Best Bet for Gambling: Targeted Game-by-Game Gross Revenue Taxes

There is almost no question that a gambling crisis is looming—just a question of how bad it will be. Tax policy needs resources can be in place to catch vulnerable individuals when they fall.

Gambling is big business—like, really big. The American Gaming Association tracks commercial gambling revenue and found it to have reached $5.06 billion in the month of July 2022 alone. That’s on pace, despite problems in the economy as a whole, to have another record-setting year. The transition from physical casinos to virtual casinos and increasingly cozy relationships with major sports leagues is partly behind the boom; Covid-19 also played a big part. Gambling ads and apps and sponsorships are ubiquitous. Along with an increase in recreational players, more ads and opportunities are being put in front of the eyes of folks who already have or will have a gambling problem.

Addiction is an externality to the gambling industry—one that benefits it. In other words, when FanFuelBook’s ads successfully recruit and retain an individual with a gambling addiction, and that individual suffers serious financial ramifications, FanFuelBook needn’t fork over any cash to offset the cost to society. Addiction is the smog plume from the gambling industry’s tailpipe, and we’re all left to breathe the bad air with the understanding that some of us will suffer serious injury.

So what can be done? One way to internalize an externality to an industry is to tax that industry at the rate required to offset the cost to society. Assuming the state can collect and then spend those funds properly to put out the fires started by said industry, this solution “works.” Such a tax is separate from an income tax on income “from whatever source derived,” a la Section 61(a) of the Internal Revenue Code. It is one specifically targeted at the individual industry and tailored to the externality. The code imposes a 0.25% excise tax on the amount of any legal wager and a $50 head tax for employees tasked with receiving wagers.

A tax can be imposed to raise revenue or internalize externalities, but it also can be used as a deterrent to a given behavior—this is sometimes called a sin tax. The line between a sin tax and one that merely seeks to compensate society for a cost can be blurry. However, one potential distinction is an examination of the tax policy to determine whether the tax exists to raise a specific amount of revenue, presumably to offset some cost, or whether it is merely intended to immiserate the individual engaged in the suspect behavior. In other words, are we taxing problematic gambling practices or problematic gamblers?

When it comes to gambling taxes, there are two broad schools of thought: fixed license and gross revenue. Most states have some form of each. With a license tax, entities seeking to obtain a gaming license to take bets pay a license fee for the right to do so at the outset. They then generally have a license to engage in a swath of gambling activities. A gross revenue tax is imposed on the revenue generated by said gambling activities. A fixed license tax transfers a lump sum to the government but is agnostic as to how successful the license holder will become and/or how problematic their gambling activities will be—at the outset, the cost to society of that particular license is unknown. It is mostly a guessing game to tie the fee to the cost.

Visitors wait in line at a bar in front of the Flamingo Hotel and Casino at the Linq Promenade shopping area in Las Vegas on May 1, 2020.

Photographer: Roger Kisby/Bloomberg via Getty Images

Targeted Gross Revenue Tax

One potential alternative to a broad-based license tax is a tax targeted to the most problematic—that is, the most expensive for society—subsets of the industry. There isn’t a lot of data on the matter, but some early reports suggested that electronic gambling slot-machine style was especially addictive as it provided an immediate result, whereas other forms of betting had some level of delayed gratification (or mortification, as the case more often is). This is fortuitous, as delineating between revenue from in-person betting or sportsbooks and electronic gambling should require less administrative overhead on the part of the gambling industry.

A tax targeting the most addictive games can help internalize the externality of addiction and let the market determine if the game remains a profitable one for the gambling industry. Assuming a problematic game, the delta between the cost to put on a given game and the revenue generated by said game includes both compensation for the value added to society by the game and the cost to society of a problematic gambler.

A non-targeted revenue-based tax will not achieve the same result as a targeted one, as recreational gamblers will be affected by rising costs, whereas a problematic gambler will not—a hallmark of addiction. A simple gross revenue tax will only increase the cost to society as more gambling revenue is derived from problematic gamblers. Such a broad-based gross revenue tax looks much more like a sin tax, punishing “immoral” behavior, than one intended to offset the social costs of problematic gambling.

Admitting an addiction reckoning is coming is the first step. After that, an examination into what types of gambling convert recreational players into problematic players—either through a self-selection bias or the game itself—will proceed assigning a cost to society that requires compensation. Thereafter, gambling policy targeted at problematic games rather than at problematic gamblers will incentivize the industry to pursue avenues that are less likely to lead to addiction. As old games become less profitable either through tax policy or simply the market, new games will be developed. Taxing such a fluid industry will require nimble policies only possible through a targeted revenue tax.

This is a regular column from tax and technology attorney Andrew Leahey, principal at Hunter Creek Consulting and a sales suppression expert. Look for Leahey’s column on Bloomberg Tax, and follow him on Twitter at @leahey.