Medicaid Program; Health Care-Related Taxes, 13726-13734 [07-1331]

Agencies

• Centers for Medicare & Medicaid Services
• DEPARTMENT OF HEALTH AND HUMAN SERVICES

[Federal Register Volume 72, Number 56 (Friday, March 23, 2007)]
[Proposed Rules]
[Pages 13726-13734]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 07-1331]


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DEPARTMENT OF HEALTH AND HUMAN SERVICES

Centers for Medicare & Medicaid Services

42 CFR Part 433

[CMS 2275-P]
RIN 0938-AO80


Medicaid Program; Health Care-Related Taxes

AGENCY: Centers for Medicare & Medicaid Services (CMS), HHS.

ACTION: Proposed rule.

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[[Page 13727]]

SUMMARY: This proposed rule would revise the threshold under the 
indirect guarantee hold harmless arrangement test to reflect the 
provisions of the Tax Relief and Health Care Act of 2006, Public Law 
109-432, by providing that, when determining whether there is an 
indirect guarantee under the 2-prong test for any part of a fiscal year 
on or after January 1, 2008 through September 30, 2011, the allowable 
amount that can be collected from a health care-related tax is reduced 
from 6 to 5.5 percent of net patient revenues received by the 
taxpayers. This proposed rule would also clarify the standard for 
determining the existence of a hold harmless arrangement under the 
positive correlation test, Medicaid payment test, and the guarantee 
test (with conforming changes to parallel provisions concerning hold 
harmless arrangements with respect to provider-related donations); 
codify descriptions for two classes of health care services permissible 
under Federal statute for purposes of taxes on health care providers; 
and, remove obsolete transition period regulatory language.

DATES: To be assured consideration, comments must be received at one of 
the addresses provided below, no later than 5 p.m. on May 22, 2007.

ADDRESSES: In commenting, please refer to file code CMS-2275-P. Because 
of staff and resource limitations, we cannot accept comments by 
facsimile (FAX) transmission. You may submit comments in one of three 
ways (no duplicates, please):
    1. Electronically. You may submit electronic comments to https://
www.cms.hhs.gov/regulations/ecomments (attachments should be in 
Microsoft Word, WordPerfect, or Excel; however, we prefer Microsoft 
Word).
    2. By mail. You may mail written comments (one original and two 
copies) to the following address ONLY: Centers for Medicare & Medicaid 
Services, Department of Health and Human Services, Attention: CMS-2275-
P, P.O. Box 8017, Baltimore, MD 21244-8017.
    Please allow sufficient time for mailed comments to be received 
before the close of the comment period.
    3. By hand or courier. If you prefer, you may deliver (by hand or 
courier) your written comments (one original and two copies) before the 
close of the comment period to one of the following addresses. If you 
intend to deliver your comments to the Baltimore address, please call 
telephone number (410) 786-7195 in advance to schedule your arrival 
with one of our staff members. Room 445-G, Hubert H. Humphrey Building, 
200 Independence Avenue, SW., Washington, DC 20201; or 7500 Security 
Boulevard, Baltimore, MD 21244-1850.
    (Because access to the interior of the HHH Building is not readily 
available to persons without Federal Government identification, 
commenters are encouraged to leave their comments in the CMS drop slots 
located in the main lobby of the building. A stamp-in clock is 
available for persons wishing to retain a proof of filing by stamping 
in and retaining an extra copy of the comments being filed.)
    Comments mailed to the addresses indicated as appropriate for hand 
or courier delivery may be delayed and received after the comment 
period.

FOR FURTHER INFORMATION CONTACT: Charles Hines, (410) 786-0252 or 
Stuart Goldstein, (410) 786-0694.

SUPPLEMENTARY INFORMATION: Submitting Comments: We welcome comments 
from the public on all issues set forth in this rule to assist us in 
fully considering issues and developing policies. You can assist us by 
referencing the file code CMS-2275-P and the specific ``issue 
identifier'' that precedes the section on which you choose to comment.
    Inspection of Public Comments: All comments received before the 
close of the comment period are available for viewing by the public, 
including any personally identifiable or confidential business 
information that is included in a comment. After the close of the 
comment period, we post all electronic comments received before the 
close of the comment period on its public Web site. Comments received 
timely will be available for public inspection as they are received, 
generally beginning approximately 3 weeks after publication of a 
document, at the headquarters of the Centers for Medicare & Medicaid 
Services, 7500 Security Boulevard, Baltimore, Maryland 21244, Monday 
through Friday of each week from 8:30 a.m. to 4 p.m. To schedule an 
appointment to view public comments, phone 1-800-743-3951.

I. Background

A. General

    Title XIX of the Social Security Act (the Act) authorizes Federal 
grants to the States for Medicaid programs to provide medical 
assistance to persons with limited income and resources. While Medicaid 
programs are administered by the States, they are jointly financed by 
the Federal and State governments. The Federal government pays its 
share of medical assistance expenditures to the State on a quarterly 
basis according to a formula described in sections 1903 and 1905(b) of 
the Act. The amount of the Federal share of medical assistance 
expenditures is called Federal financial participation (FFP). The State 
pays its share of medical expenditures in accordance with section 
1902(a)(2) of the Act.
    The Medicaid Voluntary Contribution and Provider Specific Tax 
Amendments of 1991 (Pub. L. 102-234), enacted December 12, 1991, 
amended section 1903 of the Act to specify limitations on the amount of 
FFP available for medical assistance expenditures in a fiscal year when 
States receive certain funds donated from providers and revenues 
generated by certain health care-related taxes. We issued regulations 
to implement the statutory provisions concerning provider donations and 
health care-related taxes in an interim final rule (with comment 
period) published on November 24, 1992 (57 FR 55118). A final rule was 
issued on August 13, 1993 (58 FR 43156). The Federal statute and 
implementing regulations were designed to protect Medicaid providers 
from being unduly burdened by tax programs. Health care related tax 
programs that are compliant with the requirements set forth by the 
Congress create a significant tax burden for health care providers that 
do not participate in the Medicaid program or that provide limited 
services to Medicaid individuals.

