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Medicaid Demonstrations: HHS's Approval Process for Arkansas's Medicaid Expansion Waiver Raises Cost Concerns

GAO-14-689R Published: Aug 08, 2014. Publicly Released: Sep 08, 2014.
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What GAO Found

In approving Arkansas’s Medicaid Section 1115 demonstration, the Department of Health and Human Services (HHS) gave the state the authority to test whether providing premium assistance to purchase private coverage offered on the health insurance exchange will improve access to care for individuals newly eligible for Medicaid as a result of the Patient Protection and Affordable Care Act (PPACA).

In approving the demonstration, HHS did not ensure that the demonstration would be budget- neutral—that is, that the federal government would spend no more under the state’s demonstration than it would have spent without the demonstration. Specifically, HHS approved a spending limit for the demonstration that was based, in part, on hypothetical costs—significantly higher payment amounts the state assumed it would have to make to providers if it expanded coverage under the traditional Medicaid program—without requesting any data from the state to support the state’s assumptions. GAO estimated that, by including these costs, the 3-year, nearly $4.0 billion spending limit that HHS approved for the state’s demonstration was approximately $778 million more than what the spending limit would have been if it was based on the state’s actual payment rates for services under the traditional Medicaid program. Furthermore, HHS gave Arkansas the flexibility to adjust the spending limit if actual costs under the demonstration proved higher than expected, and HHS officials told us that the Department granted the same flexibility to 11 other states implementing demonstrations that affect services for newly eligible beneficiaries. Finally, HHS, in effect, waived its cost-effectiveness requirement that providing premium assistance to purchase individual coverage prove comparable to the cost of providing direct coverage under the state’s Medicaid plan, further increasing the risk that the demonstration would not be budget-neutral.

As of June 2014, HHS has approved one additional state’s—Iowa’s—demonstration to use premium assistance to purchase exchange coverage. Iowa’s demonstration is more limited in scope in that it covers a portion of the expansion population, those with incomes of 101 percent to 133 percent of the federal poverty level. As with its approval of the Arkansas demonstration, HHS gave Iowa the flexibility to adjust its spending limit and waived the cost-effectiveness requirement. According to HHS officials, three other states as of June 2014 had indicated an interest in implementing a similar approach.

In commenting on a draft of this report, HHS disagreed with GAO’s findings that HHS’s approval process did not ensure that the Arkansas demonstration will be budget-neutral. GAO maintains the validity of these findings.

Why GAO Did This Study

HHS policy requires that section 1115 demonstrations be budget-neutral to the federal government. Once approved, each demonstration operates under a negotiated budget neutrality agreement that places a limit on federal Medicaid spending over the life of the demonstration. GAO was asked to develop information about HHS’ approval of the Arkansas demonstration, including how HHS ensured the demonstration would not increase federal costs. This report examines (1) what HHS approved under the Arkansas demonstration, (2) the extent to which HHS ensured budget neutrality, and (3) the extent to which other states have approached HHS about implementing an approach similar to Arkansas’s.

GAO reviewed the demonstration documentation, including the application and budget neutrality analysis submitted by Arkansas and HHS’s approved terms and conditions for the demonstration. GAO examined the basis of the spending limit approved by HHS and determined whether it was based on expenditures that the state made, expenditures the state could have made but did not (i.e., hypothetical costs), or both. To supplement this review, GAO also interviewed HHS officials about the demonstration approval and the extent to which other states had indicated an interest in implementing a premium-assistance approach similar to Arkansas’s.


GAO is not making recommendations in this report. GAO has had long-standing concerns with HHS’s policy, process, and criteria for reviewing and approving section 1115 demonstrations, including the lack of transparency in the basis for approved spending limits. GAO has previously reported that HHS’s budget neutrality policy and process did not provide assurances that demonstrations would be budget-neutral to the federal government. Among other concerns, GAO reported that HHS allows methods for establishing the spending limit that GAO believes are inappropriate, such as allowing states to include hypothetical costs—expenditures that the state could have made under its Medicaid program but did not—in establishing the baseline for the spending limits. As a result, GAO has made a number of recommendations in the past to improve the budget neutrality process for Medicaid demonstrations. In 2008, because HHS disagreed that changes to the budget neutrality policy and review process were needed, we suggested that Congress require the Secretary of HHS to improve the demonstration review process by, for example, better ensuring that valid methods are used to demonstrate budget neutrality.

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