that the criteria and methods for making the adjustments in these states were not always clear or well supported. Our estimates show that, had HHS used benchmark growth rates and actual base year costs, the 5-year spending limits would have been almost $32 billion dollars lower than what was actually approved. The federal share of the $32 billion reduction would constitute an estimated $21 billion. (See table 1.) HHS departed from its policy in selecting base year expenditures and benchmark growth rates for the approved Arizona spending limit without a clear rationale. Had actual base year expenditures and benchmark growth rates been used, the 5-year spending limit would have totaled about $26 billion less. HHS established the largest portion of the Arizona spending limit, per person spending, using an outdated baseline of projections of the costs of operating the program without the demonstration. The projections were based on the estimated costs of operating the program developed for the state’s previous demonstration— initially approved in 1982—and adjusted forward to 2011. HHS’s policy indicates that the spending limits for new demonstrations should be based on actual expenditures in the base year. Arizona’s actual expenditures in 2011—the base year for the demonstration had HHS approved a spending limit based on its policy—were much lower than the projected costs used by HHS as the basis of the spending limit. HHS officials said that the agency was not able to estimate the cost of the Arizona Medicaid program without the demonstration using recent actual expenditure data, because the state’s Medicaid program had operated under a demonstration since 1982. We found that HHS’s rationale for relying on 30-year-old projections of what the Medicaid program would have cost without the demonstration was unsupported. Actual expenditure data were available and would more accurately reflect state spending under Medicaid than the old projections that were based on the state operating without a Medicaid program. We estimate that HHS’s use of projected costs rather than actual expenditures for the base year increased the spending limit by about $22 billion. HHS’s approved spending limit for Arizona also used growth rates for certain populations that were higher than the benchmark growth rates suggested by agency policy. The rates HHS used reflected national growth rates, which were higher than the state historical growth rates based on actual state historical expenditures. (See table 2.) Instead, HHS compared national growth rates to the projected state growth approved as part of the state’s previous demonstration, developed 30 years earlier. Officials also told us that they did not consider comparing the national growth rates to the state’s historical growth rates derived from actual state expenditures because it was unclear if these expenditures would have occurred absent the demonstration. However, without the demonstration, Arizona would not have a Medicaid program. In addition, the previously approved rate does not appear to be a valid substitute given the large difference between that rate and the growth rates indicated by actual historical expenditure data. We estimate that HHS’s use of the previously projected growth rates rather than actual state expenditures to derive the benchmark growth rate increased the approved 5-year spending limit by about $4.2 billion. For the Indiana demonstration, HHS approved a spending limit that was based on a projected growth rate that exceeded the benchmark growth rate without clear support for doing so. Had HHS used the benchmark growth rate, the demonstration’s 5-year spending limit would have been an estimated $416 million lower. While HHS developed growth rates based on only 3 of the 5 years of historical data, HHS documented that the most recent 2 years of data reflected large decreases in spending from the state’s increased use of managed care and that these changes in spending were a onetime effect that likely would not continue. We determined that HHS had adequately explained and documented its reason for making this adjustment. However, we found that HHS did not have adequate support for approving a 4.4 percent growth rate for all four populations included in the demonstration, when the historical data provided by the state showed benchmark growth rates that were lower than 4.4 percent for three of those populations. (See table 3.) HHS officials stated that a policy decision was made to use the average state historical growth rates because it was believed that it was more likely to reflect cost trends in the future. Officials added that one of the individual populations had a zero growth rate historically and it was decided that as a result of regular health care inflation, costs would grow. Approving an average growth rate does not appear to be a valid substitute for the state historical growth rates for each population given the significant difference for the adult caretaker populations, and the fact that health care inflation was present during prior years and would have also affected population- specific growth rates. Had HHS used benchmark growth rates for each population, the