CMS proposes Medicaid provider tax limits: state-specific caps from Oct. 1, and expansion states fall to 3.5% by 2032

About midway through its new Medicaid financing proposal, CMS warns that “most taxes would initially be at or near the threshold and therefore at risk of exceeding it” [1]. The line explains why a rule about state tax arithmetic matters to anyone who bills Medicaid. If a state goes over its new cap by any amount, CMS would deduct every dollar raised by every tax in that class, not just the excess, before paying the federal match [1].

What changed

CMS released proposed rule CMS-2452-P on July 21, and it was published in the Federal Register on July 23 [1, 2, 3]. It implements section 71115 of Public Law 119-21, the July 4, 2025 budget law that CMS calls the Working Families Tax Cut legislation [1]. For most of the time since 1992, a state could tax a class of providers up to 6% of that class’s net patient revenue without CMS presuming the tax was being handed back to the providers who paid it [1]. Starting October 1, 2026, that 6% safe harbor becomes a separate cap for each state and each class, frozen at the percentage the state’s taxes produced as of July 4, 2025 [1, 2]. Comments are due September 21 [1, 2].

How do Medicaid provider taxes pay for practice rates?

States pay their share of Medicaid with general funds, transfers from local governments, and taxes on health care providers [1]. A provider tax raises money from hospitals, nursing homes, managed care plans or another permissible class. The state spends that money on Medicaid, and the federal government matches it [1]. Federal law bars a “hold harmless” arrangement, in which the state guarantees to give providers their tax back [1]. The 6% figure has been the test for an indirect guarantee [1].

The amounts are large. CMS estimates states will collect $98.6 billion in provider taxes in 2026, about 26% of projected state Medicaid spending on medical assistance [1]. Hospitals account for $61.8 billion of that and managed care organizations for $28.1 billion [1]. Forty-nine states and the District of Columbia have at least one such tax [1, 2].

Physician practices rarely pay these taxes, but they are often paid with the proceeds. CMS estimates that 55% to 75% of state directed payment spending, the supplemental payments states route through managed care plans, is financed with provider taxes [1]. A managed care organization tax is built into the premiums that pay plans, and so into the rates plans can pay practices [1].

Who it affects

Every state with a provider tax. No state can count revenue from a tax increase enacted after July 4, 2025. Where a state had no tax on a class on that date, its threshold for that class is zero [1, 4]. America’s Essential Hospitals summarized the effect as a bar on new provider taxes, with existing ones allowed to continue but not grow [4].

Expansion states, much more. For states that adopted the Affordable Care Act adult expansion, the cap is the lower of the July 4, 2025 percentage or a statutory schedule: 5.5% in federal fiscal year 2028, falling half a point a year to 3.5% in FFY 2032 [1]. CMS gives an example. A state whose inpatient hospital tax equals 4.7% of net patient revenue keeps 4.7% through FFY 2029, then drops to 4.5% in FFY 2030 [1]. Nursing facility and ICF/IID taxes are exempt from the phase-down but still frozen [1]. A state that expands later would join the schedule at whatever percentage applies in its first expansion year [1].

Practices that depend on Medicaid. CMS does not estimate effects by specialty or by setting. It expects the largest payment reductions to fall on hospitals, because hospital taxes produce most of the revenue [1]. Hospital-employed groups and practices receiving managed care supplemental payments sit closest to that money.

What it means for your practice

CMS projects that the statutory freeze and phase-down would cut state provider tax revenue by $198.7 billion from 2026 through 2035, a 27% reduction by 2035 [1]. It assumes states replace 30% of the lost money from other revenue and pass the rest through as lower Medicaid spending [1]. Federal Medicaid spending would fall $245.8 billion and state spending $138.2 billion, for $384.0 billion in total [1]. CMS’s fact sheet rounds the federal figure to $246 billion [2].

