Pennsylvania Lawmakers Made A Major Misstep Passing A High Tax Rate On Sports Betting

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By the time the Eagles take the field in September, Pennsylvania casinos may be permitted to accept wagers on the game. Whether they’ll be thrilled about doing so, that’s a different story.

In December, the SCOTUS heard oral arguments in the Christie v. NCAA case, with the projected outcome being that the justices will lift the federal ban on sports betting (PASPA). The decision is expected to be made sometime this spring.

In anticipation of a favorable outcome, Pennsylvania included a provision in its recently passed expanded gambling bill that calls for the legalization of both live and online sports betting. And Pennsylvania being Pennsylvania, both the license operating fee and tax rate are so sky-high that the climate for operators, and by extension players, will border on inhospitable.

Pennsylvania marches to a different drummer

Pennsylvania isn’t the only state that has drafted sports betting legislation, but it’s one of just a couple where lawmakers clearly didn’t get the message that sports betting is a low-margin vertical.

Under the law, Pennsylvania land-based casinos will be required to pay a $10 million licensing fee to conduct sports betting. The tax rate is set at 34% of gross gaming revenue, plus another 2% local share assessment. There is also a 0.25% federal excise tax on handle, which equates to roughly 5% of revenue. For simplicity, let’s say books will have to fork over 41% of their take.

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If that seems oppressive, it is. Comparatively, this is what some other state legislations have come up with:

  • New Jersey: $400k licensing fee, 17.5% tax on gross gaming revenue
  • New York: 10% tax on GGR; licensing fee yet to be determined
  • Mississippi: 11-12% tax on GGR; no licensing fee determined as of yet
  • Michigan: $200k licensing fee, 10% tax on GGR
  • Kentucky: $250k licensing fee, taxes equal to 20% of handle
  • West Virginia: $250k licensing fee, 10% tax on GGR
  • Nevada: Existing industry taxes operators at 6.75% above $134k per month, a lower tax rate is set on initial revenue

*All of the aforementioned are also subject to the federal excise tax equal to 0.25% of handle.

Outside of Kentucky, which clearly has no clue how sports books stay in business (20% of handle is roughly 400% of revenue), all these states have crafted legislation that levies a fair licensing fee and tax rate on sports betting.

Pennsylvania lawmakers went against the grain, as they tend to do with everything related to expanded gambling, imposing a sports betting tax rate that falls in line with their tax on land-based slot machines. Slots in Pennsylvania are taxed at 54%, the highest in the nation.

As they’ll soon learn, live and online sports books are a completely different animal than slots.

And then there’s the integrity fee

The NBA and the MLB are lobbying hard for their piece of the pie, by way of so-called “integrity fees”. The concept first arose in an Indiana House bill and has quickly gained momentum. Should the leagues have their way, states could be compelled to hand over 1% of their handle quarterly.

1% of handle equates to approximately 20% of profits, an outrageous sum that has received plenty of pushback from gambling interests.

Although the 1% figure is probably just a starting point for negotiations, the threat of an additional fee paid to leagues is real. Even if the compromise point is 0.25%, that’s an additional 5% of revenue out the window. In Pennsylvania, it would bring the effective tax rate up to 46%.

If that figure isn’t enough to make prospective operators in the sports betting space take pause, we don’t know what will.

Now, Pennsylvania has already passed its sports betting legislation without an integrity fee, so unless the issue goes to Congress, it’s probably safe. But the possibility, no matter how remote, looms.

A plan that could backfire

High license fees and tax rates on sports betting are not only damaging to operators, who will be forced to cut multiple corners to eek out modest profits, and players, who may have to suffer the pains of worse odds, but to state coffers as well.

The license fees appear to be the lesser of the two evils, as presumably most mid-to-large scale PA land-based operators will begrudgingly pay the $10 million. However, the combination of the license fee and the outrageous tax rate may scare off Category 3 casinos and smaller scale Category 1/2 casinos such as Presque Isle. In a worst case scenario, the state and local communities will lose out on several sources of recurring revenue.

As damaging as the license fee can be, the real issue is the tax rate.

According to a recent report from Gambling Compliance, Pennsylvania land-based casinos stand to generate roughly $75 million in annual GGR from sports betting. At a 36% tax, $27 million would be handed over to the state and local communities. If the tax rate were lowered to the New Jersey rate of 17.5% that figure would dip to $13.1 million in annual tax payments, a difference of $13.9 million.

From the perspective of the state, roughly $14 million is spare change compared to the ~$1.2 billion it hauls in off slot revenue each year — a figure that should rise materially once the first Category 4 casinos go live.

What lawmakers fail to realize is that sports betting shouldn’t be viewed as a primary source of revenue (it isn’t), but as a low-margin vertical that drives other sources of revenue. At land-based casinos these sources include slots, table games, food & beverage, entertainment, and hotel stays.

Put simply, sports betting gets players in the door. Penn National Gaming’s CEO Timothy Wilmott summed up this point best when during a recent earnings call he stated:

“But we think the big advantage for us is the increased visitation that we’ll see by having sportsbook operations at our regional properties where we can take advantage of that visitation with higher room rates, higher volumes of food and beverage revenues…So, I think the bigger benefit will be from the indirect areas that sports betting brings in just due to increased visitation.”

By creating an environment where books will be forced to reduce their marketing spend, offer terrible odds, and limit their reach in other ways, they won’t be able to thrive or even sustain, costing the state tons of tax dollars that would have been generated from non-sports betting activities.

And for what it’s worth, if books were less heavily taxed they’d likely procure more GGR, partially offsetting the losses incurred by slashing the tax rate.

What about online?

Admittedly, PA online sports books are projected to generate a lot more revenue than their land-based counterparts. Gambling Compliance puts annual online sports betting revenue at roughly $310 million annually, more than four times what land-based casinos will win. So at least on paper, higher tax rates will produce significantly more revenue for the state.

However, because online sports books can only rely on a singular source of low margin revenue, they’re under even more strain than land-based. They also incur costs that land-based casinos do not, such as technology, geolocation and Know Your Customer fees. Not only that, but they must spend on marketing/promotions, player retention, and staff.

Siphoning more than 40%  of their annual revenue on top of all these costs may prompt some operators to just say “no” as the path to profitability will prove too elusive.

Conclusion

Pennsylvania lawmakers are well-advised to revisit the tax rate on sports betting. Under current law operators may have to fork over two-fifths of their revenue, rendering sustainability almost an impossibility.

Lower the rate and the books will thrive, increasing online revenue and driving increased visitation to land-based casinos. Here’s hoping that common sense and logic wins the day.

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Robert is a veteran writer and analyst for the gambling industry, with a particular focus on the emergent US online gambling market. An avid poker and gambling enthusiast, Robert offers unique perspectives from both the vantage point of the player and industry professional, and is fit to cover a broad spectrum of topics.

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