spending limit would have been about $416 million lower than the approved spending limit. HHS approved an aggregate spending limit of about $12.1 billion for the Rhode Island demonstration based on a growth rate that exceeded the benchmark growth rate without clearly supporting the use of a higher growth rate. Had HHS used the benchmark growth rate, we estimate that the spending limit would have been about $772 million lower than the approved limit. According to HHS officials, the spending limit was developed using the 2006 base year average national growth rate of 7.8 percent; however, the state’s historical growth rate in the 5 years prior to applying for the demonstration was 7.0 percent. HHS officials told us that though the state provided data for 2007 to be used as the base year, HHS instead chose 2006 as the base year, because negative trends in the 2007 data were not representative, did not appear reliable, and contained what they called outliers. So while HHS based the Rhode Island spending limit on the lower of the two growth rates for 2006, the agency could not provide clear support for using that base year. (See table 4.) In Texas, the HHS-approved spending limit included two types of hypothetical costs in the state’s base year expenditures. These costs represented higher payment amounts the state could have paid to providers, but did not actually pay. We estimated that, had the state only included actual expenditures as indicated by HHS’s policy, the spending limit would have totaled about $4.6 billion less. HHS’s decision sets a precedent that a state can increase a demonstration spending limit on the basis that it could have hypothetically paid Medicaid providers more than it actually chose to pay them, without a clear basis for doing so. First, Texas’s spending limit was based, in part, on hypothetical costs as opposed to actual incurred expenditures with respect to UPL payments that could be made for inpatient hospital services but were not actually made. Prior to applying for this demonstration, about 1.3 million of the state’s Medicaid population received inpatient hospital services under managed care, and the state did not make UPL payments for these services. In its spending limit estimate, however, Texas included costs for UPL payments and fee-for-service payments for beneficiaries previously receiving inpatient hospital services under a managed care delivery model. In its proposal, the state said it would take certain actions in response to directives from its state legislature. Specifically, the state said that if the demonstration was not approved by HHS it would carve out inpatient hospital services previously provided under managed care and pay for these services on a fee-for-service basis and also make UPL payments for these services. These actions would increase costs because fee-for-service payments and UPL payments to hospitals would greatly exceed capitation payments made to managed care plans. HHS officials stated that, given a directive of the Texas legislature, they believed the state would do so, and they allowed the estimated increased costs of such an arrangement to be factored into the spending limit even though Texas had not changed its payment model. As a result, $3.8 billion of the demonstration spending limit was based on what Texas estimated it could pay providers in the future but had not been paying prior to the demonstration. Second, Texas proposed including additional hypothetical costs in the base year expenditures by using the maximum amount of UPL payments the state could have paid rather than the actual amount of payments the state did make. In its proposal, the state documented that during each of the 4 years leading up to and including the base year, the state’s actual hospital inpatient UPL payments were less than the maximum amount the state could have paid. HHS officials noted that because the actual payments were accounting for an increasing percentage of the maximum UPL payments the state could have made, they allowed the state to use this larger amount. As a result of HHS’s decision, about $796 million of the demonstration spending limit was based on a hypothetical expenditure that did not represent actual expenditures of the state under its program. HHS approved spending limits for three demonstrations that redirected federal DSH funds, which were consistent with its policy. For the District of Columbia, Missouri, and Wisconsin demonstrations, HHS limited federal spending to the lower of the states’ DSH allotment or actual DSH expenditures in the year prior to the demonstrations. This approach helps provide assurances that the federal government will spend no more under the demonstrations than what it would have spent without them. For the District of Columbia and Missouri, HHS limited federal spending to a specific dollar amount, which represented a portion of the states’ DSH expenditures in the year prior to the demonstrations’ approvals. The Wisconsin spending limit was set at the total DSH allotment, which also represented the amount of expenditures in the year prior to the demonstration’s approval. The approved spending limit for the entire length of