B. Health Care-Related Taxes

    Section 1903(w) of the Act requires that State health care-related 
taxes must be imposed on a permissible class of health care services; 
be broad based or apply to all providers within a class; be uniform, 
such that all providers within a class must be taxed at the same rate; 
and avoid hold harmless arrangements in which collected taxes are 
returned directly or indirectly to taxpayers. Section 1903(w)(3)(E) of 
the Act specifies that the Secretary shall approve broad based (and 
uniformity) waiver applications if the net impact of the health care-
related tax is generally redistributive and that the amount of the tax 
is not directly correlated to Medicaid payments. The broad based and 
uniformity provisions are waivable through a statistical test that 
measures the degree to which the Medicaid program incurs a greater tax 
burden when a State tax program is otherwise not compliant with the 
broad based and/or uniformity requirement. The permissible class of 
health care services and hold harmless requirements cannot be waived. 
The statute and Federal regulation identify 19 permissible classes of 
health care items or services

[[Page 13728]]

that States can tax without triggering a penalty against Medicaid 
expenditures.
    The regulatory language at 42 CFR 433.68(f) sets forth tests for 
determining the presence of a hold harmless arrangement that were 
directly based on the language contained in section 1903(w)(4) of the 
Act. The preamble to that regulation provided guidance and some 
illustrative examples of the types of health care-related tax programs 
that we believed would violate the hold harmless prohibitions. In a 
June 29, 2005 decision, however, the HHS Departmental Appeals Board 
(DAB), DAB No. 1981, found that these regulations did not clearly 
preclude certain types of arrangements that we believe to be within the 
scope of the statutory hold harmless prohibition and implementing 
regulations. The DAB consequently reversed disallowances issued by CMS 
to five States. In each of these reversed disallowances, the States had 
created programs that imposed a tax on nursing homes and simultaneously 
created programs that awarded grants or tax credits to private pay 
residents of those nursing homes. These grants and/or tax credits were 
designed by the States to compensate private pay residents of nursing 
homes for the costs of the tax passed on to them by their nursing homes 
through increased charges. We concluded that the grants and tax credits 
amounted to hold harmless arrangements prohibited from FFP under the 
Medicaid statute and regulations.
    One of the hold harmless tests, set forth in current rules at Sec.  
433.68(f)(3)(i), defines arrangements that are considered to be 
prohibited indirect guarantees. Taxes imposed on health care-related 
providers may not exceed 6 percent of total revenues received by the 
taxpayers unless the State makes a showing that, in the aggregate, 75 
percent of taxpayers do not receive 75 percent or more of their total 
tax costs back in enhanced Medicaid payments or other State payments. 
States can tax individual classes of health care services and 
providers, including inpatient hospital services, outpatient hospital 
services, and nursing facility services up to 6 percent of the net 
revenues received by the taxpayers within the class of health care 
services without violating prohibitions on the indirect hold harmless 
arrangements. The 6 percent limit was established to maintain 
consistency with the average level of taxes applied to other goods and 
services in the State, as discussed in the November 24, 1992 preamble 
to the interim final rule implementing the statute.
    On December 20, 2006 the Tax Relief and Health Care Act of 2006 was 
signed into law as Public Law 109-432. Section 403 of that law 
incorporated the existing regulatory test for an indirect guarantee 
into the Medicaid statute but provided for a temporary reduction in the 
allowable tax rate under the first prong of the test. Specifically, the 
indirect hold harmless threshold has been reduced from 6 percent to 5.5 
percent effective in any portion of fiscal years beginning on or after 
January 1, 2008 and through September 30, 2011.

II. Provisions of the Proposed Rule

    [If you choose to comment on issues in this section, please include 
the caption ``PROVISIONS OF THE PROPOSED RULE'' at the beginning of 
your comments.]

A. Permissible Class of Services--Managed Care Organizations--Sec.  
433.56(a)(8)

    Section 6051 of the Deficit Reduction Act of 2005 (DRA) (Pub. L. 
109-171), enacted on February 8, 2006, amends section 1903(w)(7)(viii) 
of the Act to expand the previous Medicaid managed care organization 
(MCO) provider class to include all MCOs. The effective date of section 
6051 of the DRA is the date of enactment, that is, February 8, 2006. 
Therefore to qualify for Federal reimbursement, a State's health care-
related tax would need to apply to both Medicaid participating and non-
Medicaid participating MCOs. Previously, the statute recognized 
services of a Medicaid MCO with a contract under section 1903(m) of the 
Act as a permissible class of health care services. This particular 
class of health care services was unlike any other permissible class of 
health care services identified in statute and regulation, as it was 
the only listed class of health care services that permitted taxation 
of solely Medicaid providers of the service. In addition, MCOs that 
participated in Medicaid were beginning to use the statutory language 
to reorganize their corporate structure to protect their commercial 
lines of business from tax liability. The result of this corporate 
restructuring was that the tax was imposed on only the Medicaid 
subsidiary of the MCO. With this reorganization, States were able to 
impose a tax on only the Medicaid revenues of the MCO, effectively 
shifting the entire burden of the tax to the Medicaid program.
    We are proposing to implement the statutory amendment made in the 
section 6051 of the DRA with conforming changes to the regulatory 
provision in Sec.  433.56(a)(8). We are proposing to revise the 
regulatory language to specify that all services of MCOs (including 
health maintenance organizations and preferred provider organizations) 
regardless of payer source will be considered a permissible class of 
health care items or services for purposes of health care-related 
taxes.
    We note that the DRA provides a transition period for those States 
with existing Medicaid MCO taxes. For those States with a Medicaid MCO 
only tax enacted as of December 8, 2005, this provision becomes 
effective October 1, 2009.

