Medicaid and SCHIP are the nation’s largest health-financing programs for low-income people, accounting for about $232 billion in federal and state expenditures in 2001 to cover about 40 million people. Medicaid was established in 1965 under title XIX of the Social Security Act to provide health care coverage to certain categories of low-income families and aged and disabled individuals. SCHIP was established in 1997 under title XXI of the Social Security Act to provide health care coverage to children living in low-income families whose incomes exceed the eligibility requirements for Medicaid. Both are federal-state programs whereby, within broad federal guidelines, states have considerable flexibility in whom and what they cover. Medicaid establishes a framework that states must follow in order to receive federal funding, known as federal matching payments, for a share of a state’s Medicaid program expenditures. States are required to cover certain groups of individuals and offer a minimum set of services, such as physician, hospital, and nursing facility services, as well as early and periodic screening, diagnostic, and treatment (EPSDT) services for individuals under the age of 21. States can also receive federal matching payments to cover additional optional groups of individuals. For example, while states are required to cover children under age 6 in families with incomes at or below 133 percent of the federal poverty level (FPL), children in families above this level may also be covered at a state’s option. States may also choose to provide optional services—such as vision and dental services and prescription drugs—but if they do so, they must provide the same benefits to all covered beneficiaries. At present, nearly two-thirds of Medicaid expenditures are for optional populations and services, largely for long-term care services. Medicaid is an open- ended entitlement, meaning the federal government will pay its share of state expenditures for people covered under a state’s approved Medicaid plan, and enrollment for those eligible cannot be limited. Like Medicaid, SCHIP is administered by states under broad federal guidelines to offer coverage to children in families with incomes up to 200 percent of the FPL who do not qualify for Medicaid. The federal government pays a higher share of states’ expenditures under SCHIP than under Medicaid. SCHIP programs must provide a benefit package that meets certain standards. In contrast to Medicaid, SCHIP is not an open- ended entitlement. The Congress in 1997 appropriated a fixed amount for the program—specifically, $40 billion in federal matching funds over 10 years (fiscal years 1998 through 2007) for SCHIP purposes. Annual allotments are made to states for use over a 3-year period and the Secretary is required to determine an appropriate procedure for redistributing the unused SCHIP funds to those states that have already spent their SCHIP allotments. In certain circumstances states may restrict enrollment if their allotment of federal funds has been expended, but to date, SCHIP spending for most states has fallen well below allotment levels for a variety of reasons. According to the Congressional Research Service, despite the fact that 42 states began their SCHIP programs in late 1997 or 1998, new programs take time to get off the ground and the participation rates have been lower than expected. Section 1115 of the Social Security Act gives the Secretary of HHS broad authority to (1) allow states to provide services or cover individuals not normally eligible for Medicaid and SCHIP, and (2) provide federal funds for services and populations not otherwise eligible for a federal match. Title XIX governing Medicaid is one of several titles to which section 1115 specifically applies, and the Congress, in establishing SCHIP, extended section 1115 to SCHIP “in the same manner” as it applies to Medicaid. According to one report, in 2001 more than 20 percent of total federal Medicaid spending was governed by section 1115 demonstration terms and conditions rather than usual Medicaid rules. Past demonstrations have significantly influenced the development of Medicaid policy, for example, by allowing states to restrict the enrollment of beneficiaries to managed care. The first statewide section 1115 waiver was approved for Arizona in 1982, requiring managed care for all beneficiaries and paying health plans a fixed amount per person to provide all covered services. Other examples of large-scale changes approved through waivers include programs begun in Oregon and Tennessee in the early 1990s. Recognizing its fiduciary obligations, HHS has since the early 1980s required that states justify that their section 1115 waiver demonstrations will not cost the federal government more money than the programs would have cost without the waivers. However, we have previously reported that section 1115 demonstration waivers approved for several states in the mid-1990s were not budget neutral. HHS’s HIFA initiative, using the section 1115 authority, gives states flexibility to increase cost sharing and reduce benefits for some program beneficiaries in order to help fund coverage for uninsured populations within existing Medicaid and SCHIP program resources. HIFA allows states to provide different benefit packages to different groups of people covered under the waiver. To be considered, proposals must be statewide and seek to coordinate coverage with private health