the demonstration was about $145 million for the District of Columbia, $105 million for Missouri, and $797 million for Wisconsin. The Idaho, Michigan, and New Mexico demonstrations were a unique type of section 1115 demonstration governed by requirements not applicable to other types of Medicaid section 1115 demonstrations. For these three states, HHS set spending limits using a process provided for under CHIPRA. These states applied and received approval for new section 1115 demonstrations, through which they continued to cover childless adults using Medicaid funds instead of CHIP funds. CHIPRA also defined the budget neutrality process for such demonstrations by identifying the base year and growth rates for demonstration spending limits. For each of the three demonstrations, HHS followed the budget neutrality procedures outlined in CHIPRA in setting the spending limit on an annual basis. The initial annual spending limits were based on expenditure projections of about $80,000 for Idaho, about $137 million for Michigan, and about $177 million for New Mexico. For the first demonstration year, spending limits were slightly less because the demonstrations operated less than a full year. HHS’s policy for setting spending limits for proposed demonstrations is inconsistent with its actual practices. To this extent, HHS’s internal controls are insufficient. According to Standards for Internal Control in the Federal Government, government processes, including management directives and administrative policies, should be clearly documented.discussing documentation for HHS’s policy, published in 2001, officials indicated that it reflected HHS’s most current processes and policy on In budget neutrality, but acknowledged that some aspects of the policy, as written, were no longer applicable to current processes. For example, HHS officials told us that the methods described for determining spending limits of demonstration extensions were no longer applied. In addition, while the policy requires that states submit 5 years of historical data in developing spending limits—and HHS officials told us that this is their preference—the agency’s current processes allow states to use data based on the state’s estimate of spending or enrollment. For example, if the 2 most recent years of expenditure data are not available because of delays in Medicaid claims processing, estimates for these years can be used. Officials indicated that if estimates are used instead of actual data, the state must explain any adjustments. But HHS officials did not have documentation for the current process or policy on when estimates are allowed, or the type of documentation of adjustments that is required. In addition, the HHS’s policy does not require documentation or describe how the data used to set spending limits are reviewed to ensure reliability and accuracy. According to officials, the data used for projecting spending comes from each state’s Medicaid data system, and HHS generally does not test the accuracy of the data. However, officials noted that the state systems may have their own quality and reliability checks. In October 2012, HHS introduced an optional waiver application template that included a standard budget neutrality form that states could use to submit 1115 demonstration applications. The template provides a standard format for states to submit commonly used data elements—such as historical expenditure and enrollment data, and the projected growth rates and per capita costs based on the state historical enrollment and costs—and a description of the sources and methods for obtaining state historical data. The budget neutrality form allows states to submit actual or estimated data. HHS officials told us that the new template does not establish any new budget neutrality policy, but instead was intended to make the application template more user-friendly than the prior template that was developed in conjunction with the agency’s policy published in 2001. The new budget neutrality form reiterates HHS’s 2001 policy that states that spending limits should be based on the lower of the state- specific historical growth rate or estimated nationwide growth rate. The form does not provide additional guidance, for example, on the process and criteria for when estimated state historical data rather than actual state historical expenditure data are used in setting spending limits, or when deviations from the benchmark policy are allowed and how they should be documented and supported. The fiscal challenges facing the federal government require prudent stewardship of federal Medicaid resources. While section 1115 Medicaid demonstrations serve as an important mechanism for states to implement projects that allow for innovation while promoting Medicaid objectives, HHS policy requires that they not expose the federal government to additional financial liability. The Secretary of Health and Human Services has an important responsibility for ensuring that comprehensive demonstrations will not increase federal costs above what would be incurred without these demonstrations. HHS’s long-standing budget neutrality policy for these demonstrations, on its face, recognizes