Taxable Talk

Yesterday, Governor Chris Christie of New Jersey announced that New Jersey would not prosecute any casino or race track that offered sports betting. This is in spite of a federal court ruling that New Jersey’s sports betting law was unconstitutional. My suspicion is that the federal courts will not look favorably on this, and Governor Christie’s actions will be for naught. Indeed, the attorney crAAKer posted on his blog that this is unlikely to succeed.

But let’s assume that somehow the courts allow this. There’s an issue that will put New Jersey at an extreme disadvantage to Nevada’s legalized sports betting: taxes. Specifically, the Excise Tax on Wagering.

Yes, there are a whole bunch of federal excise taxes. And there’s an IRS publication dedicated just to them. One day you might need to know about the tax on arrow shafts (I’m not making this up). But I digress….

The excise tax on wagering is summarized as follows:

IRC 4401(a)(1) imposes a 0.25 percent tax on the amount of any wager authorized under the law of the state in which accepted.

IRC 4401(a)(2) imposes a 2 percent tax on the amount of any wager not described in IRC 4401(a)(2) (i.e., those not authorized by state law).

This doesn’t apply to all betting in the US; it applies to:

IRC 4404 provides that the tax applies to wagers:

• Accepted in the United States, or
• Placed by a person who is in the United States with a U.S. citizen or resident, or in a wagering pool conducted by a U.S. citizen or resident.

As noted in an IRS analysis on this tax, this tax applies just to sports betting (and wagering that involves a sports bet). An interesting issue is whether this tax applies to fantasy sports, such as daily fantasy sports. I suspect it does, but that’s another issue for another day.

So let’s say you place a bet at the Bellagio sportsbook, betting $100 that the Chicago Bears will beat the San Francisco 49ers. Out of the Bellagio’s “juice”–your bet will typically cost you $110 or $120, with the house (Bellagio) keeping that extra money–Bellagio must pay the 0.25% wagering tax. On a bet of $100, that’s $0.25. The Bellagio remits the tax using Form 730.

Now let’s consider if the Borgata Hotel in Atlantic City were to accept the same bet. Again, the federal excise tax clearly applies. However, the tax rate will be the 2% rate rather than the 0.25% rate because New Jersey has not legalized sports betting. Indeed, Governor Christie vetoed such legislation earlier this year. While New Jersey would argue that the previously passed Sports Wagering Act allows for sports betting, federal courts have ruled that it could not be put into effect.

New Jersey argues that federal law sort of allows any state to conduct sports betting. From crAAker’s analysis:

New Jersey seeks to avoid the licensing problem by asserting that the licensing provisions can be severed from the statute. Severability is a common law doctrine which permits a court to invalidate one section of a statute while leaving the remainder in force. In this case, the statute contains an explicit legislative endorsement of severability (Section 5:12A-2(g)), which expresses the legislature’s intent to have a court attempt to enforce the statute in the event the statute was found to violate PASPA and creates a legal presumption in favor of severability.

Since New Jersey has not authorized sports betting–the only law that was passed by New Jersey was not allowed to be put into effect by the federal courts–the higher 2% rate applies. That means that the Borgata would owe $2 to the IRS rather than the $0.25 that Bellagio owes on a $100 sports bet.

A fundamental principle of economics is that all government fees and taxes are passed on to the consumer. The additional $1.75 that a New Jersey sportsbook would have to pay would be passed on to the New Jersey sports bettor. That will make betting more expensive in New Jersey than Nevada. Even if somehow the courts were to allow sports betting in New Jersey, it will be at a higher price to the consumer than in Nevada.

I suspect the courts are going to throw buckets of cold water on the idea of legal sports betting in New Jersey. However, even if they don’t the IRS would make it a bad bet.

New Jersey Governor Chris Christie signed into law a bill authorizing online gambling in New Jersey. I’ve seen tweets from friends saying things like, “Great! Christie legalizes online poker in New Jersey.” Well, that’s not exactly what happened. While I’d prefer not to throw some cold water on the party, I’m afraid I have to.

What was signed into law is a bill authorizing the New Jersey Casino Control Commission to authorize licensees to run games online. The NJCCC will authorize which games can be run online. While it is virtually certain that poker will be allowed online, the NJCCC still has to vote for it.

Further, licensees of the Commission will need to put together proposals for running the games online. They’ll need to demonstrate that they have the systems in place so that everything works smoothly; that the games are fair; that appropriate measures are in place to prevent cheating and underage gambling; etc. Nevada legalized intrastate online poker nearly a year ago; the first real money virtual poker in Nevada has yet to take place. I suspect it will take at least twelve months in Nevada (fifteen is my guess). It may take slightly less time in New Jersey (companies with Nevada licenses will have more of the processes in place), but it’s a good bet that the first game of New Jersey virtual poker will occur in 2014, not 2013.

I’ve heard some say that New Jersey will be able to partner with sites that are in Europe, so that residents of the Garden State will be able to play poker against Europeans. That’s not going to happen–at least, for now. The US Constitution gives the federal government the sole right to make treaties with foreign countries. That’s in Article I, Section 8, Clause 3:

[The Congress shall have Power] To regulate Commerce with foreign Nations, and among the several States, and with the Indian tribes….

New Jersey can’t make a treaty with, say, Italy. That’s not happening.

It’s even debatable whether interstate poker would be legal. Must their be legislation before, say, Nevada and New Jersey can enter an interstate compact for online gambling? Congress has specifically allowed multi-state lottery compacts (such as Powerball). Must Congress specifically authorize the same kinds of compacts for online poker? It is clear that if Congress authorized such compacts they would be legal; without such legislation, it becomes a question of law.

I don’t know the answer to this question. I’ve heard both yes and no from people well versed in this area of law. It’s the kind of case that could be fought in the courts for years. Interestingly, the states where all gambling is required to be run by lottery commissions (such as West Virginia) could make online poker compacts with other such states; those have a higher likelihood of being legal.

Today’s signing of online gambling legislation is welcome news for American online poker players. It is, however, just one step among many that must be made before legal online gambling is available for all Americans (or even residents of New Jersey).