Planned Parenthood of Indiana can end a dispute over a law that would cut some of its public funding if it became two separate entities, with one offering abortion services and the other offering general health services, an attorney for the state told a federal appeals court Thursday.

Solicitor General Thomas Fisher said during oral arguments before the 7th Circuit Court of Appeals in Chicago that Indiana's new law is aimed at keeping taxpayer dollars "from indirectly subsidizing abortions."

He told the appeals court that Planned Parenthood of Indiana could ensure that wouldn't happen by separating its operations into two entities.

"Only by separating the two can we be sure that there's no cross-subsidy," Fisher said.

Planned Parenthood's attorney, Ken Falk of the American Civil Liberties Union, told the appeals court during the 45-minute hearing that Indiana's own Medicaid agency warned state lawmakers while they were weighing the legislation that it would violate Medicaid recipients' "freedom of choice" by targeting the abortion provider.

"The state Medicaid agency said, and I'm quoting, `Federal law permits states to define a qualified provider but requires that this definition is related to a provider's ability to perform a service _ and not what services are provided,'" Falk said.

The state asked the three-judge panel to lift a temporary injunction put in place in June that bars the state from cutting off Medicaid funds to Planned Parenthood because it provides abortions.

The law, which was signed into law in May by Republican Gov. Mitch Daniels, made Indiana the first state to deny the organization Medicaid funds for general health services, including cancer screenings.

Planned Parenthood said the law would affect about 9,300 women who rely on Planned Parenthood for their health care. State officials have said that scores of health centers across the state would readily accept Medicaid patients and offer reproductive and sexual health services.

Indiana officials argue that federal law bars Medicaid from covering abortions in most circumstances, and they say the dispute should be handled as an administrative appeal with Medicaid officials. The state suggested in a brief filed in August that Planned Parenthood should just separate its services to ensure no public money goes toward abortion.

Planned Parenthood of Indiana has said it would consider separating the services, as the group's chapters in Missouri and Texas have done. But advocates for the group say that even after splitting the services, the Missouri and Texas chapters were targeted by efforts to cut their funding for non-abortion services.

The appeals court took the case under advisement after Thursday's hearing. There was no indication of when it might rule.