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The Centers for Medicare and Medicaid Services’ (CMS’) new section 1115 Medicaid model waiver will allow states to provide coverage to the Affordable Care Act (ACA) expansion population in a manner that differs from certain current law requirements. While release of this plan is a milestone of sorts for advocates of greater state flexibility, both proponents and critics are overstating the effect it will have on current beneficiaries and the future of the Medicaid program.

Some media reports have characterized the proposal — called the “Healthy Adult Opportunity” initiative, or HAO — as a “block grant,” but that is not fully accurate. The federal matching system by which Medicaid is financed cannot be waived under a section 1115 waiver, and thus will remain intact under the plan. States that apply for a waiver would get new flexibility to run Medicaid for the affected population within an overall funding limit that is negotiated with CMS. States that hold costs below the aggregate level that would have occurred without a waiver (and without regard to unanticipated enrollment changes) will have the opportunity to share in some of the program savings with the federal government.

The new proposal is complex, with multiple variables for the states to consider when weighing the potential benefits and risks of submitting a waiver application. The following is a brief overview of its key provisions:

A Narrowly-Defined Covered Population: The new waiver template is applicable only to a narrowly-defined adult population under the age of 65. Children, pregnant women, the disabled, the elderly, and adults already covered under authorities provided separately from the ACA are excluded from the plan. That leaves working-age adults who gained access to Medicaid from the ACA’s optional expansion of coverage to persons with incomes below 138 percent of the federal poverty line (FPL). As of 2017, this population totaled 12.7 million people, or about 17 percent of Medicaid enrollment. Coverage for non-disabled adults is relatively inexpensive, costing, on average, about $3,300 per person in 2014 compared to $13,000 for the elderly and nearly $17,000 for the disabled. Thus, the amount of total Medicaid spending that might be affected by this waiver opportunity is relatively small (very likely no more than 20 percent in any state, and generally much less).

Financing and Shared Savings. As noted, federal law does not allow CMS to make fixed, pre-set, and prospective block grant payments to the states in lieu of the current law system of matching payments. To partially mimic the incentives of a block grant, HAO waivers, which are scheduled to run for an initial period of five years, will include pre-determined limits on the aggregate amount of federal matching payments. States will have the option to apply for “aggregate cap” or “per enrollee” waivers. Under the aggregate cap model, the federal spending limit would apply irrespective of enrollment numbers. States that can hold costs below the cap (but not below an 80 percent maintenance of effort floor) would get to keep between 25 and 50 percent of the savings, which states must reinvest back into the Medicaid program. However, states opting for the aggregate cap also would be fully at risk for costs above the spending limit, including when enrollment surges for any number of reasons (such as higher than anticipated unemployment rates). In the per enrollee model, the federal cap would be calculated on a per person basis, thus exempting states from the financial risks associated with enrollment fluctuations. States applying for a per enrollee HAO waiver would be ineligible for the shared savings feature of the initiative.

Setting the Federal Spending Caps. CMS (in conjunction with the Office of Management and Budget) enforces a policy of budget neutrality on all federal waiver applications. This requirement rules out waiver applications which would increase federal spending above the level that would occur without the waiver. For HAO waivers, CMS says it will use a combination of historical state spending patterns and regional and national cost trends to build a budget neutral baseline. In the aggregate cap model, the base year funding will be indexed to the lower of a five-year, historical state spending trend or the consumer price index for medical care services (CPI-M) plus one half of a percentage point (CPI-M + 0.5%). For states applying under the per enrollee option, base year funding will be indexed to CPI-M. CMS guidance indicates that the caps on federal spending can be revisited to address special circumstances that might arise after a state begins implementation of an HAO waiver program. The most contentious aspect of the waiver process today is the federal-state negotiation over the budget neutral baseline. That seems certain to remain the case for HAO waivers.

The ACA Expansion Choice. The HAO initiative does not change the basic expansion choice that states face today. That is, under the ACA, states must choose to increase eligibility up to 138 percent of the FPL in order to qualify for the law’s 90 percent federal matching rate for this population. It is not permissible for a state to partially expand Medicaid and still retain a 90 percent federal matching rate for the added expense. In the HAO initiative, states would be allowed to place income limits on eligibility in an HAO waiver but only if they are willing to forgo the added federal support that comes with the enhanced match. The lost federal support under partial expansion is likely to deter states from pursuing this course.

State Flexibility. The HAO initiative would allow states to alter benefits, cost-sharing, and drug coverage for the eligible population. States will be expected to provide benefits that are in line with the ACA’s essential health benefit (EHB) requirements. Among other things, this will mean states must provide full mental health and substance abuse services under the waiver. States can require the affected population to pay modest premiums and cost-sharing at the point of service as long as the aggregate amount does not exceed the current standard of 5 percent of family income. The HAO initiative breaks new ground by allowing states to implement drug benefit formularies without losing access to the required rebates paid by manufacturers. The formularies would have to conform to the rules which apply to drug benefits provided under the EHB requirements in the states’ individual markets. This flexibility is almost certain to draw a lawsuit from the drug manufacturers. States also will have the authority to impose work requirements on the eligible population, although the ultimate status of this policy is uncertain due to lawsuits which have prevented implementation outside of the HAO context.

Beneficiary Protections and Quality Standards. CMS is going to great lengths to reassure program advocates that this initiative will not undermine access to care or the quality of services provided to Medicaid patients. States applying for waivers must maintain current law beneficiary protections, including nondiscrimination provisions and appeal and hearing rights. Further, states granted waivers will be required to report quality and access to care measures, along with health outcomes for certain core indicators.

While concern in certain quarters is running high, it is important to remember that the HAO initiative is entirely optional for the states. Many governors will never consider submitting an application. Some critics are suggesting HAO waivers will lead inevitably to a downsizing of Medicaid, both in terms of enrollment and program spending, but that will only occur if states that have already expanded Medicaid under the ACA (37 and counting) choose to submit waivers in order to cut their costs. It seems more likely that the governors who will be most attracted to the new option will be those who serve in states that have not yet expanded their Medicaid programs under the terms of the ACA (Governor Kevin Stitt of Oklahoma — a non-expansion state — already has announced his intention to submit a waiver request). If this waiver program entices several non-expansion states to join the ranks of those that have expanded their programs, then it is possible the administration’s proposal will increase enrollment in Medicaid rather than reduce it.

Capping federal Medicaid spending in a state waiver program is not an entirely new concept. In 2009, the federal government agreed to a waiver submitted by Rhode Island that exchanged an overall cap on spending for greater state flexibility in running the program. The HAO is less sweeping in its reach than the Rhode Island plan.

Balancing federal and state control over Medicaid has been debated, off and on, for a quarter century. The HAO initiative allows a rather limited test of one approach to greater state flexibility and cost discipline. In a few years, it will be possible to have a more informed debate about whether giving states this option improves or worsens the Medicaid program, both in terms of the coverage and protection it provides to low-income households and its cost to federal and state taxpayers.