B. Tests To Determine Hold Harmless Arrangements--Sec.  433.68(f)

    Currently, the regulations at Sec.  433.68(f) set forth three broad 
tests to determine if there is a hold harmless arrangement with respect 
to a health care-related tax. If States enact a tax program that 
violates any of these tests, FFP will be reduced by the amount 
collected through that tax program. As mentioned above, the recent DAB 
decision has drawn into question how the current hold harmless 
provisions will be interpreted and applied. Therefore, it is necessary 
to clarify these provisions and ensure proper implementation of section 
1903(w)(4) of the Act. We propose to continue using the same regulatory 
structure of Sec.  433.68(f), while clarifying certain terms in each of 
these hold harmless tests.
Positive Correlation Test--Sec.  433.68(f)(1)
    We propose to modify and clarify the test set forth at Sec.  
433.68(f)(1), also known as the positive correlation test. A State or 
other unit of government will violate this test if they impose a health 
care-related tax and also provide for a direct or indirect non-Medicaid 
payment and the payment amount is positively correlated to the tax 
amount or to the difference between the Medicaid payment and tax 
amount.
    This proposed rule explains that both direct and indirect payments 
to providers, or others paying a health care-related tax, will be 
analyzed in determining compliance with this test. We propose to 
interpret the phrase ``direct and indirect non-Medicaid payment'' 
broadly. These payments may take many forms, such as grants or tax 
credits, although there will undoubtedly be other types of payments 
that we have not yet anticipated. The provision of non-Medicaid 
payments may violate both the positive correlation test and the 
guarantee test, discussed further below. Our discussion of direct and 
indirect non-Medicaid payments is applicable to both tests.

[[Page 13729]]

    Determining if a direct payment exists should be readily apparent. 
When a non-Medicaid payment is made directly to a provider, and it is 
positively correlated to the tax amount, then FFP will be denied for 
the health care related tax.
    Unlike a direct payment, an indirect payment to a provider may be 
more difficult to detect. Yet, even though an indirect payment may not 
be as obvious, indirect payments that are positively correlated to a 
tax will also violate this test. An indirect payment can take many 
forms. For example, if the State imposes a health care-related tax, 
such as a tax on nursing home beds, and a provider is allowed under 
State statutes or regulations (either expressly or implicitly) to pass 
the costs of its tax onto patients through rate increases, payments by 
the State to those non-Medicaid patients that demonstrate a linkage to 
the rate increase would be an indirect payment to that provider. Under 
this example, the revenue source for the payment is not relevant in 
determining that the payment is an indirect payment. Money is fungible, 
and, as long as the payment is from a source controlled or influenced 
by the State, it will be considered in determining whether it has been 
made available as compensation for the tax. In reviewing this issue, we 
would look at whether the payment would be made by the entity for 
documented charitable or business reasons even if the State were not 
involved. We endeavored to prohibit these indirect payments in the 1993 
rules, but the recent DAB decision evidences that the original rule may 
have been unclear. This proposed rule is intended to further clarify 
the Secretary's policy. However, the purpose of this example is only to 
provide illustration of the broad scope of indirect payments. Due to 
the difficulty in predicting all possible types of indirect payments, 
this example does not limit our ability to detect other indirect 
payments in the future.
    We recognize that this test interjects some degree of subjectivity 
into this analysis. However, the Congress intended to prohibit hold 
harmless arrangements that directly or indirectly paid a taxpayer for 
the costs of a tax. Some degree of subjective analysis is inevitable in 
determining whether an indirect payment exists. We will look at all 
relevant circumstances surrounding a tax and payment program to 
determine whether a linkage exists to establish an indirect payment.
    The phrase ``positively correlated'' was defined in the 1993 final 
rule as having the ``same meaning as the statistical term.'' As is 
evidenced in the DAB decision, this definition has led to much 
confusion as to how ``positively correlated'' should be defined. 
Therefore, we would clarify that tax and payment amounts are positively 
correlated when they have a positive relationship with each other even 
when that relationship is not evidenced through a strict correlation in 
a mathematical sense. Two variables can be positively correlated even 
though the correlation may vary over time. For example, the rate of a 
tax and payment may be closely related, but, the next year, the tax 
rate might be increased while the payment might stay the same. Although 
the correlation between the two variables may have changed, it would 
still be positive since providers incurring the tax receive increased 
payments to offset the tax. For example, a State might impose a $4 a 
day occupied bed tax on nursing homes, which the homes are permitted to 
pass onto their residents in the form of rate increases. At or about 
the same time they impose the tax, the State issues a $3.75 grant (or 
tax credit) for non-Medicaid nursing home residents. A year later, the 
tax might be increased to $4.10, but the grant or tax credit might 
remain level. In such a case, a positive correlation would be found to 
exist between the grant and the tax because, in each year, there would 
be a positive correlation between the tax and grant amounts paid in 
relation to each individual service unit (bed-days) to non-Medicaid 
residents. The correlation would not be destroyed through the variation 
of one of the two variables (in tax or grant amounts). Moreover, as 
discussed above with respect to identifying indirect payments, we may 
look to extrinsic evidence, such as legislative history and 
circumstances surrounding the tax and grant programs, to establish the 
positive correlation.
    We want to make clear that a positive correlation can be discovered 
in various ways. First, a positive correlation can be found through a 
statistical, numerical test where a series of tax and payment amounts 
are analyzed to determine if there is a statistical relationship 
between both amounts. Second, a positive correlation could be found 
where the rate of a tax and the rate of a non-Medicaid payment are 
based on the same numeric factors (such as the amount of revenues, or 
bed days). Third, a positive correlation could be found based on a 
finding that the non-Medicaid payment is conditional on payment (direct 
or indirect) of the tax. In addition to these numerical tests, evidence 
of the intended effect of linked tax and payment programs may 
demonstrate that a positive correlation exists, especially when a State 
enacts the tax and/or payment programs in the same legislative session. 
Tax and payment amounts, as articulated in either statute or 
regulation, can be compared and if there is a positive relationship 
between those amounts, then the arrangement will be considered a hold 
harmless arrangement. Further, if the calculation of the payment amount 
is determined in whole or in part by the tax amount, we would also find 
that those amounts are positively correlated. The same would hold true 
if the tax amount was calculated based in whole or in part on the 
payment amount. There may be other ways that this positive relationship 
could be found, and we only provide these examples as a demonstration 
of the broad interpretation of the positive correlation test. It is 
simply impossible to anticipate all hold harmless plans that could be 
created.
Defining Tax and Payment Amounts for Hold Harmless Analyses
    We propose to clarify the definition of tax amounts and payment 
amounts for purposes of hold harmless analyses. We propose to unify 
these definitions so that they will have identical meanings in all 
three hold harmless tests. In the current rule, we use terms such as 
``amount of the payment,'' ``amount of such tax,'' ``total tax cost,'' 
and ``amount of total tax payment.'' These slightly differing phrases 
have apparently lead to confusion as to what amounts should be examined 
in determining whether a hold harmless exists. We propose that in the 
positive correlation test, as well as the other two tests, to use the 
terms ``tax amount'' and ``payment amount.''
    Although we are using standardized terminology, we intend for these 
terms to encompass all of the meanings that could previously have been 
attributed to each of the prior terms, to permit maximum flexibility in 
analyzing the relationships between tax and payment programs, depending 
on the particular circumstances presented by State tax programs. A 
relationship between a tax program and Medicaid or non-Medicaid 
payments, or a direct or indirect guarantee, could be found based 
either on the aggregate tax amount that the provider pays over a period 
of time, or on the unit tax rate that is applied for a particular 
service. Therefore, if a State statute articulates a tax rate 
applicable to each nursing home bed within a nursing home, then that 
tax rate could be used in this analysis as the tax amount. Likewise, an 
analysis could be based on aggregate payments to providers, on payments 
made on a per-