that states should not be given access to additional federal funding at the same time they are provided with greater program flexibility. However, neither the policy, nor HHS’s implementation of it, ensures the prudent stewardship of federal Medicaid spending. After examining HHS’s approach for approving spending limits of recently approved demonstrations, we have three main concerns regarding the budget neutrality policy and process. First, HHS’s policy is not reflected in its actual practices and, contrary to sound management practices, is not adequately documented. Second, the policy and processes lack transparency regarding criteria and the supporting evidence required to justify deviations from historical spending and established benchmark growth rates. We recognize that forecasting spending during changing economic times is challenging and a state’s circumstances may warrant such deviations. Nonetheless, we believe that approved spending limits that are based on baselines and growth rate expectations that greatly deviate from HHS’s current benchmarks should be well-supported and documented. HHS’s policy is currently silent as to when deviations are allowed and does not require that reliable evidence be provided to justify deviations. Transparency around the basis for spending limit decisions is important not only for assurances of the ongoing fiscal integrity and sustainability of the program, but also for assurances of consistency of approvals among states. Third, the policy as implemented allows methods for establishing spending limits that we believe are inappropriate for such purposes, such as allowing states to include hypothetical costs in the baseline for spending limits. The second and third concerns parallel those we have raised in earlier reports. In 2008, because HHS disagreed that changes to the budget neutrality policy and review process were needed, we suggested that Congress consider requiring increased attention to fiscal responsibility in the approval of section 1115 Medicaid demonstrations and require the Secretary of Health and Human Services to improve the demonstration review process by, for example, clarifying the criteria for approving spending limits and documenting and making public the basis for such approvals. Thus far Congress has not acted on this suggestion. On the basis of the findings in this report, we believe the Secretary needs to take additional actions to ensure that HHS’s budget neutrality policy reflects current practices and that the spending limits for the Texas and Arizona demonstrations are appropriate, well supported, and based on clear criteria. To improve the transparency of the process for reviewing and approving spending limits for comprehensive section 1115 demonstrations, we recommend that the Secretary of Health and Human Services take the following two actions: 1. update the agency’s written budget neutrality policy to reflect actual criteria and processes used to develop and approve demonstration spending limits, and ensure the policy is readily available to state Medicaid directors and others; and 2. reconsider adjustments and costs used in setting the spending limits for the Arizona and Texas demonstrations, and make appropriate adjustments to spending limits for the remaining years of each demonstration. We provided a draft of this report to HHS for comment. In its written comments, HHS acknowledged that it has not always communicated its budget neutrality policy broadly or clearly, but stated it has applied its policy consistently. The Department suggested that recent steps to increase transparency—such as publishing a new section 1115 application template and implementing a federal public input process— reflect updated policy on how HHS sets spending limits and ensures demonstrations are budget neutral. While the application template may contain guidance on some of the data elements commonly used to demonstrate budget neutrality, we do not believe that it addresses how HHS reviews the applications or the criteria used for setting spending limits. We have revised our report to clarify how this template falls short of clarifying HHS’s budget neutrality policy. HHS did not otherwise identify any written policy it has issued since 2001 either during the course of our review or in its comments. HHS did not concur with our recommendation that its budget neutrality policy should be updated to reflect the actual criteria and processes used to develop and approve demonstration spending limits, and ensure that the policy is readily available. HHS stated that our findings that four states’ spending limits would have been lower had the agency followed its policy were flawed. HHS said that we used only a subset of the best available data that the Department used to assess budget neutrality and that we relied on an outdated policy issued in 2001. We disagree with these assertions. It is important to note that, to do our analysis, we relied on extensive documentation and information that HHS officials specifically provided us as the basis for the selected states’ budget neutrality determinations. For example, we obtained the spreadsheets with the data and calculations