US: Can player funds be
protected by regulators?
Protecting consumers was a hot
topic at the recent congressional
hearings held in the United States
on the subject of internet gaming.
Witnesses discussed, among many
other reasons for regulation, the
need to protect player deposits and
winnings. Often referenced in
support of this need is the inability
of poker players to recover the
funds in their accounts from two of
the three internet poker operators
that the US Attorneys Office ('the
USAO') for the Southern District of
New York took action against on 15
April 2011. Linda J. Shorey and
Robert A. Lawton, of K&L Gates,
look at the types of regulation that
might be used to protect player
funds and how they compare. They
examine the requirements used by
nine gaming authorities in and
outside of the US to protect player
funds and, more specifically, the
actions of the gaming authorities
that licensed the gaming entities
involved in the action taken by the
USAO. They conclude that
regardless of the requirements
imposed to protect player funds,
without vigilant regulatory oversight,
player funds may be at risk.
Types of regulation
There are at least four possibilities
for regulation to protect player
funds:
G segregated accounts;
G reserves or liquidity
requirements;
G bonds; and
G financial soundness
requirements.
First, segregated accounts can
provide the highest level of
protection for player funds. Under
this rubric, regulations may require
a licensee to segregate player funds
in one or more accounts
completely separate from the
licensee's accounts. Rules can also
govern the custody of such funds
and access thereto. Such
requirements are common under
state laws that govern stored value.
Under this rubric, the regulator
could verify that funds are actually
in the account, if the licensee is
also required to authorize the
account holder to permit the
regulator access to view the
contents of the account.
Second, reserve or liquidity
requirements are often used in
jurisdictions that permit
commingling of player and licensee
funds. Under this regime, reserves
or liquidity requirements are
established based on assumptions
as to the level and frequency of
player withdrawals or
redemptions1. Liquidity and reserve
requirements can also be coupled
with investment limitations, to
ensure stability of the commingled
assets. The level of protection,
however, decreases as compared to
segregated accounts as the
requirements necessarily imply
assumptions as to player activity
and performance of commingled
funds that are invested. For this
reason, such a system typically
works better in circumstances
where there are sufficient numbers
of players to justify the use of such
assumptions.
Third, requiring a bond or other
form of financial security that can
be used to repay players in the
event of operator failure to do so
can provide a level of protection,
albeit far less protection than
would be provided by segregated
accounts or liquidity/reserve
requirements. The level of
protection would depend on the
amount of the bond in relation to
the total amount of player funds
and whether its primary use, in the
event the operator cannot meet its
obligation, is for repayment of
players. The level of protection
would also be tied to the financial
strength of the bonding company,
as well as its ability to pay claims
promptly.
The last, and probably the least
effective means of protecting player
funds, is to require an operator to
maintain certain minimum
financial ratios. This method
would require financial oversight
by regulators to ensure that
financial reports were accurate.
However, such reporting is purely
retrospective, so there can be a
time lag between the time of any
financial weakness and the timing
of financial reports. Moreover, such
a system often cannot adequately
account for large and unexpected
liabilities that are not, or cannot
be, insured against.
Regulatory requirements
examined
In preparing this article, we
reviewed regulatory requirements
for the protection of player funds
from nine jurisdictions - five
offshore and four domestic.
Outside the US, the regulations of
the gaming authorities of Alderney,
Antigua and Barbuda, Isle of Man,
Kahnawake, and Malta were
examined. In the US, the
regulations of gaming authorities
with responsibility for advance
deposit wagering in the states of
Illinois, Kentucky, Nevada, and
published in World Online Gambling Law Report, November 2011. www.e-comlaw.com. Twitter @WOGLReport LinkedIn: ‘World Online Gambling Law Report’ group. London, UK
Oregon2 were examined. All appear
to require individual player
accounts to be established and
individual player deposits,
winnings, and loses to be recorded.
Four of nine of the gaming
authorities require segregation of
player funds from the licensee's
operating funds. Outside the US,
segregation is required by the
gaming authorities in Antigua and
Barbuda, Isle of Man, and Malta.
In the US, segregation is required
by the gaming authority that
controls advance deposit wagering
in Kentucky.