[[Page 13730]]

service basis, or on payments to individual patients. As with other 
terms that we have clarified, it is impossible to anticipate all 
permutations of what would constitute a tax or payment amount. Our 
intention is to define these terms broadly to capture new hold harmless 
arrangements as they arise.
    We also believe that standardization of the term ``tax amount'' and 
``payment amount'' in all three tests will demonstrate that money does 
not have to be expended before a hold harmless situation can be 
discovered. Therefore, we will look at the State legislation creating a 
tax and hold harmless payment program (for example, grant or tax credit 
program). If a hold harmless situation exists on the face of the 
legislation, FFP will be denied for the tax amount. It is not necessary 
for us to determine, for example, the amount of grant funds actually 
expended by a State in an effort to hold taxpayers harmless for the 
tax. It would be extremely costly and administratively burdensome for 
us to track individual monies actually paid by States in these payment 
programs. If the tax and pay back programs exist to allow for a hold 
harmless situation, such a hold harmless violation will be found.
Medicaid Payment Test--Sec.  433.68(f)(2)
    Under the current second hold harmless test, a hold harmless 
arrangement exists if all or any portion of the Medicaid payment varies 
based only on the amount of the total tax payment. For the reasons 
discussed above, we are proposing to revise this rule to use the 
standardized terminology ``tax amount.'' We are also adding a 
clarification that a Medicaid payment will be considered to vary based 
on the tax amount when the payment is conditional on the tax payment. 
In that circumstance, the variation between a payment of zero and a 
positive payment would be based only on the payment of the tax amount.
    We do not believe this clarification is inconsistent with the 
provision in section 1903(w)(4) of the Act that indicates that the 
restrictions on hold harmless arrangements does not prevent States from 
using taxes ``to reimburse health care providers in a class for 
expenditures under this title.'' Nor do we believe that this 
clarification would preclude States that use cost-based payment 
mechanisms from including provider tax costs as one of many provider 
costs that are considered in setting individualized provider rates. But 
this clarification would affect States that seek to use rates that are 
based solely on the receipt of provider taxes, rather than on overall 
provider costs (such as supplemental payments conditioned on receipt of 
taxes). Where Medicaid payment is conditioned on receipt of taxes, we 
would view the payment to be, in part or in full, to repay the taxes in 
a hold harmless arrangement rather than as a protected reimbursement 
for costs of Medicaid services.
    This clarification is thus necessary to ensure that Medicaid 
payments are not made simply to repay providers for the tax, but also 
to ensure the integrity of the development of sound payment rates in 
compliance with the requirements of section 1902(a)(30) of the Act. If 
Medicaid payments are conditional on receipt of particular tax amounts, 
it is an indication that the Medicaid payment rate would not otherwise 
be consistent with efficiency, economy, and quality of care, and is 
based solely on the return of funding received through the tax program. 
The proposed language would, however, limit the ability of States to 
expressly condition payment rates on tax receipts rather than on a 
process that determines rates that are consistent with efficiency, 
economy and quality of care in compliance with section 1902(a)(30)(A) 
of the Act.
Guarantee Test--Sec.  433.68(f)(3)
    Under the current third hold harmless test, a hold harmless 
arrangement exists if there is a direct or indirect guarantee that 
holds taxpayers harmless for any portion of their tax cost. We propose 
to clarify this test to specify that a State can provide a direct or 
indirect guarantee through a direct or indirect payment. An indirect 
guarantee can be found based on the test as explained and modified 
below. A direct guarantee will be found when a State payment is made 
available to a taxpayer or a party related to the taxpayer (for 
example, as a nursing home resident is related to a nursing home), in 
the reasonable expectation that the payment would result in the 
taxpayer being held harmless for any part of the tax. A direct 
guarantee does not need to be an explicit promise or assurance of 
payment. Instead, the element necessary to constitute a direct 
guarantee is the provision for payment by State statute, regulation, or 
policy.
    An indirect payment to the taxpayer would also constitute a direct 
guarantee. One such example of this indirect payment providing a direct 
guarantee would be found where a State imposing a tax on nursing 
facilities provided grants or tax credits to private pay residents of 
those facilities that could be used to compensate those residents for 
any portion of the tax amount that the State has allowed to be passed 
down to them by their nursing homes. This represents a direct guarantee 
of an indirect payment to taxpayers. Additionally, we interpret the 
phrase ``all or any portion of the tax amount'' to mean that a 
guarantee exists when a taxpayer is assured that money will be made 
available for repayment for any identifiable portion of the tax 
liability.
    An indirect guarantee is distinct from a direct guarantee in that 
the payment to the provider is through regular or enhanced payments for 
pre-existing Medicaid obligations. We discuss indirect guarantees 
separately below.

