The Centers for Medicare & Medicaid Services (CMS) submitted a regulation to the Office of Management and Budget (OMB) that could upend Medicaid provider tax program financing.

The regulation is titled “Preserving Medicaid Funding for Vulnerable Populations—Closing a Health Care-Related Tax Loophole.”

“This proposed rule would update existing regulations that govern the process for states to obtain a waiver of the statutory requirements that health care-related taxes are broad based and uniform to ensure that taxes passing the statistical test are generally redistributive,” a description of the rule outlines.

An analyst note from TD Cowen says it’s possible the rule may look to reform provider tax programs, although the rule’s full text has not been released.

“It is unclear if these would result in “cuts” to Medicaid funding or would primarily be a redistribution of provider-tax funded Medicaid supplemental payments,” the analysts said.

As Congress begins to debate up to $880 billion over 10 years in reduced Medicaid spend through legislation this summer, provider taxes have been under scrutiny.

The federal government pays more than two-thirds of the total costs in Medicaid, and states can finance their share partially through provider taxes. States tax providers—or sometimes managed care organizations—to unfairly boost Medicaid match potential from federal taxpayers, critics allege. Restricting provider taxes, however, will lead to lower enrollment and fewer benefits for state enrollees, says KFF.

“Changes that reduce or restrict the provider tax will directly impact a state’s ability to access Medicaid funding,” said Eric Levine, an associate health principal at Avalere. “If these changes are implemented, states will need to reassess their Medicaid financing strategies. I think we’re likely to see changes come to the provider tax given the current administration and the climate around enforcement and efficiency.”

States have used provider taxes more in recent years. In 2018, states’ reliance increased to 17%, a 10% increase from 2008, a report (PDF) from the Government Accountability Office showed. Eliminating provider taxes would save $612 billion over the next decade.

One requirement of provider tax programs is they are not allowed to “hold harmless” providers, so states cannot tell providers they will receive tax revenues back. Under a safe harbor limit, this requirement doesn’t apply when tax revenues total 6% or less of net patient revenues, KFF explained. If the safe harbor threshold is reduced below 6%, many states could be impacted.

Depending on future rulemaking on how a hold harmless policy shakes out, state-directed payments could be redistributed from for-profit providers to nonprofit providers, TD Cowen added.

A menu of spending cut options before Congress this year suggested a policy “Reversing Executive Expansion of State-Directed Payments in Medicaid.” This proposal had an informal estimate of $25 billion saved over 10 years.

Another proposal, “Limit Medicaid Provider Taxes” was given a $175 billion price tag over 10 years by decreasing the safe harbor threshold to 3% by 2028. The Congressional Budget Office predicts a 2.5% threshold would lower the deficit by $71 billion. Lowering the safe harbor to this level would disproportionately, and negatively, impact Tenet Healthcare, Universal Health Services and HCA Healthcare, TD Cowen analysts said.

CMS said in April it would begin enforcing (PDF) new guidance on hold harmless agreements starting in 2028.

Of course, it remains to be seen what form the proposed rule will actually take. It’s possible it includes new requirements on state waivers around hold harmless enforcement, renewed data collection on how states use provider taxes, limits on state-directed payments exceeding the cost of providing Medicaid services or a new requirement imposing a narrowed proportion of state-directed funding from provider taxes, said Levine.

Revenues from provider taxes fund disproportionate share hospital payments and managed care state directed payments, among other uses.

The CMS warned (PDF) California in December future rulemaking could endanger a managed care tax arrangement the agency approved. The CMS said the arrangement, proposed by California to bolster its Medi-Cal program, was only approved because it complied with a mandatory statistical test, but otherwise the department does not believe it meets requirements.

Released April 19, TD Cowen believes this regulation was a contributing factor to a decrease in hospital stocks on Monday. The investment bank also noted the rule may also be a sign OMB Director Russell Vought—a major contributor to Project 2025, a Heritage Foundation initiative seeing implementation across the Trump administration—could see “a more active role” in rulemaking at CMS than predecessors at the department.

In Project 2025, the 922-page master plan explicitly calls out “gimmicks” in Medicaid and says CMS should end “state financing loopholes.”

Similar language is used by Trump-aligned think tank Paragon Health Institute in a report last month. The group says states are incentivized to boost Medicaid budgets by increasing provider taxes. Paragon President Brian Blase notes that President Barack Obama’s 2013 budget proposal pushed lowering the safe harbor limit to 3.5%.

Although there is a complex policy debate surrounding provider taxes, states are within their rights to pursue these taxes under current statute, said Timothy Hill, senior vice president of health for the American Institutes for Research and commissioner at the Medicaid and CHIP Payment and Access Commission (MACPAC).

“Are there instances where there are providers or states who are pushing the envelope on what is appropriate and what is not appropriate with respect to that financing scheme? asked Hill in a KFF webinar April 24. “Perhaps. I don’t think, from my perspective, that it’s 100% fair to say that because provider taxes are allowed in the system, that is money laundering, or that it’s resulting in services that shouldn’t otherwise be provided.”

Hospital organizations say these taxes are necessary to counter underfunding in other areas.

Analysis from independent body Medicaid and CHIP Payment and Access Commission (MACPAC) showed directed payments are approximately $110 billion a year, far higher than estimates anticipated.

Updated: April 25 at 10:56 a.m. ET