Another four of the nine gaming
authorities permit player funds to
be commingled with the licensee's
operating funds. Outside the US,
commingling is permitted by the
gaming authority in Alderney. In
the US, commingling is permitted
by those gaming authorities that
govern advance deposit wagering
in Illinois, Nevada, and Oregon. To
protect players, Alderney requires
licensees to have a cash reserve that
covers all player funds, while
Nevada requires a reserve of a
specific amount. While Illinois
requires licensees to post a
$500,000 bond (or other form of
financial security), it does not
specifically provide that the bond
can (or must) be used to pay
players if the operator does not.
There are no specific requirements
concerning player funds in the
Oregon regulations, although
applicants for licensure are
required to submit a plan for how
the applicant will operate its
account wagering system. The
Oregon gaming authority may
require changes to that plan and
may do so if the plan does not
adequately protect player funds.
The ninth gaming authority, the
Kahnawake Gaming Commission,
requires both segregated accounts
and external financial support. Two
regulations appear to indicate that
segregation is required. A 'player's
What is most
important in
protecting
player funds
is to establish
a security
system that
is subject to
verification
by those
charged with
regulatory
oversight. If a
regulator
must rely on
financial
reports
generated by
the licensee
to verify
compliance,
the possibility
exists for
mischief that,
in the best of
circumstance
s, would only
be uncovered
by an
independent
audit of a
licensee's
financial
records
account' is defined, in part, to
mean an account '(a) in the name
of the player: (i) at a financial
institution, or (ii) with a body
approved by the Commission'.
Kahnawake Gaming Commission,
Regulations Concerning Interactive
Gaming, Part II. Paragraph 188
provides that '[a licensee] must
ensure that: (a) the [licensee's]
liability for player balances is
separately identifiable at all times;
and (b) player balances and prizes,
bonuses and guaranteed amounts
are covered by liquid funds at all
times and that upon request the
Commission is provided proof of
same'. Kahnawake Gaming
Commission, Regulations
Concerning Interactive Gaming,
Part XXI.
In addition to Paragraph 188's
requirement for segregated
accounts, Paragraph 88 provides
that licensees 'must provide the
type and amount of security for
the costs and expenses incurred by
their operations, including but not
limited to obligations owed to
players, as directed by the
Commission' and Paragraph 89
provides that if the licensee 'does
not fulfill its obligations to...a
player, the Commission may take
such measures, as may be required,
to use the security provided by the
[licensee] to satisfy the obligation
in question'. Kahnawake Gaming
Commission, Regulations
Concerning Interactive Gaming,
Part X. However, Paragraph 90
seems to provide some regulatory
discretion in implementing this
requirement, as it requires the
Commission to 'decide whether a
[licensee] should be required to
post security under this Part'.
Regulator reaction to
licensees subjected to USAO
action
The internet gaming operators that
had assets seized by the USAO on
15 April 2011 were Pokerstars, Full
Tilt Poker, and Absolute
Poker/Ultimate Bet ('AP/UB'). The
seized assets included bank
accounts and domain names. After
the public announcement of the
seizures, each operator received the
USAO's permission to use the
websites associated with their
seized domain names for the
purpose of allowing US-based
players to request the return of
their funds. Only the Pokerstars
website is currently functional3,
and based on media accounts, it
appears only Pokerstars has
reimbursed players.
As of 15 April 2011, Pokerstars
was licensed by the Isle of Man,
which required segregation, Full
Tilt was licensed by Alderney,
which required a 100% cash
reserve for player funds, and
AP/UB was licensed by
Kahnawake, which required both
segregated accounts and external
financial support4. After the
seizures, each of the regulators
indicated they were in contact with
their licensees.
The most recent statement by the
Isle of Man concerning Pokerstars,
dated 29 June 2011, states that
'Pokerstars continues to
demonstrate compliance with its
licence conditions in the Isle of
Man'5. The continuing validity of
this report is supported by the
absence of media reports about
Pokerstars' US-based players
complaining of non-payment and
the presence of stories that
Pokerstars remains the number
one poker site in the world, even
without its US players.