that HHS used to determine each state’s demonstration spending limits. We reconciled these spreadsheets with the spending limits and documentation in each state’s demonstration approval and had numerous discussions with HHS officials to confirm our understanding of the data and the basis for the final spending limits. At no time did officials tell us that they had provided us only with a subset of the data used to assess budget neutrality or cite additional information or data that we had not considered. HHS’s assertion that we relied on an outdated budget neutrality policy that did not reflect the Department’s current policy also conflicts with information provided to us during the course of this review. On multiple occasions, we discussed with officials the policy used to establish demonstration spending limits, including the applicability of the 2001 written policy. HHS officials told us—both verbally and in writing— that the 2001 written policy generally reflected the Department’s current policy toward budget neutrality. They told us that this document was the most recent document capturing the budget neutrality policy. However, as we described in the draft report, HHS officials told us that some parts of the 2001 written policy were outdated. The Department did not have any plans to update the 2001 policy. HHS did not concur with our recommendation that it should make adjustments to the spending limits for the remaining years of the Arizona and Texas demonstrations. In its comments, HHS said that the adjustments and costs it used were justified. However, HHS did not provide any new information or support beyond what was considered and discussed in the draft report. For example, HHS did not respond to our concerns that Texas’ spending limit included $3.8 billion in costs that the state could hypothetically pay providers in the future but did not actually pay them prior to the demonstration. We continue to believe HHS’ decisions were not clear or well supported. HHS also stated that it had significantly strengthened the accountability in Texas by requiring HHS approval before federal matching funds can be drawn down for state expenditures made under the demonstration, and by instituting robust reporting requirements. We believe that improved oversight of actual spending occurring under the demonstrations does not lessen the need for establishing sound spending limits. HHS’s comments are reproduced in appendix III. HHS also provided technical comments, which we incorporated as appropriate. As agreed with your office, unless you publicly announce the contents of this 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. In addition, the report is available at no charge on the GAO website at http://www.gao.gov. If you or your staff 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 this report. Major contributors to this report are listed in appendix IV. From January 2007 through May 2012, the Department of Health and Human Services (HHS) received 62 comprehensive section 1115 Medicaid demonstration applications from 38 states, 3 of which were subsequently withdrawn by the states. HHS approved 45 of the remaining applications, disapproved 1, and another 13 were still pending completion of review as of May 31, 2012. About two-thirds, or 31, of the 45 approved applications were for extensions of existing demonstrations, while 8 of the 13 still under review were for new demonstrations. For the 46 reviews that HHS completed, reviews took from 47 days to almost 4 years, and averaged 323 days from the date of application to the date of the review decision. About 72 percent of the reviews took a year or less to complete. (See table 5.) Officials with HHS stated that the nature of demonstration reviews is unpredictable because of the different factors outside HHS’s control, which can influence the review. Further, HHS generally does not have a set time frame within which applications must be reviewed. There are a number of factors that may have affected the review times for the demonstrations we reviewed. For example, prior to applying for a new demonstration, states may submit a concept paper to HHS to receive technical assistance, advice, and other guidance. There may then be extended dialogue between a state and HHS about the plans included in a concept paper. The process can provide states with an initial indication of the acceptability of their proposal and thereby facilitate the application process. According to the officials, in cases where states have submitted such papers, HHS reviews may be shorter. In addition, the purpose, scale, and complexity of demonstration applications vary, and will result in the need for more or less discussion between the state and HHS. Similarly, the completeness of the application can affect review times. Applications may have lacked important details, such as data on how the program will be implemented, its effect on relevant beneficiary populations, or how budget neutrality is achieved. In these cases HHS may request extensive clarification, which adds to the review time because of the time states need to respond. Also, HHS officials said that state legislative activity can alter