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The lottery Is a Tax -- An Inefficient, Regressive and Exploitative Tax

09/03/2015 12:36 pm ET | Updated Sep 03, 2015

In 2014, Americans spent $70 billion on the lottery

When I read this fact last May, I thought it was one of the most shocking stats I had ever seen. Nearly $70 billion translates to about $630 for every household in the U.S. It sounds absurd!

Having now spent considerable time trying to figure out how such a number is even possible, I have learned a lot about the lottery and see it in a whole new light. As It turns out, the entire state-operated lottery system is absurd.

Consider the very premise of a state-run lottery.

From "don't drink and drive" and "stay in school" to "buckle up for safety" and "the truth about smoking," our government takes a protectionist and proactive approach to our welfare. But when it comes to the lottery, the government spends about $1 billion per year in advertising to encourage risky behavior!

The government expects your trust when it tells you, "just say no to drugs." While at the same time it is encouraging you to make risky, compulsive decisions so it can to turn a profit at your expense.

"for every dollar raised for the state by a lottery an additional 52 cents must be taken in to pay the expenses of raising that dollar"

- John Locke Foundation analysis of the South Carolina Lottery

Compared to other options states have for raising money, the lottery is extremely inefficient. Using the New York Lottery as an example, this flowchart shows why. When you spend $1 on a lotto ticket, here is where the money ends up.
2015-09-03-1441255684-3390581-lottodiagramny.png

Where does the money go?

  • After taxes, winners receive only about 31 cents in prizes for each dollar of ticket sales.
  • About 51 cents go to taxes, city, state, and federal.
  • The remaining 18 cents are the Lottery's expenses. These costs are what make lotteries so inefficient. In short, for every tax dollar it raises, the New York Lottery must raise an additional 36 cents to pay for the expenses of raising that dollar. For comparison, the IRS expends less than a cent for each dollar it raises.
  • You may be wondering why no part of that dollar ends up with the public education system. Like most other state lotteries, New York's lottery was founded for the "sole purpose" of funding public education. So why isn't that where the money ends up?

When lotteries give money for education, it frees up tax dollars, which get pulled out of education and spent elsewhere

Most state lotteries pre-commit, or earmark, their money for a particular cause, usually education. This should come as no surprise if you've ever seen a lottery commercial. Supporting a "good cause" is one of the primary messages they use to promote themselves, both to players and to the voting public.

It's true that lottery money does go to into a special fund for education. But when it does, tax dollars get pulled out of education and spent elsewhere, In the end, the schools are no better off.

In the case of New York, the state Comptroller called it a "myth" that lottery money benefits schools. The 1998 report, states "lottery earnings have been earmarked for education primarily as a public relations device." A 2013 investigation by City Limits reached a similar conclusion.

2015-09-03-1441255898-1668319-lottoeducation.png
Source: New York State Comptroller
And it's not just a problem for New York. Many studies have examined the question on a national level and found the same to be true everywhere. The more money lotteries provide for schools, the more tax dollars the state pulls out of education and spends elsewhere.

"...the introduction of an education lottery fails to significantly increase state education expenditures. Instead, unrelated expenditures increase. Thus, the lottery does not change government's contribution to education." - Centre for Market and Public Organisation

"Earmarking funds for education may serve to make lotteries more politically viable but has no practical impact on budget allocations"- Stanford Institute for Economic Policy Research

If it's more efficient to raise money through taxes, and it all ends up in the same place anyway, why do we have lotteries at all?

You may point out that there is one key difference between lotteries and taxes, which makes the two incomparable. Lotteries are not taxes because they are voluntary, right?

The lottery is not a tax. The inflated price of lottery tickets is.

It's common to hear people call the lottery a tax on people who are bad a math / a tax on the stupid, but is it really fundamentally different from a tax?

I wrote a post back in June examining the lottery as a tax on the poor, and it led to several debates about this very question.

To settle the matter, I reached out to an expert, Professor Ross Rubenstein, an education policy and public finance researcher at Georgia State who has authored several papers on lotteries.

According to professor Rubenstein, "Revenues raised by lotteries can be viewed as an excise tax on one item - lottery play." He sums it up well in this article published in the National Tax Journal.

If a competitive market existed for lottery products, it is unlikely that each firm's profits would approach 35 percent of revenues. Although purchases of lottery tickets are "voluntary," the implicit tax on a dollar spent on a lottery product is not voluntary, just as sales taxes paid on purchased goods are not voluntary.

