The proposed regulation would revise Medicaid's "upper payment limit" rules, stopping states from using certain accounting techniques to inappropriately obtain extra federal Medicaid matching funds that are not necessarily spent on health-care services for Medicaid beneficiaries. The changes would be phased in to allow states time to adjust their Medicaid programs to meet the new requirements. The proposal also allows a continued higher limit on payments for public hospitals in recognition of their critical role in serving low-income patients. States will have an opportunity to comment on all aspects of the proposal before it is finalized.

"We cannot stand by while billions of taxpayer dollars are used without the accountability that federal taxpayers deserve," Secretary Shalala said. "However well-intentioned some states may have been, the practice today clearly constitutes an abuse of the Medicaid system. States and the federal government must operate the Medicaid program in a fiscally sound manner that serves both Medicaid patients and the taxpayers who support the program."

Medicaid is a state and federal partnership that pays for health-care services to certain low-income families and individuals, including children and elderly nursing-home residents. Each state administers its Medicaid program within the general requirements of federal law and regulations, and the state and federal governments share the cost of the program.

Under current Medicaid regulations, states have broad flexibility in setting the Medicaid rates that they pay to nursing homes, hospitals, and other providers. Specifically, the "upper payment limit" requirements allow states to pay facilities in aggregate as much as Medicare would pay for the same services. States also can set varied payment rates for public and private providers.

Some states are using this flexibility to pay excessive rates to a few county or municipal facilities. After the state claims federal matching funds based on those payments, it can require those facilities to return some or all of the extra money for other uses in the state, often unrelated to Medicaid and in some cases unrelated to health care at all. The proposal would still allow states to make higher Medicaid payments to public hospitals, which often serve sicker patients who are less likely to have any health coverage at all.

The HHS Inspector General is conducting a review of the ways several states have used the extra money generated through this loophole. "We believe that manipulation by states of the upper payment limit requirements undermines the financial integrity of the Medicaid program," said Inspector General June Gibbs Brown.

The use of this loophole has grown rapidly in the past year. Twenty states now have approved plans. These practices have accounted for nearly $2 billion in increased Medicaid costs in Fiscal Year 2000 alone. Further expansion of these practices could cost federal taxpayers tens of billions of dollars over the next five years if left unchecked.

The proposed rule, to be published in the Federal Register, would change Medicaid's "upper payment limit" rules to prevent states from averaging payments across public and private facilities. This would prevent states from paying excessive rates to certain government facilities. States still could pay as much as 150 percent of the "upper payment limit" amounts to non-state public hospitals to recognize their special situation as safety-net providers and their delivery of large volumes of uncompensated care.

To allow adequate time for states that have come to rely on the practice, the proposed rule would phase out the extra payments over five years for states with approved plans in effect as of Oct. 1, 1999. Other states with plans that lapsed into effect since then without the Health Care Financing Administration's express approval would have a shorter two-year transition period. The proposal would not reduce federal Medicaid funding for any state during its 2001 budget year.

In addition, recognizing the financing challenges facing hospitals that serve large numbers of low-income and uninsured patients, the Administration supports increasing Medicaid disproportionate share hospital payments by $10 billion over 10 years. This would be done through a combination of increases in state DSH allotments, similar to legislation that has been passed by the House Commerce Committee, and increasing the hospital-specific DSH limits. HHS will work with Congress on an acceptable formula for the state allotment increases, and the administration recommends that the hospital-specific limits be raised to 175 percent of net uncompensated care costs beginning in 2002. Under current law, Medicaid disproportionate share payments to these hospitals are capped at 100 percent of their costs for treating uninsured patients plus any costs for treating Medicaid patients that are not covered by the Medicaid reimbursements that they receive. The increases would help ensure the viability of large urban safety-net hospitals.

"The proposed regulations, and our joint efforts with the Congress, recognize a legitimate use for Medicaid funds to support the hospitals that serve the neediest Americans," HCFA Acting Administrator Michael Hash said. "We recognize that states will need time to adjust to these changes, and we have included a transition period to ensure that facilities which serve low-income persons can be protected. By making these changes, we will help to preserve the public trust in the Medicaid program, which provides vital health-care services to millions of Americans."

The proposed rule has a 30-day comment period, during which states, health-care providers, and others can raise concerns about and suggest alternatives to the proposed changes and transition policies. A final regulation would be published after analyzing those comments.