Blogger-safe source: CMS, State Medicaid Director Letter SMD #26-003, “Budget Neutrality and Certification by the Chief Actuary of CMS for Section 1115 Medicaid Demonstration Projects,” June 11, 2026.
URL: https://www.medicaid.gov/federal-policy-guidance/downloads/smd26003.pdf
TL;DR
This 34-page CMS letter is not just “guidance.” It is a transition blueprint for moving Medicaid §1115 demonstrations from a historically negotiated budget-neutrality regime to a statutory, prospective, Chief-Actuary-certified regime beginning January 1, 2027.
The big message to states is: start preparing your data, classifications, financial models, and waiver strategy now, because CMS intends to propose regulations revising 42 CFR Part 431 Subpart G, and if those regulations are not final by January 1, 2027, CMS still expects to apply the approach in this letter provisionally.
What readers really need to know
1. The old world was “budget neutral” by CMS policy; the new world is budget neutral by statute.
CMS emphasizes that Medicaid §1115 demonstrations have long been expected to be budget neutral, but under the old approach this was a CMS policy and STC-based test. States and CMS used Without Waiver/WOW and With Waiver/WW expenditure calculations, Medicaid Expenditure Groups, expenditure caps, rebasing, mid-course correction, and retrospective assessment. If the state exceeded the cap, it had to return excess federal funds.
The new §1115(g), added by Public Law 119-21, changes the character of the test. Beginning January 1, 2027, CMS may not approve a new Medicaid §1115 demonstration, amendment, or renewal unless the CMS Chief Actuary certifies that the project is not expected to increase federal Medicaid expenditures compared with the no-demonstration baseline.
The practical shift is from:
- “We negotiated a cap and will see later if the state stayed under it”
- “The Chief Actuary must certify up front that the demonstration is not expected to increase federal Medicaid spending.”
2. The Chief Actuary becomes a front-end gatekeeper.
CMS says plainly that the Chief Actuary previously had no role in reviewing Medicaid §1115 demonstrations or certifying their budget neutrality. That changes. The actuary must now provide an independent actuarial determination, using sound methods and reasonable assumptions, that the demonstration will not cost the federal government more than Medicaid would have cost without it.
This is why the letter is so consequential. The state cannot simply make a policy case that the waiver is good, popular, innovative, or consistent with Medicaid goals. It must also make a credible fiscal case that passes actuarial review.
3. CMS is largely abandoning the old WOW/WW cap structure.
The letter’s Table 1 is the best one-page summary. The current approach uses WW/WOW expenditure analysis and budget-neutrality expenditure limits. The new approach uses actuarial, economic, statistical, or comparable rigorous analysis of individual demonstration activities, with Chief Actuary certification before approval.
CMS says the new approach would not use the old budget-neutrality cap in the same way; instead, a demonstration expected to increase federal Medicaid expenditures would simply not be approved.
That is a very different review culture. It will be more granular, more analytic, and likely more time-consuming.
4. Every waiver must be broken into “activities.”
CMS introduces “activity” as the unit of analysis. An activity can be a waiver authority, an expenditure authority, or a set of authorities grouped around a program objective. For example, an uncompensated care pool might be one activity; a targeted HCBS package plus a delivery-system design might be another.
States must classify each activity into one of two buckets:
- MAPS — Medicaid Authorizable Populations and Services.
- These are populations and services the state could otherwise cover under the Medicaid state plan or another Title XIX authority. MAPS activities are treated as having a net financial impact of zero for budget-neutrality purposes, but they do not generate savings.
- §1115-only activities.
- These are activities that could not otherwise be done under the Medicaid state plan or another Title XIX authority. These drive the real budget-neutrality analysis. States must estimate direct costs, administrative costs, utilization changes, savings, and other financial effects.
5. “Hypothetical expenditures” are being narrowed and renamed.
This is one of the most important technical changes. Under the old approach, something could be treated as “hypothetical” if either the population or the service could otherwise be covered. CMS now reads §1115(g) as referring to populations and services — not population or service — meaning the specific combination must be otherwise coverable under Medicaid authority to count as MAPS.
That means some items that previously fit into the budget-neutrality machinery as hypothetical expenditures may now become §1115-only and require a full financial-impact analysis.
Examples CMS gives:
| Authority | New treatment |
|---|---|
| IMD services for SUD/SMI/SED that would be Medicaid-coverable but for site of service | MAPS |
| Pre-release services for incarcerated people that would be Medicaid-coverable but for inmate exclusion | MAPS |
| Infrastructure for reentry or HRSN demonstrations | §1115-only |
| HCBS for people who meet the relevant §1915 criteria | MAPS |
| HCBS beyond what §1915/state plan authority would allow | §1115-only |
| Marketplace/QHP subsidy payments | §1115-only |
| Uncompensated care pools | §1115-only |
6. Different-site-of-service is a protected carve-in.
CMS gives special treatment to some services that are Medicaid-like but are blocked by site-of-service rules. The key examples are IMD services for SUD/SMI/SED and pre-release services for certain incarcerated individuals. CMS says these can be treated as MAPS because the services and populations are otherwise Medicaid-type services and populations, but for the different site of service. Infrastructure, however, is not included in that favorable treatment.
