CMS Finalizes Rule Updating Medicaid Health Care–Related Tax Policies
Key Takeaways:
- The Centers for Medicare & Medicaid Services (CMS) finalized a rule closing a long-standing Medicaid financing loophole that allowed some states to shift their funding responsibility to federal taxpayers.
- The policy targets health care-related tax schemes that disproportionately taxed Medicaid providers and leveraged federal matching funds, drawing more than $24 billion annually.
- CMS officials say the rule strengthens program integrity, restores the federal–state partnership, and ensures Medicaid dollars are directed to vulnerable beneficiaries.
CMS has finalized a major Medicaid financing rule aimed at shutting down state tax arrangements that increased federal spending while reducing state financial responsibility. Announced in a press release, the Preserving Medicaid Funding for Vulnerable Populations—Closing a Health Care-Related Tax Loophole Final Rule enforces statutory changes designed to protect Medicaid program integrity and federal taxpayers.
Main News
According to CMS, some states have relied on health care-related tax structures to shift Medicaid costs to the federal government over more than a decade. From fiscal year 2012 to fiscal year 2024, the federal share of Medicaid financing increased from approximately 57% to 64.5%, a rise that CMS attributes in part to these financing arrangements.
Under the schemes, states imposed higher taxes on Medicaid managed care organizations (MCOs) or other Medicaid providers, then used the resulting revenue to draw down additional federal matching funds. In some cases, providers were effectively reimbursed for their tax payments using federal dollars, while states generated surplus revenue. CMS estimates the practice drew more than $24 billion annually for state budget purposes, with 1 state alone generating more than $13 billion.
“Medicaid only works when every partner meets its obligations,” said CMS Administrator Mehmet Oz, MD. “States that have relied on loopholes to offload their responsibilities onto federal taxpayers undermined the law and directed additional Medicaid spending to favored providers instead of focusing on families who depend on this program.”
The final rule reinforces statutory guardrails on health care-related taxes. It prohibits states from taxing Medicaid business at higher rates than non-Medicaid business, closes indirect or opaque tax structures designed to disguise disproportionate burdens, and finalizes enforcement safeguards proposed by CMS in May 2025. The rule also implements congressional direction included in the Working Families Tax Cuts legislation (Public Law 119-21).
CMS established phased transition timelines to allow states to redesign tax structures while moving into compliance. Depending on waiver approval dates and tax classes, transition periods extend through the end of calendar year 2026 or state fiscal years 2027 and 2028.
Clinical Implications
Although the rule focuses on Medicaid financing rather than clinical policy, CMS leaders frame the change as essential to protecting access to care for low-income and medically vulnerable populations. By limiting the diversion of federal funds, the agency aims to ensure Medicaid resources are used for covered health care services rather than broader state budget priorities.
Conclusion
CMS’s final rule marks a significant shift in Medicaid financing oversight, closing a loophole that officials say undermined program integrity and federal–state balance. With phased implementation and enhanced enforcement, the agency aims to redirect billions toward core Medicaid services for vulnerable populations.
Reference
CMS shuts down massive Medicaid tax loophole, saving billions for federal taxpayers and restoring the federal-state partnership. CMS.gov. Press release. Published January 29, 2026. Accessed January 30, 2026. https://www.cms.gov/newsroom/press-releases/cms-shuts-down-massive-medicaid-tax-loophole-saving-billions-federal-taxpayers-restoring-federal
