On January 29, 2026, CMS finalized a rule that prohibits states from imposing higher tax rates on Medicaid business than on non‑Medicaid business and that bars indirect designs that effectively target Medicaid utilization. CMS estimates that this rule will force seven states governments to restructure their taxes to bring them in compliance with the new requirements and will reduce federal Medicaid spending by roughly $78 billion over 10 years.
MCO and Provider Taxes as a Method for Financing Medicaid Programs
Medicaid is jointly financed; the federal government provides matching funds for state Medicaid expenditures only when the state supplies an allowable non-federal share (the “state share”) for each dollar claimed. The federal match generally ranges from 50% to 77% for traditional Medicaid services, depending on state per-capita income, with special match rates for some groups (for example, 90% for ACA expansion adults).
States can finance the non-federal share using general funds, permissible health care-related taxes (“provider taxes”), local funds, and intergovernmental transfers-within federal limits. Nearly all states use provider taxes; these must be broad-based, uniform, and not hold providers harmless unless a CMS waiver is granted based on “generally redistributive” tests.
CMS Changing the Tests to Determine Permissibility of Provider Taxes
The final rule adds “additional requirements to demonstrate a tax is generally redistributive,” prohibiting higher rates based on Medicaid-taxable units or on groupings defined by higher Medicaid utilization, and adopts an anti-circumvention provision that blocks materially equivalent designs that omit explicit Medicaid labels. CMS highlights examples, such as MCO taxes, that charge dramatically higher per-member rates on Medicaid enrollment than on commercial enrollment.
CMS argues that these taxes exploited a “statistical loophole,” but nonetheless approved them under the laws that were in-effect prior to the One Big Beautiful Bill Act. Now, CMS posits that Section 71117 of the One Big Beautiful Bill Act effectively codified the regulation that CMS is implementing as 42 C.F.R. § 433.68(e)(3), titled “Additional Requirements to Demonstrate a Tax is Generally Redistributive[.]” This regulation would place two new restrictions on provider taxes:
- Prohibiting “States from imposing a higher tax rate on any taxpayer or tax rate group based on a provider’s Medicaid taxable units than the tax rate imposed on any taxpayer or tax rate group based on a provider’s non-Medicaid taxable units[.]”
- Prohibiting “States from taxing any taxpayer or tax rate group defined by its relatively higher level of Medicaid utilization compared to any other taxpayer or tax rate group defined by its relatively lower level of Medicaid utilization.”
Additionally, CMS added a third provision that “is essentially the same as the first two, just without explicitly naming Medicaid[,]” which CMS believes “is crucial to stop efforts to circumvent the first two provisions by not explicitly stating the term ‘Medicaid[.]’”
Impact of the New Regulation
Though many state Medicaid programs will not require any changes under this new regulation, CMS estimates that “this final rule may require seven States to submit a total of eight new waiver proposals (within 2 years of the effective date of this final rule)[.]” CMS did not specifically name the affected states, but on November 18, 2025 researchers at Georgetown University’s McCourt School of Public Policy identified the states as “California, Illinois, Massachusetts, Michigan, New York, Ohio, and West Virginia.” Affected states will need to redesign non-compliant taxes or unwind them within the transition periods, which would result in lost state share financing and in turn, Medicaid payments.
CMS emphasizes that the rule does not eliminate states’ general authority to use broad-based, uniform provider taxes to finance the non-federal share; CMS’ rule targets designs that differentially burden Medicaid business.
The final rule can be found here.