The most recent statement by the
Alderney Gambling Control
Commission, dated 29 September
2011, states that the Commission,
on that date, revoked the
previously suspended licenses of
three entities operating as Full Tilt
Poker. The suspensions had been
put in place on 29 June 2011, after
the Commission conducted a
published in World Online Gambling Law Report, November 2011. www.e-comlaw.com. Twitter @WOGLReport LinkedIn: ‘World Online Gambling Law Report’ group. London, UK
special investigation 'prompted by'
the USAO actions. The 29
September statement contains a
link to the Commission's decision
that explains the license
revocations. Two relevant grounds
for revocation of the license of the
entity that covered North America
were:
G violation of the requirement
that a licensee 'shall, at the request
of a registered customer, remit
funds standing to the credit of that
customer as directed by the
customer'; and
G maintain a reserve sufficient to
pay all player accounts.
A review of the decision reveals
that the Commission found that
Full Tilt had not complied with its
reporting requirements, including
notifying the Commission of assets
that had been seized by the US,
starting in June 2007, and
submitting inaccurate reports6.
The most recent statement by the
Kahnawake Gaming Commission,
dated 27 October 2011, states that
the Commission, since the USAO
actions, 'has been in close and
regular discussions with its
licensee, Blanca Games Inc.
('Blanca'), operating as Absolute
Poker and UB.com ('AP/UB'), to
facilitate the reimbursement of
both US and non-US players' and
that its 'foremost concern in this
matter has been, and remains, the
reimbursement of both US and
non-US players'7.
The statement indicates that
Blanca has advised the
Commission of its proposal to the
USAO for permission to liquidate
its assets to provide funds to repay
players. The Commission notes
that it 'has demanded that all
parties complete their discussions
and implement a reimbursement
solution without further delay'.
Interestingly, Blanca remains listed
on the Commission's website as a
licensee with two associated '.eu'
urls, with no indication of any
action having been taken as a result
of its inability to repay players8.
Conclusion
While requiring segregation of
player funds in a separate account
is likely the most secure method to
protect player funds, other
methods can also be effective and
less costly. The Gaming Audit and
Accounting Guide published by the
American Institute of CPAs
(AICPA) does not suggest that
segregation is a typically done by
gaming entities, or even required
by their regulators. Standard
accounting practice would be to
provide some account with which
to pay liabilities, such as player
funds, whether through
maintaining sufficient liquid assets
or establishing cash reserves.
What is most important in
protecting player funds is to
establish a security system that is
subject to verification by those
charged with regulatory oversight.
If a regulator must rely on financial
reports generated by the licensee to
verify compliance, the possibility
exists for mischief that, in the best
of circumstances, would only be
uncovered by an independent audit
of a licensee's financial records.
When licensees are not located in
the same jurisdiction as the
regulator, performing audits can be
expensive due to the travel and
time commitments required.
Moreover, audits are always staff
intensive and are always
retrospective in nature. If the costs
of such financial oversight cannot
be assessed against the licensee, or
if funds are beyond reach of the
regulators, regulators may be
hesitant to conduct audits in the
frequency needed to detect
problems. In sum, protecting
player deposits requires careful
consideration of the possible
methods to be employed in light of
how licensee compliance can be
ensured and verified.
Linda J. Shorey Partner
Robert A. Lawton Associate
K&L Gates
linda.shorey@klgates.com
robert.lawton@klgates.com
1. If the regulator requires the cash
reserve to be the total amount of player
funds and to be kept in an account
separate from the licensee's operating
accounts, the result would be equivalent
to requiring segregation.
2. In the US, off-track and interstate
wagering is permitted by the federal
Interstate Horseracing Act (IHA), 15
U.S.C. 3001-3007, if done in
accordance with the requirements of the
IHA. A few states require entities that
allow wagerers who reside in their states
to open accounts to conduct pari-mutuel
wagering on horse races (called advance
deposit wagering companies ('ADWs'))
to obtain a state license. The laws of four
of these states were examined.
5. See www.pokerstars.com/
4. Pokerstars and Full Tilt also have/had
one or more country-specific licenses.
Regulations for those jurisdictions were
not reviewed in preparing this article.
5. See www.gov.im/gambling/
6. The reporting inaccuracies included
designating as cash (i) funds that were in
accounts 'frozen' as a result of USAO
seizures starting in 2007 and (ii)
'deposits' by players that had not
actually been deposited.
7. See www.gamingcommission.ca
8. See
www.gamingcommission.ca/interactiveO
p.asp
published in World Online Gambling Law Report, November 2011. www.e-comlaw.com. Twitter @WOGLReport LinkedIn: ‘World Online Gambling Law Report’ group. London, UK