A Tax-Based Response to the E-Commerce Revolution: The Curious Case of Betting Taxation in the UK

Prof. Leighton Vaughan Williams

Professor of Economics and Finance Director, Betting Research Unit

Nottingham Business School Nottingham Trent University

September 2012

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What’s coming up?

1. Excise Duties: Background

2. Betting Duties: Background

3. Tax criteria

4. Turnover Tax

5. A Policy Opinion

6. Impact of the Switch to GPT

7. Evidence to Parliament

8. Machine Games Duty

9. Place of Consumption Tax

10. Conclusions

1. Excise duties: Background

• Excise duties constitute an important source of UK Government revenue. In recent years, however, actual revenues from these duties have been particularly impacted by shifts in tax and trade policies and technological change, which have induced substitution within and across national borders.

• A notable policy initiative was the reduction of trade barriers within the EU, which exposed structural differences in excise duty rates across nations.

• E.g. Excise rates on alcohol and cigarettes are considerably higher in the UK than in some neighbouring countries. A related problem has been the growth of illegal imports of alcohol and cigarettes.

• This has led some consumers and industry representatives to demand that the UK government reduce excise duties.

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2. Betting duties: Background

• Betting Tax Introduced, based as a levy on stakes, by Chancellor of the Exchequer Winston Churchill, in 1926.

• Was unpopular, difficult to enforce, and broadly ineffective as means of raising revenue.

• Abolished in 1930.

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In 1966, tax on betting with bookmakers re-introduced

Betting tax history

• 1966: Betting tax introduced at 2.5% of turnover.

• Rose over the years to peak at 8%.

• By 2000, levied at 6.75% of turnover.

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Re-consideration of the options for taxing betting • By the year 2000, however, the Government was persuaded to

consider afresh the options for taxing betting in the UK, due in large part to the rise of online gambling and the start of a movement overseas by some leading British bookmakers.

• In particular, online gambling created increasing opportunities for the betting public to avoid duty altogether by placing wagers with offshore or overseas companies. This posed a clear threat to government revenue streams.

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Government invites tender to advise on the options for taxing betting.

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3. Tax criteria • Efficiency

• Fairness

• International Competitiveness

• Maintenance and Sustainability of Government Revenue

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Economic Analysis of the Options for Taxing Betting: a report for HM Customs and Excise.

Principal Investigator: Leighton Vaughan Williams

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Some published and unpublished literature

• (2000) – An Economic Analysis of the Options for Taxing Betting: A Report for HM Customs and Excise.

• (2001) – Gambling Taxation: A Comment, in: Australian Economic Review.

• (2002) - A Policy Response to the E-commerce Revolution: The Case of Betting Taxation in the UK, in: The Economic Journal.

• (2004) – Taxation and the Demand for Gambling: New Evidence from the United Kingdom, in: National Tax Journal.

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Summary of this literature

• A key economic rationale for a GPT system of taxation compared to a turnover tax is that it is allocatively more efficient. In particular, the former is levied on the effective price of a bet whereas a turnover tax is levied on quantity. A GPT favours, therefore, a low-price, high-turnover strategy, instead of a high-price, low-turnover strategy. In other words, a GPT encourages firms to focus on margins rather than on revenue.

• A related issue is that a GPT provides more favourable incentives for firms to innovate and to improve their technical efficiency in that the resultant lower prices (due to lower costs) induce lower taxation. Moreover, GPT provides an automatic adjustment mechanism to companies in the face of changes to the competitive environment, and so enables companies to better with further changes to the competitive and technological environments.

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4. Gross Profits Tax Versus Turnover Tax a. Efficiency A switch to GPT represents an improvement under reasonable assumptions because it encourages a low-price, high-turnover strategy instead of a high-price, low-turnover strategy. This is because a GPT is by construction levied on price whereas turnover taxes are levied on quantity.

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• International Competitiveness

Economic theory predicts that a GPT will result in a lower tax burden in sectors such as online betting which are extremely competitive and thus have relatively low profit margins. More generally, a switch to GPT enhances the ability of UK bookmakers and betting exchanges to compete in a rapidly changing technological and global environment – also encourages repatriation of overseas business.

