Medicaid Policy & Strategy

The End of “Wait and See” in Section 1115 Budget Neutrality

Section 1115 Budget Neutrality Is Changing: What States Need to Do Before 2027

August 20, 2026

6 minutes

Key Takeaways

CMS is fundamentally changing how Section 1115 demonstration budget neutrality will be evaluated.

The new Section 1115 budget-neutrality framework moves away from the traditional With-Waiver / Without-Waiver methodology and introduces a more prospective approach to evaluating demonstration spending.

States should begin reviewing and classifying their Section 1115 demonstration activities now. This blog explains the key changes to Section 1115 budget neutrality, what the new framework means for demonstration financing, and the steps states can take to prepare before the 2027 requirements take effect.

Beginning January 1, 2027, CMS Chief Actuary certification will be required before CMS can approve a new Section 1115 demonstration, renewal, or amendment.
Budget neutrality will shift from a largely retrospective exercise to a prospective, activity-level financial impact analysis focused on whether a demonstration is expected to increase federal Medicaid expenditures.
States should begin now by classifying demonstration activities, modeling savings and rollover implications, reviewing amendment timing, and identifying opportunities to transition activities to other Medicaid authorities.

The Rules of Budget Neutrality Are Changing

For most of the last three decades, Section 1115 budget neutrality worked on a familiar rhythm. A state built a Without-Waiver baseline, negotiated Medicaid Eligibility Groups (MEGs) with the Centers for Medicare & Medicaid Services (CMS), got an expenditure limit written into its special terms and conditions (STCs), and then ran the demonstration. Projected expenditures had to be at or below the Without-Waiver baseline; however, whether it had actually been budget neutral was a question answered years later, against actual expenditures — and if the answer was no, the state made a negative adjustment on the CMS-64. Approval was the beginning of the conversation. Rebasing and midcourse correction existed for the moments when circumstances moved out from under the state.

That framework is ending.

Section 71118 of Public Law 119-21 added Section 1115(g) to the Social Security Act, and CMS’ June 11 guidance, “State Medicaid Director Letter #26-003,” describes how the agency intends to implement it. Beginning January 1, 2027, the CMS Chief Actuary must certify, as a condition of approval, that a new demonstration, renewal, or amendment is not expected to increase federal Medicaid expenditures.

The consequence is easy to state and hard to overstate: the same arithmetic that used to produce a repayment obligation five years after the fact now produces a denial today.

Classification is the Whole Ballgame

Under the new approach, states sort every demonstration activity into one of two categories.

Medicaid Authorizable Populations and Services (MAPS). MAPS covers activities the state could otherwise have implemented under its state plan or other Title XIX authority, including services delivered at a different site of service, such as substance use disorder or serious mental illness treatment in an institution for mental disease, or pre-release reentry services. MAPS activities are treated as having a net financial impact of zero. No detailed analysis is required; the state provides a federal budget impact figure and attests that payment terms match what would apply outside the demonstration. MAPS activities also cannot generate savings.
Section 1115-only activities are everything else. These are the things that could not be authorized outside the demonstration: Uncompensated care and provider pools; Health-related social needs (HRSNs) and reentry infrastructure; Coverage extended to populations not otherwise eligible for those services; Marketplace premium and cost-sharing subsidies. These require a rigorous, well-documented financial impact analysis, and collectively they determine whether the demonstration is certified at all.

The classification test is narrower than the “hypothetical” test it replaces. Section 1115(g) refers to populations and services the state could otherwise have provided. CMS reads that conjunction literally: the specific combination has to be otherwise coverable. Activities that comfortably qualified as hypothetical, either because the population or the service was authorizable, will not all survive the translation to MAPS.

What Comes off the Table

Several familiar mechanics disappear. Expenditure limits and budget neutrality caps are gone, because a demonstration projected to increase federal spending is not approved in the first place. Rebasing is gone, though CMS has signaled forthcoming corrective-action requirements for material deviations from projection. Administrative costs, historically excluded from the budget neutrality calculation, now count. And CMS will no longer deem authorities budget neutral. Territories, single-plan authority, former foster care youth, and traditional healthcare practices all have to meet the test at the next renewal or amendment.

Savings get tighter too. Rollovers are capped at the current demonstration period or the most recent five years, whichever is shorter, and immediately roll into the following renewal only. Older accumulated savings are stranded. States that have been funding Section 1115-only initiatives out of a long-accrued savings balance should be modeling where that cliff lands.

Shorter Approvals & No Fast Track

Two changes compound the certification burden. CMS intends to propose a five-year maximum demonstration period, reasoning that ten-year approvals leave states operating under STCs that drift out of step with current policy; the only exception is a mechanical one, aligning an expiration that would fall mid-quarter to the end of the next fiscal quarter. Separately, a July 7 informational bulletin rescinded the 2015 fast-track process for Section 1115(a) demonstration extensions. The combined effect is more frequent renewals, each requiring full actuarial certification, with no expedited path. Note too that the five-year cap and the five-year rollover window now coincide: a state can no longer accrue savings across a ten-year period and carry the balance into its next renewal.

The Sequencing Trap

One detail deserves particular attention. A mid-period amendment approved on or after January 1, 2027, triggers certification for the whole demonstration and ends further savings accrual under the current methodology. A state that would have earned another year or two of rollover by simply running to the end of its period can forfeit it by amending. Amendment timing is now a financial decision, not just a programmatic one.

What to do Between Now & January

CMS intends to formalize this through rulemaking, and if a final rule is not effective by January 1, the agency expects to apply the letter’s approach provisionally. Either way, the work states need to do is the same, and it does not depend on the final rule’s details.

Start with a complete inventory of demonstration activities and a defensible classification of each one, including confirmation that MAPS payment terms match state plan terms. Identify which Section 1115-only activities currently depend on demonstration savings and assess honestly whether an activity-attributable savings case can be built for each. Model the transition rollover under the 2024 methodology to see how much carries forward. Evaluate whether at-risk activities can move to another authority: state plan, Section 1915 waivers, disproportionate share hospitals, or Section 438.6(c) directed payments.

States that wait for the proposed rule to begin this work will be building analyses under deadline pressure for a reviewer who has never had a role in this process before and who is applying professional actuarial standards to it. The states that start now will simply be answering questions they have already asked themselves.