For providers as a group, CMS nets the lower payments against the taxes they would no longer pay and arrives at $220.3 billion less over ten years [1, 5]. The losses build slowly: $3.4 billion in 2026, $12.7 billion in 2029 and $39.3 billion in 2035 [1].

CMS also states how it expects states to choose. It assumes no change in enrollment, writing that “States would be more likely to prioritize covering enrollees above maintaining provider payment rates and benefits offered in response to this proposed rule” [1]. In other words, CMS’s model puts the reduction in what Medicaid pays you rather than in how many patients it covers.

There is an important overlap. CMS’s separate state directed payment proposal, CMS-2249-P, published May 22, already projects $774.8 billion in lower directed payments over the same decade [1]. When CMS counts the two rules together, most of the provider tax loss is already booked to the directed payment rule. On that basis CMS shows providers with a net gain of $21.7 billion from this rule, since they pay less tax [1]. CMS adds that the combined effect of both rules “would still be a significant reduction to provider payments through Medicaid over time” [1]. A practice cannot add the two headline numbers together.

The timing for your state depends on paperwork. States would send CMS estimated tax and revenue data by December 31, 2026, and actual data by June 30, 2028 [1]. CMS intends to publish final thresholds no later than September 30, 2028, and states would work under interim, non-binding limits until then [1]. Collections during the interim period could still be penalized once final thresholds are set [1].

What to do now

1. Check your state’s status. Whether your state counts as an expansion state decides whether the 3.5% schedule applies [1]. Ask your state medical society or Medicaid agency which taxes fund the fee schedule, managed care rates or supplemental payments you receive.
2. Model the out-years. The phase-down starts October 1, 2027, and CMS projects the biggest revenue losses from 2030 on [1]. If supplemental or directed payments are a meaningful share of your Medicaid revenue, budget for them flat or lower.
3. Watch the next nine weeks. A tax increase a state adopted after July 4, 2025 can keep running only through September 30, 2026. After that the state has to bring collections back under its July 4, 2025 percentage [1]. Some states may adjust rates or payments in their next budget cycle.
4. Comment by September 21. Use file code CMS-2452-P at regulations.gov docket CMS-2026-2476 [1]. CMS asked for comment on the health insurer class, on data methods when a full year of tax data is missing, and on its small-entity finding [1].

The policy fight

CMS presents most of the rule as required by statute. Two pieces go further. The first ends the “75/75 test,” a second way to stay compliant created by regulation in 1993. Under it, a tax over the threshold was still allowed unless 75% of taxpayers got back 75% of their tax costs [1]. CMS says only one tax has ever used it and that dropping it would “remove an avenue by which States could otherwise exceed the applicable thresholds or avoid the phase down requirements” [1]. The second adds “services of health insurers” as a new taxable class, so that existing state taxes on commercial insurers come under the same caps, at zero for any not in place on July 4, 2025 [1, 3]. According to AHA News, CMS said the changes would make sure taxes are “not structured in a way that effectively guarantees providers receive their tax payments back” [3].

Georgetown University’s Center for Children and Families argues that “the proposed provider tax rule goes significantly beyond the statutory requirements of H.R. 1” [5]. Edwin Park, a research professor there, notes the law did not touch the 75/75 test, while “the proposed rule would entirely eliminate the 75/75 prong” [5]. He also objects that the insurer class would apply “irrespective of whether such taxes are used to finance Medicaid or not” [5]. CMS frames the all-revenue penalty as a clarification of how it has always applied the statute [1]. Those are the competing readings commenters will press.

The hospital groups have so far summarized rather than argued. AHA News said the association was reviewing the rule and would issue a Regulatory Advisory to members [3]. America’s Essential Hospitals noted that the proposal loosens CMS’s November 2025 guidance: a tax now counts if the state finished the legislative process by July 4, 2025 and the tax was in effect, even if collections had not begun [1, 4].

On the Medicare side, the 2027 fee schedule proposal is also open for comment, through September 14. The provider tax comment period closes a week later, on September 21 [1].