Medicaid's Impact on Healthcare Funding: Trends and Changes in 2026

In March 2026, Medicaid continues to be the largest provider of healthcare coverage in the United States, servicing diverse groups such as children, low-income elderly, and disabled individuals. This program is essential for funding hospitals across the nation, enabling them to deliver quality care. Recently, Congress implemented reductions to state directed payments (SDPs), critical components of the Medicaid reimbursement framework, affecting how hospitals are funded.

State Medicaid programs, along with managed care organizations (MCOs), traditionally pay hospitals through a blend of base service fees and supplemental payments. These payments often vary by state and service, resulting in a common situation where hospital payments for Medicaid patients do not cover the full cost of care. In 2023, this shortfall, the gap between care cost and payments received, was an estimated $27.5 billion.

States wield significant discretion in setting Medicaid payment rates, including flexible base payments for specific hospital types like acute care or pediatric facilities. To address low base payment rates, states use supplemental payments, such as Medicaid Disproportionate Share Hospital (DSH) and non-DSH payments, to enhance financial viability for hospitals.

For fee-for-service (FFS) models, states reimburse hospitals at CMS-approved rates. In a managed care scenario, Medicaid MCOs set their own provider payment rates, with states providing capitation payments that must meet CMS's actuarial soundness standards. Despite supplemental payments, reports indicate that in 2023, Medicaid FFS and Medicaid MCOs significantly underpaid hospitals, covering less than 58% and 65% of costs, respectively.

Supplemental payments include Medicaid DSH, upper payment limit (UPL), and state directed payments (SDPs). Under federal law, Medicaid DSH aids hospitals serving high numbers of low-income and Medicaid patients, addressing the financial impacts of uncompensated care. States can also offer UPL payments to bridge the gap between Medicaid FFS rates and potential Medicare payments, with annual compliance data submitted to CMS.

States may require managed care plans to make additional provider payments to align with state objectives, including standard rate increases and value-based payments, under CMS oversight for actorial soundness. The 2024 managed care final rule introduced clearer SDP guidelines, emphasizing evaluation plans and commercial rate-based limits. Additionally, Section 1115 waivers allow states to explore alternative payments like uncompensated care pools, addressing Medicaid financial shortfalls effectively.

The evolving supplemental payment strategies mirror the shifting priorities of state Medicaid programs, underscored by the expanding use of Medicaid MCOs. By 2022, approximately 75% of Medicaid enrollees participated in comprehensive, risk-based managed care systems, marking an increase from 67% in 2016. This shift coincides with decreasing supplemental FFS payments, reflected by $47.8 billion allocated to SDPs and $15.8 billion to UPL payments in the 2022 fiscal year.