the proposal during development, or midcourse, which would extend HHS review times. This appendix summarizes key information on 10 new comprehensive section 1115 demonstrations approved from January 2007 through May 2012. Key information presented includes: a summary of specific details about the purpose of the demonstration; the population covered; the term of each demonstration; the estimated number of people covered in the first and last year of the demonstration; and the approved spending limit over the term of each demonstration. Because the scope and purpose of demonstrations vary by state, the amount and detail of the information provided for each demonstration also varies. Demonstration Term: October 2011–September 2016 Estimated Number of People Covered: first year: 1,129,869; last year: 1,806,984 Approved Spending Limit: Over $74.4 billion Arizona requested to terminate its previous section 1115 demonstration, operating since 1982, in order to eliminate coverage for one of its adult populations covered previously, and to implement an enrollment freeze on its childless adults, effective in July 2011. The population that was to be eliminated was covered through the Medical Expense Deduction program, which was for adults with income in excess of 100 percent of the federal poverty level (FPL) who have qualifying health care costs that reduce their income to or below 40 percent of the FPL. The enrollment freeze applied to adults without dependent children with family income up to and including 100 percent of the FPL. This new demonstration continued to provide coverage for the Medicaid population through managed care. In addition, the state was approved to establish state a funding pool for making supplemental payments, totaling over $300 million per year, to providers that cover Medicaid and uncompensated care costs, and to make hospital payments for trauma and emergency services through a program that was originally a state- funded initiative. The demonstration also expanded coverage to certain children up to age 19 and women who lose Medicaid pregnancy coverage. The state increased personal financial responsibility through cost sharing by implementing the use of penalties for certain enrollees that miss scheduled physician appointments, and encouraging appropriate utilization of emergency room care by imposing cost sharing for improper use of the emergency room. The state also imposed higher cost sharing for brand name drugs when a generic is available. Demonstration Term: November 2010–December 2013 Estimated Number of People Covered: first year: 4,815; last year: 11,121 Approved Spending Limit: $145 million The District of Columbia was approved to redirect Disproportionate Share Hospital (DSH) funds in order to provide full Medicaid benefits to adults ages 21 through 64 with incomes between 133 percent and 200 percent of the FPL. Benefits under the demonstration were provided through a mandatory managed care delivery system. Most anticipated enrollees were covered previously through a local program that provided more limited benefits. Demonstration Term: January 2010–September 2014 Estimated Number of People Covered: first year: 350; last year: 350 Idaho was approved under a new demonstration to continue to provide premium subsidies to nonpregnant childless adults age 18 and above with incomes at or below 185 percent of the FPL. The demonstration allows a premium subsidy up to $100 per month per enrolled adult—a qualifying employee or the spouse of the employee—toward the individual’s share of the employer-sponsored health insurance premium. Participating employers are required to make a 50 percent contribution toward the cost of the health benefit plan. Demonstration Term: January 2008–December 2012 Estimated Number of People Covered: first year: 669,894; last year: 848,919 Approved Spending Limit: $10.6 billion Indiana received approval to operate two distinct health insurance programs. This demonstration preserved the program previously in place for Medicaid-eligible individuals and expanded coverage to uninsured adults; both programs were run through a managed care delivery system. The first program, called the Hoosier Healthwise Program, continued coverage for current Medicaid-eligible individuals. The second program, called Healthy Indiana Plan (HIP), expanded coverage for uninsured adults, not currently eligible for Medicaid. The expansion was partially funded using redirected DSH funding. The HIP provided a high-deductible health plan and an account similar to a health savings account for uninsured adults including low-income custodial parents and caretaker relatives of Medicaid and State Children’s Health Insurance Program (CHIP) children, and uninsured noncustodial parents and childless adults ages 19 through 64 with incomes between 22 and 200 percent of the FPL. Participation in HIP is voluntary, but all enrollees are required to receive medical care through the high-deductible health plans. HIP enrollees are required to help fund the $1,100 deductible by contributing to a savings account. These accounts are used by enrollees to pay for the cost of health care services until the deductible is