The Structural Reset of Medicaid Supplemental Payments: What Section 71116 Means for Providers & States

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Section 71116 of the 2025 “Working Families Tax Cut” law, combined with the Centers for Medicare & Medicaid Services (CMS) proposed rule, introduces one of the most significant changes to Medicaid payment policy in decades. The legislation and accompanying regulations fundamentally alter how supplemental payments flow to providers, shifting from commercial-rate benchmarks to Medicare-based caps and expanding oversight across both managed care and fee-for-service systems.

Statutory Requirements Under Section 71116

The core mandate requires CMS to cap Medicaid State Directed Payments (SDPs) at Medicare-based rates for:

• Inpatient and outpatient hospital services.
• Nursing facility services.
• Services provided by practitioners at academic medical centers.

Caps are set at 100% of Medicare rates in expansion states and 110% in non-expansion states. Temporary grandfathering provisions protect certain existing arrangements until approximately 2028.

Key Expansions in the CMS Proposed Rule

CMS extends the statutory requirements in five critical areas:

1. Scope Expansion: Medicare-based caps now apply to all SDPs and, beginning around 2029, to targeted fee-for-service payments.
2. Benchmark Replacement: Historic use of Average Commercial Rate benchmarks is eliminated, creating direct rate compression.
3. Phase-Down Schedule: Protected payments face mandatory reductions of approximately 10 percentage points annually beginning January 1, 2028.
4. Compliance Requirements: New methodologies, uniform rate rules, and enhanced documentation standards increase administrative burden.
5. Policy Objective: The changes aim to reduce federal Medicaid spending while improving transparency and curbing perceived overuse of supplemental payments.

Estimated Revenue Impacts by Provider Type

Hospitals

• Highest exposure due to historical SDP levels often reaching 150–250% of Medicare equivalents.
• Expected reductions: 15–40% on Medicaid revenue and 5–15% overall.
• Risks include pressure on safety-net services and academic medical centers.

Skilled Nursing Facilities

• Significant vulnerability given thin operating margins and high Medicaid payer mix.
• Expected reductions: 20–50% on Medicaid revenue and 8–20% overall.
• Operational risks center on staffing ratios and rural access.

Physician Groups (Especially Academic Medical Centers)

• Moderate impact concentrated among faculty practices and hospital-employed specialists.
• Expected reductions: 10–40% on Medicaid revenue for academic groups.
• Potential consequences include reduced specialty access and accelerated consolidation.

Implementation Timeline

• 2026–2027: Limited immediate financial effects due to grandfathering; states begin compliance planning.
• 2028–2032: Primary phase-down period with annual reductions.
• 2029+: Full expansion to all SDPs and fee-for-service payments.

Strategic Considerations

Providers should model multi-year revenue scenarios now, while states must redesign payment structures and actuarial assumptions. Managed care organizations will experience an overall reduction in payment margins and increased time and coordination to achieve the maximum payment.

This policy shift converts Medicaid supplemental financing from commercial-rate alignment to Medicare-anchored discipline, with lasting effects on provider margins and state financing flexibility.

Key Insights

• State Mix (Biggest Driver)
  • TX, FL, CA, NY Exposure = High Risk
• Medicaid Payer Mix
  • 25-30% Medicaid = High Sensitivity
• Reliance on Supplemental Payments
  • Systems using SDPs to:
    • Offset Low Base Rates → Most Vulnerable

Final Takeaways

• This rule is not evenly distributed.

Biggest Losers:

• Multi-state Systems with:
  • TX / FL / CA Exposure
  • High Medicaid Volume
  • Heavy SDP Reliance

Relative Winners:

• Systems with:
  • Strong Commercial Mix
  • Integrated Financing

Contact the experienced team at Besler Holdings to help you quantify this loss so you can explain it to both the C-suite and/or Board and also be ready to know what amounts you would be eligible to appeal on.

*Please note that this is a Proposed Rule and is subject to change once the final rule comes out.

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