C. Indirect Guarantee Hold Harmless Arrangements

    Currently, under Sec.  433.68(f)(3)(i) an indirect hold harmless 
violation is determined using a two pronged test. If a health care-
related tax or taxes are applied at a rate that produces revenues less 
than 6 percent of the revenues received by the taxpayers, the tax or 
taxes will not be in violation of the indirect hold harmless provision. 
If a health care-related tax or taxes exceed a 6 percent rate, we would 
consider a hold harmless to exist if 75 percent or more of the 
taxpayers in the class receive 75 percent or more of their total tax 
back in enhanced Medicaid payments or other State payments. The second 
prong of this test applies the test in the aggregate to all health 
care-related taxes applicable to each class. Moreover, in applying this 
test, we may consider as ``enhanced Medicaid payments'' any amount that 
any branch of the State, including legislative and executive branches, 
has indicated could be subject to reduction in the absence of provider 
tax revenues.
    The Tax Relief and Health Care Act of 2006 has lowered the maximum 
threshold under the indirect hold harmless provision from 6 percent of 
net patient service revenue to 5.5 percent effective in fiscal years 
beginning on or after January 1, 2008 through September 30, 2011, prior 
to a State being required to demonstrate the second prong of the 
indirect hold harmless provision.

D. Permissible Class of Services--Intermediate Care Facilities for the 
Mentally Retarded--Sec.  433.56(a)(4)

    In the interim final rule with comment that implemented Medicaid 
Voluntary Contribution and Provider Specific Tax Amendments of 1991, 
the statutory class of health care items and services at section 
1903(w)(7)(iv) of the Act for services of intermediate care facilities 
for the mentally retarded (ICF/MR) was expanded to include similar 
services furnished by community-based

[[Page 13731]]

residences for the mentally retarded under a waiver under section 
1915(c) of the Act, in a State in which, as of December 24, 1992, at 
least 85 percent of those facilities were classified as ICF/MRs before 
the grant of the waiver. These services furnished by the residences 
were added because, ``in some States, many former ICF/MRs were 
converted to group homes under the waivers. These facilities could 
easily be converted back to ICF/MRs.'' This exception was very narrow 
and was only intended to capture those States that, before the issuance 
of the interim final rule December 24, 1992, were granted waivers that 
converted existing ICF/MRs to community-based residences.
    We no longer believe that it is appropriate to include community 
residences in the ICF/MR class even to the extent of this narrow 
exception. We are no longer concerned that States will convert group 
homes back to ICF/MRs because of the general success of the home and 
community based services program. As important, it is not equitable to 
accord different treatment to States that converted ICF/MRs before 
December 24, 1992 than to other States. Therefore, we are clarifying at 
Sec.  433.56(a)(4) the permissible class for purposes of health care-
related taxes to those services of ICF/MRs.

E. Hold Harmless Tests for Determining Bona Fide Provider Related 
Donations

    At Sec.  433.54(c), the regulations contain tests for hold harmless 
arrangements with respect to provider-related donations that are 
similar to those with respect to provider taxes. For the reasons 
discussed above with respect to provider taxes, we are proposing 
parallel revisions to this section. We note that, similar to the 
provisions concerning provider taxes, we intend that a hold harmless 
arrangement would be found without regard to whether the transfers of 
funds that are the basis for the donation or the repayment are 
collected or distributed through third parties (such as patients, 
provider associations, or other entities).

F. Miscellaneous

    Section 1903(w) of the Act, as added by the Medicaid Voluntary 
Contribution and Provider Specific Tax Amendments of 1991, became 
effective January 1, 1992. However, section 1903(w)(1)(C)(ii) of the 
Act provided for transition periods during which, under certain 
circumstances, States could receive, without a reduction in FFP, 
revenues from provider-related donations and impermissible health care-
related tax programs in effect before the enactment of the Medicaid 
Voluntary Contribution and Provider Specific Tax Amendments of 1991. 
The requirements related to these transition periods are currently 
located in various sections of the current regulation from Sec.  433.58 
through Sec.  433.68. The last transition period expired in 1993.
    We are proposing to remove from within the regulatory text all 
references to collection of provider-related donations and health care-
related taxes during the transition periods since all transition 
periods have expired. We believe this would create a more streamlined 
regulation that is easier to read.

III. Collection of Information Requirements

    This document does not impose information collection and 
recordkeeping requirements. Consequently, it need not be reviewed by 
the Office of Management and Budget under the authority of the 
Paperwork Reduction Act of 1995 (44 U.S.C. 35).

IV. Response to Comments

    Because of the large number of public comments we normally receive 
on Federal Register documents, we are not able to acknowledge or 
respond to them individually. We will consider all comments we receive 
by the date and time specified in the DATES section of this preamble, 
and, when we proceed with a subsequent document, we will respond to the 
comments in the preamble to that document.

V. Regulatory Impact Analysis

    [If you choose to comment on issues in this section, please include 
the caption ``Regulatory Impact Analysis'' at the beginning of your 
comments.]