7. Administrative costs now count.
This is easy to miss but important. CMS reads §1115(g)’s reference to “federal expenditures” broadly. Therefore, administrative costs caused by a demonstration must be included in budget-neutrality analysis. CMS says this is a change from the current approach, where administrative costs were not included in the budget-neutrality determination.
8. Renewals will require both backward-looking and forward-looking analyses.
For a new demonstration, the state provides a prospective analysis. For a renewal, the state must provide two analyses: a historical analysis of the current demonstration period and a prospective analysis of the upcoming period. CMS gives the example of a renewal for demonstration years 6–10: the state submits actual/historical analysis for years 1–5 and projected analysis for years 6–10.
That matters because old waiver renewals often leaned on accumulated budget-neutrality savings. Under the new system, states will have to show what actually happened and what is expected to happen next.
9. Savings rollover is being tightened.
Under the new policy, savings can roll over only from the current demonstration period, or the most recent five years, whichever is shorter. Temporary-extension periods do not count. Savings can be used only in the immediately following renewal period, not carried forward indefinitely. CMS says this will likely give states access to less rollover savings than under the prior 2018/2024 approach.
There is a transition rule for the first renewal after January 1, 2027. CMS will allow a one-time use of savings calculated under the 2024 methodology, but limited to the most recent five years. This gives states one renewal cycle to adapt, but it is not a permanent grandfathering of the old savings regime.
10. Amendments after January 1, 2027 can trigger a full budget-neutrality reckoning.
This is a major “brace yourself” point. If a state seeks an amendment after January 1, 2027 and the demonstration has not yet been Chief-Actuary-certified, CMS expects the actuary to certify the entire demonstration, not just the amendment. That means the state may have to provide analyses for all activities, including activities not being amended.
If the demonstration has already been certified, then CMS expects review mainly of the amended or affected activities, but the Chief Actuary still certifies budget neutrality for the entire amended demonstration. Also, once a post-2027 amendment is approved and certified, the state stops generating savings under the old 2024 SMDL methodology.
11. “Deemed budget neutral” is mostly going away.
CMS says it no longer anticipates deeming certain expenditures budget neutral. Under the old approach, some authorities were treated as budget neutral as a matter of theory or administrative practice. Under the new approach, CMS does not think that theoretical deeming will satisfy actuarial certification standards. These activities must either qualify as MAPS or be supported by a detailed financial-impact analysis.
This includes categories previously deemed budget neutral such as certain §1115(a)(1)-only initiatives, out-of-state former foster care youth, territories, traditional health care practices, and single managed care plan authorities.
12. Existing demonstrations are not instantly rewritten on January 1, 2027.
CMS says currently approved demonstrations will continue under their existing STCs through the end of their current approval period, even if that period extends beyond January 1, 2027. CMS will still perform a final assessment under the current STC-based budget-neutrality agreement. If there is an overage not offset by available savings, the state must return funds, including through a negative CMS-64 adjustment.
But at renewal, amendment, or a new approval after January 1, 2027, the new regime becomes the gate.
13. CMS wants shorter demonstrations and less reliance on §1115.
CMS intends to propose that demonstration periods generally not exceed five years, except for quarter-alignment reasons. It also encourages states to reduce reliance on §1115 where ordinary Medicaid authorities — state plan, §1915 waivers, etc. — are available. CMS’s message is: use §1115 for real innovation, not as a workaround for things that can be done through regular Medicaid channels.
14. Monitoring and evaluation become more consequential.
CMS says it will use new budget-neutrality monitoring STCs and require corrective action if expenditures substantially deviate from state projections. CMS also says states will need sustained, promising evaluation findings showing that the demonstration is meeting most of its policy goals. If the demonstration is not successful, not meeting state goals, or not likely to promote Medicaid or CHIP objectives, CMS may decline renewal.
That is a second gate beyond actuarial budget neutrality: the demonstration must still be substantively worthwhile.
The real-world meaning
For readers who do not want to wade through 34 pages, the real story is:
CMS is converting Medicaid §1115 budget neutrality from a negotiated spending-limit exercise into a prospective actuarial certification exercise. States will need to break demonstrations into activities, prove which activities are ordinary Medicaid-authorizable MAPS, perform rigorous financial analyses for §1115-only activities, include administrative costs, document savings, and prepare for more intensive review at renewal or amendment.
For states, the practical advice is:
Inventory every current §1115 authority now. Decide whether it is MAPS or §1115-only. Identify which old “hypotheticals” and “deemed budget neutral” authorities are vulnerable. Build activity-level cost and savings models. Be cautious about post-2027 amendments. Do not assume legacy savings will carry you.
This is why the letter feels like a “get ready” document. CMS is warning states that the Federal Register/CFR machinery is coming, but the statutory clock starts January 1, 2027 whether or not the final rule is ready.
