What role do taxes play in funding Medicaid programs?
Executive summary
Medicaid is a jointly funded federal-state program in which taxes — both broad-based state taxes and specialized health care-related taxes — supply the nonfederal share that unlocks federal matching dollars; states rely primarily on general revenue from income, sales and other taxes, supplemented by provider taxes and local government contributions to meet statutory requirements [1] [2] [3]. How states structure those tax revenues, and how much they lean on provider assessments or local transfers, changes the size of the state “match” and the program’s fiscal and political dynamics [4] [5].
1. How Medicaid financing is structured: the federal match and the non‑federal share
Medicaid operates on a matching formula: the federal government pays a share of eligible state Medicaid expenditures through the Federal Medical Assistance Percentage (FMAP), and states must supply the remaining nonfederal share from permitted sources [1] [5]. Federal law requires that at least 40 percent of the nonfederal share be financed from state funds, while up to 60 percent may come from local government sources under certain rules [5] [6].
2. State taxes and general revenue are the backbone
Most of the state contribution comes out of state general funds — revenue from personal and corporate income taxes, sales taxes, property taxes and fees — making Medicaid typically one of the largest items in state budgets [2] [3] [7]. National data show about two‑thirds of the nonfederal share historically comes from general revenues, meaning ordinary tax collections are the backbone of state Medicaid financing [4] [8].
3. Provider taxes and assessments: a specialized tax lever
States commonly impose health‑care‑related provider taxes — levies or assessments on hospitals, nursing homes, and managed care organizations — to raise revenue earmarked for Medicaid’s state share; nearly every state uses at least one such tax and they accounted for roughly mid‑teens percent of state shares in recent years [2] [4] [8]. These provider taxes are controversial because states can use them together with elevated payments to providers to increase federal matching dollars, a practice critics say can “inflate” a state’s effective match while defenders argue they are a vital financing tool [9] [8] [4].
4. Local governments, intergovernmental transfers and certified expenditures
Local governments also contribute through intergovernmental transfers (IGTs) and certified public expenditures (CPEs), allowing counties and public hospitals to supply eligible public funds used as the nonfederal share; federal rules prohibit using federal grant dollars to generate the nonfederal share [10] [6]. Federal guidance and oversight have struggled to capture the full complexity of these arrangements, a gap the Government Accountability Office has repeatedly flagged as hindering CMS’s oversight [11].
5. Taxes matter because they leverage federal dollars and shape state choices
Because the FMAP multiplies whatever legitimate state spending is reported, how states raise their share — whether from broad taxes, provider levies, or local transfers — directly affects the total federal contribution and therefore enrollment, benefits, and provider payment levels [5] [3]. Changes to the rules governing permissible funding sources, particularly limits on provider taxes, can force states to raise other taxes, cut payments or shrink coverage; observers warn restrictions could endanger expansions funded using provider tax arrangements [4] [8].
6. Political debates, incentives and hidden agendas
Arguments over taxing mechanisms reflect competing incentives: provider groups and hospitals resist new taxes that increase their costs even as many support preserving existing provider tax authority because it sustains higher reimbursements [12] [4]. Policymakers proposing caps on provider taxes frame reforms as closing “gaming” of federal dollars, while state budget officials and health advocates warn such caps would shift costs to taxpayers or patients and could reduce coverage — an implicit battle between federal deficit politics, state budget pressures, and provider financial interests [8] [4] [11].
7. Bottom line
Taxes fund the state half of Medicaid in multiple ways: general tax revenues underwrite the lion’s share, while targeted provider taxes and local government transfers fill important gaps and leverage federal matching funds; the mix a state chooses has material fiscal effects and is central to ongoing policy fights about program size, provider payments, and federal‑state responsibility [2] [4] [6].