reached; however, preventive services up to a maximum amount are exempt from this requirement. The benefits available under HIP are limited to $300,000 annually, and $1 million over a lifetime. The demonstration also included cost sharing depending on income. Demonstration Term: January 2010–September 2014 Estimated Number of People Covered: first year: 74,379; last year: 90,665 Michigan was approved under a new demonstration to continue providing a limited ambulatory benefit package through a managed care delivery system to low-income nonpregnant childless adults ages 19 through 64 years with incomes at or below 35 percent of the FPL. The benefit package included outpatient hospital services, physician services, diagnostic services, pharmacy, mental health and substance abuse services. Enrollees may be required to receive prior authorization before accessing certain ambulatory services. Demonstration Term: July 2010–December 2013 Estimated Number of People Covered:Approved Spending Limit: $105 million Missouri was approved to redirect its DSH funding to pay for four main activities in the St. Louis area: (1) health clinics that will provide services to the uninsured; (2) a health commission to manage activities related to the demonstration; and (3) a program to educate and encourage patients to use primary care rather than the emergency room. Lastly, the state was approved to expand coverage through a pilot that provides limited primary care benefits and a voucher system to provide acute hospital services to a population in the St. Louis area. Demonstration Term: January 2010–September 2014 Estimated Number of People Covered:Approved Spending Limit: $1.3 billion New Mexico was approved under a new demonstration to continue to provide coverage for nonpregnant childless adults. The eligible population is nonpregnant childless adults ages 19 to 64 years with incomes up to and including 200 percent of the FPL who are not eligible for Medicaid. Enrollees receive a comprehensive benefit package through a managed care delivery system in which premiums and copayments are required. These premiums include up to $35 for higher-income childless adults. The demonstration was designed to provide health care coverage to uninsured individuals who are unemployed, self-employed, or employed by an employer with 50 or fewer employees. Demonstration Term: January 2009–December 2013 Estimated Number of People Covered: first year: 192,778; last year: 206,540 Approved Spending Limit: $12.1 billion Rhode Island was approved to operate its entire Medicaid program under a demonstration and to continue to provide coverage to populations that were previously covered under several distinct waivers. Rhode Island was allowed to redesign its Medicaid program to provide cost-effective services that will ensure beneficiaries receive the appropriate services in the least restrictive and most appropriate setting. For example, the state was allowed to form and pay for entities dedicated to reviewing the needs of enrollees eligible for long-term care. This organization helps enrollees decide how to manage their health care needs based on a distinction given to them as “highest need,” “high need,” or “preventive.” This designation allows the state to determine which cost-effective long-term services an enrollee can receive. For example, those designated as highest-need individuals are approved to receive nursing home care while those designated as preventive are approved to receive certain home health services. The state was also approved to include other services under the demonstration, such as parenting and childbirth education classes, tobacco cessation services, and window replacement for lead- poisoned children. Demonstration Term: December 2011–September 2016 Estimated Number of People Covered: first year: 3,872,680; last year: 4,767,680 Approved Spending Limit: $142 Billion The Texas demonstration allowed the state to both expand the use of a managed care delivery system to existing covered populations and to preserve supplemental payments through the establishment of funding pools. The state was allowed to claim approximately $29 billion over the 5-year term of the demonstration on these pool payments. One pool was used to reimburse providers for uncompensated care costs, and the other was used to provide incentive payments to participating hospitals that The state also was implement and operate delivery system reforms.approved to cover children’s primary and preventive Medicaid dental services through a capitated statewide dental services program. Demonstration Term: January 2009–December 2013 Estimated Number of People Covered: first year: 25,129; last year: 40,800 Approved Spending Limit: $797 million Wisconsin obtained approval to redirect its DSH funding to expand coverage to childless adults, who are defined as individuals between the ages of 19 and 64 years with income that does not exceed 200 percent of the FPL. The program included a variety of features: a requirement for participants to complete a health needs assessment—used to match enrollees with health maintenance organizations and providers that meet the individual’s specific health care needs; tiering of health plans based on quality of care indicators; and enhanced online and telephone application tools that allow childless adults to choose from a variety of health insurance options. In addition to the contact named above, Tim Bushfield, Assistant Director; Susan Barnidge; Shirin Hormozi; Carolyn Feis Korman; Drew Long; Tom Moscovitch; Pauline Seretakis; and Hemi Tewarson made key contributions to this report. 