Betting & Gaming Alert
May 2010
Authors:
Linda J. Shorey
linda.shorey@klgates.com
+1.717.231.4510
Robert A. Lawton
robert.lawton@klgates.com
+1.717.231.4549
Anthony R. Holtzman
Taxing Schemes Proposed in Connection
with Federal Bills That Would License
Internet Gambling Operators
Currently pending in the U.S. Congress are several bills that would authorize,
provide a licensure and regulatory scheme for, and impose taxes in connection with,
certain forms of Internet gambling. This Alert focuses on a novel component of the
proposed federal taxing schemes and how it differs from the taxing scheme typically
imposed by states on entities that conduct land-based gambling, i.e., casinos.
anthony.holtzman@klgates.com
+1.717.231.4570
K&L Gates includes lawyers practicing out
of 36 offices located in North America,
Europe, Asia and the Middle East, and
represents numerous GLOBAL 500,
FORTUNE 100, and FTSE 100
corporations, in addition to growth and
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sector entities. For more information,
visit www.klgates.com.
The Federal Bills
In the House, Rep. Barney Frank (D-MA) introduced H.R. 2267 – "Internet
Gambling Regulation, Consumer Protection, and Enforcement Act." The Frank bill
would authorize and provide for the licensure and regulation of operators offering
most forms of Internet wagering other than sports wagering. Rep. Jim McDermott
(D-WA) introduced a companion bill to the Frank bill (H.R. 2268 – "Internet
Gambling Regulation and Tax Enforcement Act of 2009"), which would amend the
Internal Revenue Code to provide a taxing scheme for those licensed under the Frank
bill. Rep. McDermott, on March 25, 2010, updated his taxing scheme in H.R. 4976 –
"Internet Gambling Regulation and Tax Enforcement Act of 2010."
In the Senate, Sen. Robert Menendez (D-NJ) introduced S. 1597 – "Internet Poker
and Games of Skill Regulation, Consumer Protection, and Enforcement Act of
2009." The Menendez bill would authorize and provide for the licensure and
regulation of operators offering online wagering opportunities on skill games such as
poker, chess, bridge, mah-jong, and backgammon. The Menendez bill would also
amend the Internal Revenue Code to provide a taxing scheme for those licensed
under his bill.
Also in the Senate, Sens. Ron Wyden (D-OR) and Judd Gregg (R-NH) introduced S.
3018 – "Bipartisan Tax Fairness and Simplification Act of 2010." One portion of
that bill would authorize and provide for the licensure of Internet gambling operators
in a fashion similar to the Frank bill and would amend the Internal Revenue Code to
provide for taxation of those licensed under the bill in a fashion similar to that Rep.
McDermott proposed in H.R. 2268.
All the bills have been referred to and remain in committee.
The Proposed Federal Taxing Scheme
The pending bills that concern the Internal Revenue Code propose similar taxing
schemes but with different tax rates – a fee on "deposited funds," i.e., the amount
players would deposit into their account with a licensed Internet gambling operator
Betting & Gaming Alert
to fund their wagering activities.1 "Deposited funds" would not reflect "churning" (winnings or losses that
move into and out of accounts).
The tax rates the various federal bills would impose on "deposited funds" are shown below in Chart I, along
with the amount of tax that would be derived using the rates, if the deposited funds equaled $500.
CHART I
Bill
Tax Scheme
S. 3018
Federal: 2%
of deposits
Tax on $500
Deposit
Federal fee:
$10
TOTAL TAX
$10
S. 1597
Federal: 5% of deposits
State/Tribal:2 5% of deposits
from players located in a
State or Tribal jurisdiction at
the time of the transaction
Federal fee: $25
Maximum State/Tribal fee:
$25
$50
H.R. 4976
Federal: 2% of deposits
State/Tribal: 6% of
deposits from players who
reside in a State or Tribal
jurisdiction
Federal fee: $10
Maximum State/Tribal fee:
$30
$40
State Taxing Schemes
The proposed federal tax on deposited funds would differ from the tax currently imposed by States on landbased casinos. States typically tax land-based casinos based upon their "gross gaming revenue," which is
comparable to the casinos' "net win" from gaming activities. "Gross gaming revenue" for a land-based
casino can be characterized as the difference between the casino's gaming wins and losses before any of its
costs and expenses are deducted.