•Fairness

Under a GPT system, those who earn a greater level of gross profits pay more tax and vice-versa, which would seem more equitable than linking tax to a measure such as turnover.

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•Maintenance and Sustainability of Government Revenue

•Government revenue may possibly be less stable and predictable under GPT than with a turnover tax, at least in the short-term, because gross profits may possibly be less stable and predictable than turnover.

•GPT is likely to protect tax revenue by removing some of the risk from industry and enabling it to compete more effectively with overseas competition.

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New tax regime

• GPT introduced in October 2001 for fixed-odds betting (at 15% - equal to a cut of approx. half in the effective incidence of tax).

• In 2002 GPT introduced at 15% for football pools betting and for bingo, and for betting exchanges in 2003.

• For the betting public, betting tax was effectively axed!

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5. A Policy Opinion • In: Theory and Practice of Excise Taxation, 2005, Oxford University

Press

• “Since 2000, the aim of the UK Government has been to base taxation policy explicitly on economic criteria, such as maintaining competitiveness and reducing allocative inefficiency. Thus, the decision to reduce the overall level of betting taxation demonstrated an awareness of changing market conditions in the betting industry which became especially vulnerable to the growth in e-commerce … furthermore, the switch from a general betting duty to a gross profits tax is likely to lead to lower prices and enhanced consumer welfare. The intuition behind this result is that by levying the tax on margins instead of turnover, producers with at least some market power have an incentive to reduce their price.”

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6. Impact of the Switch to GPT

• HM Customs and Excise in 2003 published a review of the introduction of Gross Profits Tax – ‘Report on the Evaluation of the Gross Profits Tax on Betting.’

• The report concluded that the reform had been successful and that, in particular, industry turnover had increased although margins were smaller – partly as a special consequence of the large-scale introduction of low-margin betting machines (‘Fixed Odds Betting Terminals’) into betting offices.

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British Bookmakers’ turnover increases dramatically

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Impact of the Switch to GPT (Cont.)

The main impacts of the reform, summarized by the National Audit Office, were increased turnover (following the introduction of GPT stakes on betting quadrupled from £7.1 billion in 2000-01 to £32.2 billion in 2003-04) and more choice for consumers.

The NAO also noted that the biggest bookmakers repatriated their

offshore businesses in the wake of the switch to GPT, securing additional employment and business tax revenues within the UK.

HM Customs & Excise predicted, prior to the 2001 tax reforms, that

if no change was made to the structure or rates of betting taxation between half and a third of the UK betting market would be lost to offshore operators (NAO, 2005).

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Although general betting duty receipts fell in the immediate aftermath of the effective halving of the tax incidence, from

£487m in 2000-01 to £304m in 2002-03, it began to rise thereafter, to £383m in 2003-04 (NAO, 2005). A

comparison of the receipts between 2001 and 2004 shows that the later figures were little changed from the earlier

figures (2001- £474m; 2002- £292m; 2003- £359m; 2004 - £437m).

“… Customs considers that it is likely that revenue reduction under the old regime would have exceeded the decline recorded had no change been made as more and more businesses would have moved overseas.” (NAO, 2005).

National Audit Office: Gambling Duties.

Report by the Comptroller and Auditor General / HC 188 Session 2004-2005

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Betting industry secure

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Bettors in tax paradise

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Bookmakers’ revenue and profits soar

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7. Evidence to Parliament

• Joint Scrutiny Committee of the House of Commons and House of Lords, Tuesday 13 January 2004

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Opinion: • “The move to a gross profits tax was in some respects borne out of

a desire to create a taxation regime that protected – in some senses, future-proofed – the betting industry against changing economic and technological circumstances. For example, technological or economic changes which act so as to increase competition to UK-based bookmakers from overseas operators could serve to reduce the gross profit of UK bookmakers. The tax system as it is now constituted automatically reduces the tax burden on bookmakers in these circumstances. Similarly, if gross profits increase the tax burden automatically increases. What is happening is that a tax based previously on quantity has been replaced by a tax based on price, a system which is designed to reduce price and to increase quantity. This benefits the twin objectives of efficiency and equity at any given point in time and in a manner which is proof against changes and developments over time …

8. Machine Games Duty – Extending GPT to all gaming machines • A formal consultation on the taxation of gaming machines and

whether to move to a gross profits tax was held in 2009. A summary of responses to that consultation was published in December 2010, when the Government announced its intention to reform the taxation of gaming machines and introduce Machine Games Duty (MGD). This was reaffirmed at Budget 2011.