A. Overall Impact

    We have examined the impact of this rule as required by Executive 
Order 12866 (September 1993, Regulatory Planning and Review), the 
Regulatory Flexibility Act (RFA) (September 19, 1980, Pub. L. 96-354), 
section 1102(b) of the Social Security Act, the Unfunded Mandates 
Reform Act of 1995 (Pub. L. 104-4), and Executive Order 13132.
    Executive Order 12866 (as amended by Executive Order 13258, which 
merely reassigns responsibility of duties) directs agencies to assess 
all costs and benefits of available regulatory alternatives and, if 
regulation is necessary, to select regulatory approaches that maximize 
net benefits (including potential economic, environmental, public 
health and safety effects, distributive impacts, and equity). A 
regulatory impact analysis (RIA) must be prepared for major rules with 
economically significant effects ($100 million or more in any 1 year). 
This rule would surpass the economic threshold and is considered a 
major rule. This rule is estimated to reduce Federal Medicaid outlays 
by $85 million in FY 2008 and by $115 million per year in FY 2009 
through FY 2011.
    The RFA requires agencies to analyze options for regulatory relief 
of small businesses. For purposes of the RFA, small entities include 
small businesses, nonprofit organizations, and small governmental 
jurisdictions. Most hospitals and most other providers and suppliers 
are small entities, either by nonprofit status or by having revenues of 
$6 million to $29 million in any 1 year. Individuals and States are not 
included in the definition of a small entity. We are not preparing an 
analysis for the RFA because the regulation will not have a direct 
impact on small entities. In this case the regulation directly affects 
payments the States receive from the Federal government and the impact 
on health care facilities is a secondary impact.
    While the impact on health care facilities is secondary, we 
nevertheless discuss the potential impact on small entities. First, the 
reduced tax limit proposed under this rule would help alleviate tax 
burdens on small health care facilities, to the extent they were 
subject to a health care-related tax. If States choose to maintain 
reimbursement rates, small health care facilities may receive higher 
net Medicaid reimbursement in light of the reduced tax burden. However, 
States may be unwilling to maintain reimbursement rates without the 
full revenue from the health care-related tax to contribute to the non-
Federal share. If States choose to reduce Medicaid reimbursement rates 
to small health care facilities, this could result in lower net 
Medicaid reimbursement even after accounting for a reduction in the tax 
burden.
    Since we are uncertain how States will alter their Medicaid 
reimbursements in response to the reduced tax limit, we cannot provide 
an exact and quantifiable impact on such small entities. For this 
reason, we would like to specifically solicit public comment on the 
impact this rule would have on small health care facilities.
    In addition, section 1102(b) of the Act requires us to prepare a 
regulatory impact analysis if a rule may have a direct impact on the 
operations of a substantial number of small rural hospitals. This 
analysis must conform to the provisions of section 603 of the

[[Page 13732]]

RFA. For purposes of section 1102(b) of the Act, we define a small 
rural hospital as a hospital that is located outside of a Metropolitan 
Statistical Area and has fewer than 100 beds. We are not preparing an 
analysis for section 1102(b) of the Act because we have determined that 
this rule would not have a direct impact on the operations of a 
substantial number of small rural hospitals.
    Section 202 of the Unfunded Mandates Reform Act of 1995 also 
requires that agencies assess anticipated costs and benefits before 
issuing any rule whose mandates require spending in any 1 year of $100 
million in 1995 dollars, updated annually for inflation. That threshold 
level is currently approximately $120 million. This rule would not 
result in expenditure in any 1 year by State, local, or tribal 
governments, in the aggregate, or by the private sector, of $120 
million.
    Executive Order 13132 establishes certain requirements that an 
agency must meet when it promulgates a proposed rule (and subsequent 
final rule) that imposes substantial direct requirement costs on State 
and local governments, preempts State law, or otherwise has Federalism 
implications. While this regulation would reduce the threshold rate for 
allowable provider taxes from 6 percent to 5.5 percent, this change is 
required by section 403 of the Tax Relief and Health Care Act of 2006. 
This section of the statute was self-implementing on December 20, 2006; 
however, this rulemaking is necessary to include the reduction in the 
regulatory text, therefore ensuring consistency with applicable law and 
thus minimizing any confusion. Furthermore, we do not believe the 
discretionary requirements put in place by this rulemaking would impose 
substantial direct requirements or costs on State and local 
governments.

B. Anticipated Effects

      Estimated Reduction in Federal Medicaid Outlays Resulting From the Provider Tax Reform Proposal Being
                               Implemented by CMS-2275-P--Annual Expected Savings
                                              [Amounts in millions]
----------------------------------------------------------------------------------------------------------------
 
----------------------------------------------------------------------------------------------------------------
                                                            Reduction in Federal Medicaid outlays in
                                                                            millions
----------------------------------------------------------------------------------------------------------------
                                                                           Fiscal year
----------------------------------------------------------------------------------------------------------------
                                                              2008       2009       2010       2011       2012
----------------------------------------------------------------------------------------------------------------
Provider Tax Reform......................................         85        115        115        115          0
3% discount rate.........................................         83        108        105        102          0
7% discount rate.........................................         79        100         94         88          0
----------------------------------------------------------------------------------------------------------------

Accounting Statement
    As required by OMB Circular A-4 (available at https://
www.whitehouse.gov/omb/circulars/a004/a-4.pdf), in the table below, we 
have prepared an accounting statement showing the classification of the 
expenditures associated with the provisions of this proposed rule. This 
table provides our best estimate of the reduction in Federal Medicaid 
outlays for the years 2008 through 2012 as a result of the changes 
presented in this proposed rule. This rule only affects transfer 
payments between the Federal government and State governments.