Comparison of Federal and State Taxing Schemes
Because of the difference between the tax scheme contemplated by the proposed federal Internet gambling
bills and the scheme typically used by States to tax land-based casinos, it is difficult to compare the potential
tax impact. Doing so requires finding a method to compare deposited funds for an Internet gambling
operator with gross revenue for a casino. One way to do this is to use the percentage a land-based casino
expects to win from the funds that will be "deposited"3 by a player at a table game, i.e., the casino's expected
"net win," which is roughly equivalent to the gross revenue a casino earns from the amount. The "net win"
can then be multiplied by the State tax rate to ascertain the amount of tax. The State tax can then be
compared to the amount of tax that would be collected from "deposited funds" under the proposed federal
tax scheme.
1
There are other taxing components to the schemes in one or more of the federal bills that are not discussed in this
Alert.
2
The State/Tribal fee would be distributed based on the jurisdiction where the player depositing the funds resides
(McDermott) or was at the time of the transaction (Menendez). Both bills permit the States or Tribes to opt out, i.e., to elect not to
receive any revenue.
3
The amount "deposited," i.e., the drop, at a casino table game is the sum of (a) cash deposited and (b) markers (credit
instruments) issued less any markers paid at the table for the purpose of purchasing chips. Casinos track "net win" as a
percentage of the table drop to determine an expected "net win" percentage.
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Betting & Gaming Alert
To illustrate, we assume a player deposits $500 with a licensed Internet gambling operator and purchases
$500 worth of chips (the "deposited" amount) from a land-based casino, both for the purpose of playing
poker. For State tax purposes, we derive the "net win" on the $500 worth of tokens by using an expected
win percentage of 21%.4 Applying the 21% expected win percentage results in a net win of $105.
Chart II below shows the tax schemes for seven states and the revenue that would be generated from the
player’s $500.
CHART II
State
Tax on Gross
Gaming
Revenue
Tax on Net
Win of $105
IL
32.50%5
IN
27.50%6
LA
MS
21.50% 12.00%7
MO
NV
21.00% 7.75%8
NJ
9.25%9
$34.13
$28.88
$22.58
$22.05
$9.71
$12.60
$8.14
When the total tax that would be collected from the various proposed federal schemes is compared to the
state schemes, it shows that the tax rates associated with the Frank/McDermott and Menendez bills are
substantially greater than the tax imposed on land-based casinos.
Justification for Federal Taxing Scheme
The House Committee on Ways and Means, on May 19, 2010, held a hearing on "Tax Proposals Related to
Legislation to Legalize Internet Gambling." Rep. McDermott testified about the tax scheme proposed by
H.R. 4976. His testimony is available in written form or as presented at
http://waysandmeans.house.gov/Hearings/Testimony.aspx?TID=8523. He described the tax scheme his bill
proposes and why it is different from that used to tax land-based casinos:
My bill would create one new type of tax – a tax on online gambling deposits – that is well-suited to
online gambling, and which would never be imposed on a land-based casino. It would level the playing
field between online operators and brick-and-mortar gambling operations which are more expensive to
run.
A number of Committee members had comments and questions about the proposed tax on deposits.
According to the Las Vegas Review-Journal, the two Committee members from Nevada – Reps. Shelley
Berkley and Dean Heller - "did not embrace the tax plan." Steve Tetreault, Promise of big money fails to
lure support for online gaming: Possible legislation would impose levies on Internet gaming operators and
4
The 21% is the mean of "expected win percentage" on table games as reported by Las Vegas Sands Corp. in its Third
Quarter 2009 8-K filed with the U.S. Securities and Exchange Commission.
5
6
7
8
9
Since Illinois imposes a graduated tax rate, the chart uses the average of the graduated tax rates.
Since Indiana imposes a graduated tax rate, the chart uses the average of the graduated tax rates.
The applicable tax rate includes both the State rate and the rate permitted to be imposed by local government.
See n.7.
See n.7.
May 2010
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Betting & Gaming Alert
others, LAS VEGAS REVIEW-JOURNAL (May 20, 2010), available at http://www.lvrj.com/business/promiseof-big-money-fails-to-lure-support-for-online-gaming-94408524.html.
Summary
It is too early to predict whether any of the proposed bills that would authorize and provide for licensure and
regulation of Internet gambling in some form will be enacted, let alone whether the novel scheme of taxing
licensees on "deposited funds" might become reality.
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May 2010
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