Mandatory Spending

Function 550 - Health

Limit States’ Taxes on Health Care Providers

CBO periodically issues a compendium of policy options (called Options for Reducing the Deficit) covering a broad range of issues, as well as separate reports that include options for changing federal tax and spending policies in particular areas. This option appears in one of those publications. The options are derived from many sources and reflect a range of possibilities. For each option, CBO presents an estimate of its effects on the budget but makes no recommendations. Inclusion or exclusion of any particular option does not imply an endorsement or rejection by CBO.

Billions of Dollars 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2021–
Change in Outlays  
  Lower the safe-harbor threshold to 5 percent 0 0 -3 -3 -4 -4 -4 -4 -5 -5 -10 -32
  Lower the safe-harbor threshold to 2.5 percent 0 0 -17 -19 -20 -21 -23 -24 -25 -27 -56 -176
  Eliminate the safe-harbor threshold 0 0 -42 -46 -49 -52 -55 -58 -62 -65 -137 -429

This option would take effect in October 2022.

Medicaid is a joint federal-state program that pays for health care services for low-income people in various demographic groups. Both the federal and state governments share in the cost of the program. The federal government reimburses a portion of each state’s costs; the rest of the funding comes from the states’ general funds or from other state sources. Most states finance a portion of their Medicaid spending through taxes collected from health care providers. Until 1991, some states had established hold-harmless arrangements with providers, wherein they taxed only providers with large Medicaid revenues or taxed Medicaid providers at higher rates than other providers of the same type with the intention of returning the collected taxes to those providers in the form of higher Medicaid payments. Such arrangements led to large increases in federal Medicaid outlays but not to corresponding increases in states’ net costs.

In the early 1990s, the Congress required states that taxed health care providers to collect those taxes at uniform rates (regardless of the number of Medicaid patients served) from all providers of the same type (hospitals, for example). In addition, states were no longer allowed to establish hold-harmless arrangements in which they offset taxes on providers with increased Medicaid payments to those same providers. However, federal law provided for a “safe-harbor” exception, which allows a state to use hold-harmless arrangements when it collects taxes at a rate that does not exceed 6 percent of a provider’s net patient revenues.

This option consists of three alternatives. Under the first alternative, the safe-harbor threshold would be lowered to 5 percent. Under the second alternative, the threshold would be lowered to 2.5 percent. Under the third alternative, the threshold would be eliminated and no hold-harmless arrangements would be permitted. For each alternative, the Congressional Budget Office expects federal spending would decline because states would reduce their Medicaid spending in response to decreases in taxes paid by providers.