insurance options for low-income uninsured individuals. Responding to states’ expressed concerns about HHS’s prolonged review process for pending waivers, HHS has promised more expedited reviews and decisions. To facilitate this, as part of its HIFA initiative HHS has developed a standard template for states to use in applying for the waivers. Like HIFA, the Pharmacy Plus initiative uses section 1115 waiver authority. The Secretary introduced the Pharmacy Plus initiative in January 2002 to encourage states to provide pharmacy benefits to low- income elderly populations. While HHS has described the initiative in budget and other documents, it has not published an application template and policy guidelines. Since HHS announced the HIFA initiative in August 2001, states submitted 13 proposals for section 1115 demonstration waivers designed to respond to HHS’s goals of covering more low-income uninsured individuals and expanding pharmacy benefits as of May 1, 2002. Eight of these 13 are designed to expand coverage for the uninsured, including 6 HIFA applications and 2 expansions that were not submitted in HIFA format, that is, using the HIFA template and following all of the HIFA principles. Five waivers proposed to expand pharmacy benefits, as envisioned by the Pharmacy Plus initiative. As of May 1, HHS had approved 4 of the proposals: 2 HIFA waivers for Arizona and California; an expansion offering primary and preventive care for the uninsured in Utah; and a pharmacy benefit waiver in Illinois. The remaining proposals were still under review as of early June 2002. HHS has approved four section 1115 demonstration waivers to expand coverage for the uninsured and pharmacy benefits since August 2001. Formal review times for three of these four waivers, which averaged just 3-½ months (109 days), ranged from 60 days for the Utah application to 182 days for the Illinois pharmacy demonstration. These review times compare with roughly 10 months’ review, on average, for approved section 1115 waivers submitted in 2000 or earlier. These average review times do not include preliminary discussions and reviews of draft proposals and concept papers that state and federal officials indicated occurred for varying lengths of time before formal application, depending on the particular waiver. The HIFA demonstrations approved for California and Arizona both allow expansions using unspent SCHIP funds, but the two differ in the populations to be added. The California waiver will add coverage for uninsured low-income parents, caretaker relatives, and legal guardians of children who are enrolled in Medicaid and SCHIP, testing whether covering these individuals will increase enrollment of eligible children and improve their continuity of care. The approved Arizona waiver will use unspent SCHIP funds to cover childless adults as well as parents of Medicaid and SCHIP children. HHS’s terms and conditions for the approved Arizona waiver specify that SCHIP children are the first priority for coverage, then parents of SCHIP- and Medicaid-enrolled children, and last priority, childless adults. Arizona was, however, allowed to retroactively cover childless adults effective November 2001, and parental coverage is not required until October 2002. In response to an objective of the HIFA initiative, both the Arizona and California waiver approvals include feasibility studies of whether and how an employer-sponsored insurance component might be incorporated into the demonstrations. The Utah waiver will expand coverage to some formerly uninsured adults for primary care and preventive services, but exclude other services, such as inpatient hospital and specialist care. In addition to enrollment fees and cost sharing for services used by this expansion population, the waiver will be funded by increased cost sharing and limits on some optional services for certain groups of currently eligible adults, including some with mandatory eligibility. Among the optional services being limited are mental health services, vision screening, and physical therapy. Illinois received approval for the first Pharmacy Plus waiver. The Illinois Senior Care program will expand pharmacy coverage to low-income seniors, most of whom participate in an existing state-funded pharmacy benefits program. The premise as to how the waiver program can be implemented without committing additional federal resources is that expanded access to medically necessary drugs will help keep seniors healthier and avoid medical expenses, including hospitalization and nursing home placement, that would reduce their incomes to the level of Medicaid eligibility. Table 1 presents highlights about the section 1115 waivers approved for Arizona, California, Utah, and Illinois. (See app. I for further details about these four waiver programs.) As of June 3, 2002, 9 of the 13 section 1115 waiver proposals to expand coverage and pharmacy benefits were still under review by HHS (see app. II for highlights of these proposals). Most were submitted since January 2002. These proposals included pending HIFA applications from Illinois, Maine, Michigan, and New Mexico. Three of these proposals would use unspent federal SCHIP funds to expand coverage to various groups, including children, parents, and in some cases, childless adults. Most of the HIFA applications require increased cost sharing for the expansion groups, and one proposal would reduce benefits for an optional eligibility group.