                       OMB--Statement of Accounts
------------------------------------------------------------------------
  Annualized monetized transfers  (in
               millions)
------------------------------------------------------------------------
3%.....................................  87 per year.
7%.....................................  88 per year.
------------------------------------------------------------------------

Provider Tax Reform
1. Effects on State Medicaid Programs
    Estimates of the impact of lowering the maximum allowable provider 
taxes, fees, and assessments were derived from Medicaid financial 
management reports on State receipts from these programs (form CMS-
64.11). Since we do not believe that all States report completely their 
tax receipts from health care-related taxes on the form CMS-64.11, we 
bolstered our estimates by also analyzing information reported by some 
States as part of their request for waiver of the broad-based and/or 
uniformity requirements. These requests include estimated total tax 
collections and total net revenues received by taxpayers applicable to 
a permissible class of health care services. From this available 
information, we identified 15 whose receipts as of the date of the 
reports were believed to equal the maximum threshold of 6 percent of 
net patient service revenue. In accordance with the new statutory 
language to reduce the maximum threshold from 6 to 5.5 percent, FFP 
corresponding to these receipts would be reduced by 8.33 percent [(1-
0.55/6.0) x 100]. As described below, there are a number of avenues 
available for States to address these reductions. Accordingly, in 
estimating the potential Federal savings, we applied a behavioral 
offset of 50 percent to the savings calculated from reported data as 
described above. In accordance with the statute, savings were estimated 
only for portions of fiscal years beginning January 1, 2008 and ending 
September 30, 2011.
    States have a number of options open to them for addressing the 
reduction in FFP. In order to maintain existing reimbursement rates 
funded by a health care related tax in excess of the 5.5 percent 
threshold, they can restructure State spending and shift funds between 
programs. This could result in loss of State funding for other 
programs. States may also be able to raise funds through increases in 
other forms of generally applicable tax revenue increases. This could 
raise tax costs for other taxpaying entities within States. Finally, 
States, as a last resort, can reduce reimbursement to the taxpaying 
health care providers.
    We are uncertain which options States may employ to address this 
change.
2. Effects on Other Providers
    The reduced tax limit proposed under this rule would help alleviate 
tax burdens on health care providers for obligations to the Medicaid 
program that are otherwise the responsibility of the States. However, 
if States choose to reduce reimbursement rates to health care 
providers, this could result in lower net Medicaid reimbursement for 
the provider even after accounting for reduction in the tax burden. On 
the other hand, if States choose to maintain reimbursement rates by 
finding other non-Federal share sources to support the Medicaid 
reimbursement rates, providers may receive higher net

[[Page 13733]]

Medicaid reimbursement in light of the reduced tax burden.

C. Alternatives Considered

    In developing this regulation the following alternatives were 
considered. First, the existing regulatory threshold percentage of 6 
percent could be maintained. Second, we considered reducing the 
regulatory threshold to 3 percent because we have noticed a recent 
trend in States' efforts to maximize non-Federal share funding 
opportunities under current Medicaid law through taxation of health 
care providers.
    The result has been that the Federal government is providing 
matching funds on Medicaid rate increases that are funded without 
additional State dollars but instead, with revenues collected from 
taxes on health-care providers. This shift in fiscal responsibilities 
is typically accompanied by creative payment mechanisms that 
effectively place a disproportionate burden on the Medicaid program 
relative to other payers. In this way, States are avoiding their 
payment responsibilities to the Medicaid program by shifting their 
share of the increased Medicaid payment rate obligations to the same 
health care providers serving Medicaid beneficiaries.
    The current trend in States' approach to taxing health care 
providers appears to start with a determination of the maximum amount 
of tax revenue that can be collected from health care providers. We 
have seen this particularly in State health care-related tax programs 
targeting high Medicaid utilized services solely as the basis for 
increasing Medicaid rates to those same providers.
    States appear to be exercising their ability under the law to 
request waivers of the broad based and/or uniformity requirements of 
the provider tax law in an effort to minimize the tax burden on 
facilities that furnish little to no services to Medicaid patients. 
Although we would only approve such a waiver request within the 
allowable regulatory standards, States requesting the waivers continue 
to propose taxes that collect the maximum 6 percent limit and vary the 
rate of tax to minimize the tax burden on non-Medicaid facilities 
within the slightest margin allowable under current regulations. Most 
waiver requests are initially submitted applicable to a tax structure 
that is inconsistent with the Federal statute and regulations. This 
requires CMS to provide ongoing feedback and assistance to States. 
States ultimately deviate from their initial tax structure until they 
are able to reach an optimal tax structure that enables them to gain 
approval while maximizing the non-Medicaid tax burden.
    Through our review of these practices, we have also noticed that 
many States are applying the current statutory and regulatory authority 
that permits the exclusion of Medicare revenue from a health care-
related tax, which effectively raises the rate of tax on only the 
Medicaid revenues and commercial/private pay revenues above the 
aggregate 6 percent limit (measured on all payers' revenues). We have 
also seen an increase in the tax revenues collected through our 
examination of the revenues reported by States on the CMS 64.11A. Based 
on a review of recent quarterly expenditures, States reported the 
collection of over $2.2 billion in tax revenues from health care 
providers.
    However, since the Tax Relief and Health Care Act of 2006 reduced 
the regulatory threshold to 5.5 percent, none of the above mentioned 
alternatives were taken.

D. Conclusion

    For these reasons, we are not preparing analysis for either the RFA 
or section 1102 (b) of the Act because we have determined that this 
rule would not have a direct significant economic impact on a 
substantial number of small entities or a direct significant impact on 
the operations of a substantial number of small rural hospitals.
    In accordance with the provisions of Executive Order 12866, this 
regulation was reviewed by the Office of Management and Budget.

List of Subjects in 42 CFR Part 433

    Administrative practice and procedure, Child support, Claims, Grant 
programs-health, Medicaid, Reporting and recordkeeping requirements.

    For the reasons set forth in the preamble, the Centers for Medicare 
& Medicaid Services proposes to amend 42 CFR chapter IV as follows:

PART 433--STATE FISCAL ADMINISTRATION

    1. The authority citation for part 433 continues to read as 
follows:

    Authority: Sections 1902(a)(2), 1903(a) and 1903(w) of the 
Social Security Act (42 U.S.C. 1302).

Subpart B--General Administrative Requirements State Financial 
Participation

    2. Section 433.54 is amended by revising paragraph (c) to read as 
follows:


Sec.  433.54  Bona fide donations.