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 Reported Billions More in Supplemental Payments in Recent Years. GAO-12-694. Washington, D.C.: July 20, 2012. Medicaid Demonstration Waivers: Recent HHS Approvals Continue to Raise Cost and Oversight Concerns. GAO-08-87. Washington, D.C.: January 31, 2008. 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 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 Wavier Projects Raise Concerns. GAO-02-817. Washington, D.C.: July 12, 2002. Medicaid Section 1115 Waivers: Flexible Approach to Approving Demonstrations Could Increase Federal Costs. GAO/HEHS-96-44. Washington, D.C.: November 8, 1995. Medicaid: States Use Illusory Approaches to Shift Program Costs to Federal Government. GAO/HEHS-94-133. Washington D.C.: August 1, 1994.

Summary: Medicaid, a $436 billion federal and state health care program for low-income individuals and families, is a significant and growing expenditure. Section 1115 of the Social Security Act authorizes the Secretary of Health and Human Services to waive certain Medicaid requirements and allow otherwise uncovered costs for demonstration projects that are likely to promote Medicaid objectives. By HHS policy, these demonstrations should be budget neutral, that is, not increase federal spending over what it would have been if the state's existing program had continued. States estimate what their spending would have been without the demonstration, and HHS approves a spending based on projected spending. GAO was asked to review HHS approval of recent Medicaid section 1115 demonstrations. GAO examined (1) the purpose of new demonstrations, and (2) the extent to which HHS's policy and process for reviewing proposed demonstration spending provide assurances that federal costs will not increase. For 10 new comprehensive demonstrations approved from January 2007 through May 2012, GAO reviewed application, approval, and budget neutrality documents provided by HHS; calculated estimated spending limits; and interviewed HHS officials. The 10 new demonstrations GAO examined expanded states' use of federal funds and implemented new coverage strategies. Arizona and Texas established funding pools to make new supplemental payments beyond what they could have made under traditional Medicaid requirements and receive federal matching funds for the payments. All 10 demonstrations were approved to use different coverage strategies or impose new cost sharing requirements, including limiting benefits or imposing deductibles for certain populations. The Department of Health and Human Services' (HHS) budget neutrality policy and process did not provide assurances that all recently approved demonstrations will be budget neutral. For 4 of 10 demonstrations GAO reviewed, HHS approved spending limits that were based on assumptions of cost growth that were higher than its benchmark rates, and that, in some cases, included costs states never incurred in their base year spending. HHS's benchmark growth rates are the lower of the state's recent growth rates or projections for Medicaid program growth nationwide. For example, HHS approved a spending limit for Arizona's demonstration using outdated information on spending--1982 data that was projected forward--that reflected significantly higher spending than what the state's Medicaid program had actually cost. For Texas, HHS approved a spending limit using a base year that included billions in costs the state had not incurred. GAO found limited support and documentation for the higher-than-benchmark limits HHS approved. If HHS had held the 4 demonstrations' spending to levels suggested by its policy, the 5-year spending limits would have been an estimated $32 billion lower than what was approved; the estimated federal share of this reduction would be about $21 billion. For 6 other demonstrations, the approved spending limits reflected the states' actual historical costs or criteria that were specified in law, which HHS followed. In examining HHS's current written budget neutrality policy, GAO found that the policy is outdated and does not include a process for assuring the reliability of the data used to set spending limits. GAO has previously suggested that Congress require HHS to improve its budget neutrality process, in part, by improving the review criteria and methods, and by documenting and making clear the basis for approved limits. In addition to these suggestions, GAO believes HHS needs to take further actions to address the findings in this report. GAO recommends that HHS update its budget neutrality policy and reexamine spending limits for the Arizona and Texas demonstrations. HHS disagreed with GAO's recommendations. GAO believes these steps are needed to improve the budget neutrality process.