On July 23, 2026, CMS proposed a rule that would significantly restrict how states use provider taxes to fund their Medicaid programs. For Medicaid expansion states, the rule would cut the allowable tax threshold from 6% down to 3.5% of net patient revenue over several years.

Non-expansion states would be frozen at whatever rates they had in place as of July 04, 2025, and no state would be allowed to create new provider taxes going forward. The rule puts into effect the requirements of the One Big Beautiful Bill Act, formally known as the Working Families Tax Cut (WFTC) legislation, and could force states to either cut Medicaid payments to providers or find other sources of revenue to make up the difference.

Provider taxes are fees that states charge hospitals, nursing facilities, and other healthcare providers. They have long served as a financing tool that helps states generate the non-federal share of Medicaid funding needed to draw down federal matching dollars and sustain provider payments. Under current rules, these taxes are allowed as long as they are broad-based, uniformly applied, and stay below the 6% of net patient revenue safe harbor threshold. Section 71115 of the WFTC directed CMS to significantly scale back this financing mechanism.

New Provider Tax Thresholds Replace the Historical 6% Safe Harbor

Under the proposed rule, the existing uniform 6% safe harbor would be replaced by a state-specific threshold tied to each state's actual tax rate as of July 04, 2025, the date the One Big Beautiful Bill was signed into law. For each permissible class of providers, such as hospitals or nursing facilities, a state's baseline threshold would be set at whatever rate it had enacted and imposed on that date. If a state had no tax in place for a particular provider class by July 04, 2025, the threshold for that class would be set at zero. Any tax increases made after July 04, 2025 would not count toward the baseline.

A tax would be considered "enacted" if the state completed the legislative process to authorize it by July 04, 2025, and "imposed" if taxpayers were under a legally enforceable obligation to pay it as of that date. For expansion states, starting in federal fiscal year (FFY) 2028, the threshold would phase down beginning at 5.5% and dropping by 0.5 percentage points each year until it reaches 3.5% in FFY 2032. The applicable threshold for each provider class in an expansion state would be whichever is lower: the July 04, 2025 calculated threshold or the phased-down percentage for that fiscal year.

New Class Subject to Phase Down

The proposed rule would also add a new category of taxable entities. CMS is proposing to create a new permissible class for services of health insurers, separate from the existing class for managed care organizations (MCOs). This new class could include group and individual market health insurance, short-term limited-duration insurance, excepted benefits, certain Medicare-related premium revenue, and section 1115 premium assistance arrangements. Health insurer taxes enacted and imposed by July 04, 2025 would receive a calculated threshold under the new framework. Those not in place by that date would have a zero percent threshold. Expansion state phase-down rules would also apply to this new class.

Elimination of the 75/75 Test and New Reporting Requirements

The proposed rule would also eliminate the secondary prong of the existing indirect hold harmless test, commonly known as the 75/75 test. Under the current framework, this test checks whether 75% or more of taxpayers receive back 75% or more of their tax costs through Medicaid payments or benefits. CMS is proposing to sunset this test so that the thresholds calculated as of July 04, 2025 serve as the maximum permissible level.

New reporting requirements would also be introduced, including a one-time interim report due by December 31, 2026, a final threshold report due by June 30, 2028, and quarterly enhanced reporting beginning with FFY 2027. States that fail to meet reporting requirements could face reduced grant awards, deferrals, disallowances, or withheld approval of payment proposals.

Comments on the proposed rule are due by September 21, 2026. Given the significant implications for hospital and provider reimbursement, particularly in expansion states where provider taxes support supplemental payment programs and expansion population coverage, stakeholders are strongly encouraged to submit comments. The proposed rule can be found on the Federal Register website.