How Do States Pay for Medicaid?
Last Updated February 5, 2024
Medicaid is a joint federal-state program that provides health insurance targeted to lower-income recipients. The program plays a significant role in the U.S. health system, providing medical care for about 26 percent of the population.
As a key part of the safety net, Medicaid is designed to be countercyclical, meaning that it expands to meet rising needs during economic downturns when people lose their jobs and job-based health coverage. It also represents a major source of both revenues and expenditures in state budgets, since states receive a portion of funding for the program from the federal government.
Overview of Medicaid Financing
Each state’s Medicaid expenditures for healthcare services are matched by federal funds according to various formulas. The formula that governs the majority of government funding takes into account differences in per capita income among the states and is called the federal medical assistance percentages (FMAP). For 2024, the FMAP ranges from a minimum of 50 percent in wealthier states such as California to 77 percent in Mississippi. The matching structure provides states with resources that automatically adjust for demographic and economic shifts, healthcare costs, public health emergencies, and natural disasters.
In addition to funds governed by the FMAP, the federal government provides enhanced matching rates for select services, providers, or groups of beneficiaries. The most prominent example stems from the Affordable Care Act (ACA), which expanded the Medicaid program to cover individuals with incomes up to 138 percent of the poverty level; the federal government covers nearly all the cost of coverage for the expansion population.
Remaining Medicaid expenditures are referred to as the nonfederal share, and federal law requires that states finance at least 40 percent of their share of total Medicaid expenditures through state funds. The remaining 60 percent of the nonfederal share can come from “other state funds” including funding transferred from local governments or revenue collected from provider taxes and fees.
However, in practice, this is not the case. According to the National Association of State Budget Officers, in fiscal year 2023 (which for most states is July 1–June 30) the program cost a total of $874 billion, about $285 billion of which was the nonfederal share.
How Does Medicaid Affect State Budgets?
Medicaid’s role in state budgets is unique since the program acts as both an expenditure and the largest source of federal support in state budgets. In 2023, total Medicaid expenditures (including federal matching funds) made up 30 percent of state budgets, on average, making it the largest category of spending. When considering only nonfederal funds, it comprised 18 percent of general fund expenditures, making it the second largest category of state spending after primary and secondary education.
Medicaid expenditures have generally risen as a percentage of total state spending over the past several years, with the exception of a temporary dip in 2019 and 2020. In 2008, Medicaid accounted for 20.5 percent of state budgets; in 2023, that number was 29.5 percent. That growth reflects broader health spending trends and includes the effect of the ACA expansion in 2014. Nevertheless, Medicaid expenditures grew more slowly than other elements of state budgets — including education.
States finance the nonfederal share of their Medicaid expenditures in large part through general revenues, which consist of revenue from sources including personal and corporate income taxes and sales taxes. States can also use funds raised from local governments and through taxes on healthcare providers to finance the nonfederal share of their Medicaid payments.
Those sources of Medicaid funding have received increased attention because states have used them to create complex financing mechanisms designed to maximize the amount of federal Medicaid funds coming to the states, thereby drawing down federal Medicaid funds without expending much, if any, state general funds.
What Impact Did the ACA Expansion Have on State Finances?
Prior to enactment of the ACA, few states covered non-disabled, non-pregnant adults without dependent children under Medicaid and the income limits for parents were significantly lower. States are allowed to forego the Medicaid expansion — 10 states have chosen not to adopt it. In those states, the median income eligibility for parents is 38 percent of the poverty level (rather than 138 percent); the only state that extends Medicaid to adults without children is Wisconsin.
Under the ACA expansion of Medicaid, the federal government paid 100 percent of the cost of Medicaid expansion coverage from 2014 to 2016. The federal share dropped in subsequent years before settling at 90 percent in 2020 and each year thereafter. By comparison, the federal government pays between 50 and 77 percent of the cost of other Medicaid enrollees, depending on the state.
Research indicates that states that expanded their Medicaid coverage saw no significant increases in spending on Medicaid from state funds, and no significant reduction in state spending on education or other state programs as a result of the expansion. This is because the increased spending on the expansion population is completely or largely offset by savings in other areas, as states spend less on programs for behavioral health, corrections, public health, and uncompensated care. For example, a state might spend less on corrections as federal Medicaid dollars pay for a greater share of the inpatient hospital costs of inmates enrolled in Medicaid, or it might spend less on people with behavioral health needs as those costs would be covered under Medicaid and therefore subject to federal cost-sharing. In addition, the 40 states that have adopted expanded Medicaid through the ACA have seen markedly lower rates of uninsured people.
Furthermore, some evidence points towards the positive economic impact of Medicaid expansion as a result of the influx of federal funding, citing increased economic activity and redirected personal spending.
How Has COVID-19 Impacted State Medicaid Spending?
Medicaid enrollment rates increased during the pandemic, increasing overall program spending. To help support Medicaid and provide fiscal relief, the Families First Coronavirus Response Act enacted a 6.2 percentage point increase in the FMAP if states met certain requirements like ensuring continuous coverage for those enrolled as of March 18, 2020. The FMAP increase remained in effect through March 31st, 2023. Starting then, the increase began to phase out at set rates for each quarter, and all increases ended December 31st, 2023.
As a result, much of the increased Medicaid spending resulting from the pandemic fell to the federal government. Nevertheless, states are concerned about the period that comes after the cessation of the additional federal funding and before states are able to complete the eligibility verification that allows them to ensure that those who receive benefits are, in fact eligible for the program (and thereby contain costs). States are anticipating future budget shortfalls, and many have announced or are considering policy changes that include hiring freezes, reduced healthcare provider reimbursement rates, and paused Medicaid coverage expansions.
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