• MGD will be charged on the net takings from the playing of dutiable machine games. These are games played on a machine where customers hope to win a cash prize worth more than they stake. Where MGD is payable, it will replace both Amusement Machine Licence Duty (AMLD) and VAT. MGD rates were announced in Budget 2012. The standard rate will be 20 per cent, and the lower rate will be 5 per cent of net takings. Subject to legislation in Finance Bill 2012, implementation will follow on 1 February 2013.

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9. Place of Consumption Tax

• Taxing remote gambling on a place of consumption basis: consultation on policy design

• Issued: 05 April 2012

• Close date: 28 June 2012

• Background

• At Budget 2012, the Government announced that it would move to taxing remote gambling on a place of consumption basis. This announcement followed the Treasury’s review of the taxation of remote gambling in autumn 2011. The Government used respondents’ contributions to the review to inform the case for amending the taxation regime for remote gambling.

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Consultation

• The consultation “Taxing remote gambling on a place of consumption basis: consultation on policy design” seeks comments on further details of the proposed design characteristics of the regime. The Government is interested in feedback from all stakeholders including operators, gambling software suppliers, advertisers of remote gambling services, trade bodies and all other stakeholders who have an interest in remote gambling taxation.

• The Government welcomes general views on the proposed policy design. The views of those involved in this process will help shape the final policy design of the reform.

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New Regulatory Framework

• Government also plans to introduce an amended regulatory framework, which will require remote gambling operators, wherever they are based, to hold a Gambling Commission licence in order to advertise, and provide services, to British customers, to be introduced at the same time as the PoC tax. This will require new primary legislation.

• Some legal experts, however, see a problem with the introduction of such a regulatory change, noting the European Commission letter commenting on a draft of the gambling rules proposed by 15 of the 16 German states.

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EU Law

• The draft law proposed by all German states apart from Schleswig-Holstein stated that neither online poker nor online casino games could be offered legally in Germany. The 15 states sought to justify this ban by saying that "in light of the fact that such games are highly vulnerable to rigging and have significant addiction potential, as well as the fact that they are vulnerable to being exploited for the purposes of money laundering, it does not appear to be justifiable to open up the internet as a distribution channel".

• In its letter, the European Commission commented that the objective of combating criminal and fraudulent activities linked to gambling is one of the public interest reasons capable of justifying restrictions to the freedom to provide services under EU law, but ...

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But ...

• notes that "no data has been provided to adduce evidence of the existence of the risks identified. In this context, the Commission services would like to reiterate that the suitability and proportionality of the measures in question needs to be established to the requisite standard. In the context of the assessment of whether such a standard is met, it would need to be determined whether, first, criminal and fraudulent activities linked to gambling and, second, gambling addiction are significant problems in Germany and whether the ban of certain types of games or gambling on the internet is capable of solving such problems."

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Evidence?

• Applying that reasoning to the proposed new UK licensing regime would suggest that it may not be sufficient for the Government merely to assert that the new licensing regime is required to protect British consumers gambling with offshore sites, but that they may also have to provide evidence of the harm suffered by British consumers justifying what may be regarded as an obstacle to the freedom to provide services.

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•10. CONCLUSIONS • Economic theory suggests that the switch from a turnover tax on

betting to a Gross Profits Tax on betting is likely to create a more efficient and more equitable market outcome, characterized by lower margins and higher turnover. Practical experience has borne out the key theoretical predictions.

• The radical changes to the taxation of betting introduced in 2001 and subsequently extended in 2002 and 2003, have now been extended to all gaming machines.

• There has been some talk, notably at DCMS, of re-instituting aspects of the turnover-based duty, though more recently attention has instead turned to the proposed Place of Consumption tax.

• Can other countries learn from the British example? Yes! Can the UK can learn something from its own example? Yes again. Let’s hope they do so.