* * * * *
    (c) A hold harmless practice exists if any of the following 
applies:
    (1) The State (or other unit of government) provides for a direct 
or indirect non-Medicaid payment to those providers or others making, 
or responsible for, the donation, and the payment amount is positively 
correlated to the donation. A positive correlation includes any 
positive relationship between these variables, even if not consistent 
over time.
    (2) All or any portion of the Medicaid payment to the donor, 
provider class, or related entity, varies based only on the amount of 
the donation, including where Medicaid payment is conditional on 
receipt of the donation.
    (3) The State (or other unit of government) receiving the donation 
provides for any direct or indirect payment, offset, or waiver such 
that the provision of that payment, offset, or waiver directly or 
indirectly guarantees to return any portion of the donation to the 
provider (or other parties responsible for the donation).
* * * * *
    3. Section 433.56 is amended by--
    A. Republishing the introductory text to paragraph (a).
    B. Revising paragraph (a)(4).
    C. Revising paragraph (a)(8).
    The revisions read as follow:


Sec.  433.56  Classes of health care services and providers defined.

    (a) For purposes of this subpart, each of the following will be 
considered as a separate class of health care items or services:
* * * * *
    (4) Intermediate care facility services for the mentally retarded;
* * * * *
    (8) Services of managed care organizations (including health 
maintenance organizations, preferred provider organizations);
* * * * *


Sec.  433.57  [Amended]

    4. Section Sec.  433.57 is amended by--
    A. Removing paragraph (a).
    B. Redesignating existing paragraphs (b) and (c) as paragraphs (a) 
and (b), respectively.


Sec.  433.58  [Removed and reserved]

    5. Section 433.58 is removed and reserved.


Sec.  433.60  [Removed and reserved]

    6. Section 433.60 is removed and reserved.
    7. Section 433.66 is amended by--
    A. Revising the section heading.

[[Page 13734]]

    B. Revising paragraph (a).
    The revisions read as follows:


Sec.  433.66  Permissible provider-related donations.

    (a) General rule. (1) Except as specified in paragraph (a)(2) of 
this section, a State may receive revenues from provider-related 
donations without a reduction in FFP, only in accordance with the 
requirements of this section.
    (2) The provisions of this section relating to provider-related 
donations for outstationed eligibility workers are effective on October 
1, 1992.
* * * * *
    8. Section 433.67 is amended by revising paragraph (a)(2) to read 
as follows:


Sec.  433.67  Limitations on level of FFP for permissible provider-
related donations.

    (a)(1) * * *
    (2) Limitations on donations for outstationed eligibility workers. 
Effective October 1, 1992, the maximum amount of provider-related 
donations for outstationed eligibility workers, as described in Sec.  
433.66(b)(2), that a State may receive without a reduction in FFP may 
not exceed 10 percent of a State's medical assistance administrative 
costs (both the Federal and State share), excluding the costs of family 
planning activities. The 10 percent limit for provider-related 
donations for outstationed eligibility workers is not included in the 
limit in effect through September 30, 1995, for health care-related 
taxes as described in Sec.  433.70.
* * * * *
    9. Section 433.68 is amended by--
    A. Revising the section heading.
    B. Revising paragraph (a).
    C. Republishing paragraph (f) introductory text.
    D. Revising paragraphs (f)(1), (f)(2), (f)(3) introductory text, 
and (f)(3)(i).
    The revisions read as follows:


Sec.  433.68  Permissible health care-related taxes.

    (a) General rule. A State may receive health care-related taxes, 
without a reduction in FFP, only in accordance with the requirements of 
this section.
* * * * *
    (f) Hold harmless. A taxpayer will be considered to be held 
harmless under a tax program if any of the following conditions 
applies:
    (1) The State (or other unit of government) imposing the tax 
provides for a direct or indirect non-Medicaid payment to those 
providers or others paying the tax and the payment amount is positively 
correlated to either the tax amount or to the difference between the 
Medicaid payment and the tax amount. A positive correlation includes 
any positive relationship between these variables, even if not 
consistent over time.
    (2) All or any portion of the Medicaid payment to the taxpayer 
varies based only on the tax amount, including where Medicaid payment 
is conditional on receipt of the tax amount.
    (3) The State (or other unit of government) imposing the tax 
provides for any direct or indirect payment, offset, or waiver such 
that the provision of that payment, offset, or waiver directly or 
indirectly guarantees to hold taxpayers harmless for all or any portion 
of the tax amount.
    (i) An indirect guarantee will be determined to exist under a two 
prong ``guarantee'' test. If the health care-related tax or taxes on 
each health care class are applied at a rate that produces revenues 
less than or equal to 6 percent of the revenues received by the 
taxpayer, the tax or taxes are permissible under this test, except 
that, for any portion of a fiscal year beginning on or after January 1, 
2008 through September 30, 2011, the applicable percentage of net 
operating revenues is 5.5 percent. When the tax or taxes produce 
revenues in excess of the applicable percentage of the revenue received 
by the taxpayer, CMS will consider an indirect hold harmless provision 
to exist if 75 percent or more of the taxpayers in the class receive 75 
percent or more of their total tax costs back in enhanced Medicaid 
payments or other State payments. The second prong of the indirect hold 
harmless test is applied in the aggregate to all health care taxes 
applied to each class. If this standard is violated, the amount of tax 
revenue to be offset from medical assistance expenditures is the total 
amount of the taxpayers' revenues received by the State.
* * * * *


Sec.  433.70  [Amended]

    10. Section 433.70 is amended by--
    A. Revising the section heading.
    B. Removing paragraph (a)(1).
    C. Removing the paragraph designation for existing paragraph 
(a)(2).
    The revised heading reads as follows:


Sec.  433.70  Limitation on level of FFP for revenues from health care-
related taxes.

* * * * *
(Catalog of Federal Domestic Assistance Program No. 93.778, Medical 
Assistance Program.)

    Dated: September 8, 2006.
Mark B. McClellan,
Administrator, Centers for Medicare & Medicaid Services.
    Approved: January 24, 2007.
Michael O. Leavitt,
Secretary.
[FR Doc. 07-1331 Filed 3-15-07; 4:00 pm]
BILLING CODE 4120-01-P