Choosing to play the lottery is voluntary. But much like sales taxes, the inflated price of lottery tickets is not.

It is illegal for anyone but the state to run a lottery. So unlike casinos, which face competition from other casinos, lotteries operate as a monopoly, so they can set their pricing artificially high, or equivalently, their payout rates artificially low.

It's not a tax on the stupid. It's a tax on addicts, and their families.

2015-09-03-1441256031-6061095-typesoflotteryplayers.png

More than half of U.S. adults play the lottery occasionally, but only a small percentage of those players account for most of the sales. According one report, 54% of lottery sales come from only 5% of players (roughly 2.5% of U.S. adults).

Pathological gambling is classified by the American Psychiatric Association as an addiction. It affects an estimated 1.7% of U.S. adults. And contrary to the casino-going stereotype, more gambling addictions are related to the lottery than any other game.

2015-09-03-1441265234-2468207-problemgamblingdemographics.png

As shown in the chart, pathological gambling is more common among people with less income and lower levels of education, which raises an obvious question.

How can someone making less than $15,000 afford to spend so much on the lottery?

State lotteries portray their income as coming from entertainment budgets or as a substitute for other forms of gambling, but the data tells a different story.

Money for lotteries literally comes off the families' plates

2015-09-03-1441256212-6373732-lotteryhouseholdspending.png
Source: National Bureau of Economic Research
Between 1982 and 1998, 21 states introduced a lottery. This is chart shows how low income household spending changed in response. Nearly all of the lottery gambling was paid for by spending less on non-gambling items, including clothing, food, and rent.

These numbers are the average over all low income households. For the families that do play the lottery, particularly families of problem gamblers, the spending reductions would be substantially greater.

"the effect of lottery advertising is to create an impression that winning is easy"

Lotteries are exempt from the Federal Trade Commission truth-in-advertising laws. Instead, the states are self-regulating, allowing lotteries to get away with misleading and predatory advertising far beyond what private businesses are allowed.

Take, for example, the Louisiana Lottery's Tic Tac 2s instant win game. On the back of the ticket, it states, "approximate odds of winning are 1:4.82."

What it doesn't mention is that more than half of these "winners" don't actually win anything of value, just another losing ticket. The odds of winning a cash prize, which is all anyone cares about, are only 1 in 10.1. And even then, most will only win $2 or $3. The odds of winning a prize worth more than $30 are 1 in 2944.

2015-09-03-1441260197-1553752-misleadingscratchoff.png

Lotteries also intentionally direct these advertisements to low income and minority communities.

For example, in Ohio's marketing plans for its SuperLotto game, it stated that advertisements should coincide with the receipt of "Government benefits, payroll and Social Security payments."

This document from the California Lottery seeks an agency to help with its "African American Consumer Market Advertising Services"

In one "blighted neighborhood" of Chicago, the Illinois Lottery put up a billboard with the slogan, "This could be your ticket out."

What is the solution?

Lotteries are portrayed as a form of voluntary entertainment that serve a good cause. But as the data shows, they are really just a predatory and inefficient tax. They exploit families that are struggling with addiction, and they do so by misleading them into thinking winning is easy.

Perhaps worst of all, the people most affected are those with little-to-no government influence and limited means with which to raise their voice. I can't think of any other explanation of how an industry so big has remained so far from the public consciousness.

Last year's $70 billion in lottery sales is more than what Americans spent on sports tickets, books, video games, movies, and music combined.

Is the solution to ban lotteries altogether? I don't think so. There is clearly demand for this type of gambling, so the focus should be on providing it in a way that is not exploitative.

  • The government should get out of the lottery-for-profit business. Their incentives are completely at odds with the government's responsibility to protect the welfare of its citizens.
  • The government could offer a lottery alternative that actually benefits the players, such as prize-linked savings accounts. So far, most state governments have prevented businesses from offering them, though there are a few exceptions. The most notable are Michigan, Nebraska, Washington and North Carolina, all of which allow credit unions to offer prize-linked accounts. Collectively, they have generated $94M of savings, with 60% of the participants identified as "financially vulnerable."
  • Allow private businesses to offer lotteries and compete with each other. Doing so would improve the odds for players, and it would allow the government to regulate them without conflicts of interest.
  • At the very least, if state governments are going to continue offering lotteries, they need to be regulated at the federal level and with the same standards as private businesses.

In practical terms, there is one thing you can you do right now. If you have 30 seconds to spare, you can join the conversation at Stop Predatory Gambling.

This post originally appeared on Metrocosm

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