Australia's Future Tax System

Final Report: Detailed Analysis

Chapter E: Enhancing social and market outcomes

E7. Gambling taxation

E7–3 Improving gambling taxes

Recommendation 76:

Gambling taxes should be reviewed to ensure that they are focused on recouping economic rent generated by government restrictions on the supply of gambling services or are being used efficiently to impose such restrictions.

Recommendation 77:

Governments should eliminate gambling tax concessions for particular types of gambling business, such as clubs. If governments wish to subsidise particular types of businesses, they should do so through direct expenditures.

Recommendation 78:

Governments should consider the allocation of responsibilities for the regulation and taxation of gambling, with a view to minimising conflicts in policy-making between revenue-raising and addressing problem gambling.

Recouping economic rent created by government restrictions

Gambling businesses are able to earn economic rent only because State governments restrict the supply of gambling services (see Box E7–1). Capturing economic rent is the most compelling reason for imposing special taxes on gambling services (See Recommendation 76). Other potential reasons for imposing specific gambling taxes are discussed below.

One option for capturing economic rent that State governments could consider is a simple rent tax calculated on the basis that, for most gambling businesses, the amount invested in the business is closely related to the amount provided to gamblers as prizes. Any return to the business above a normal rate of return on the amount of prizes would be regarded as economic rent and taxed at a relatively high rate.

A tax based on the amount of prizes would, however, be a very rough approximation to a rent tax. A normal profit for a business arises when its sales just meet the full costs of its inputs; that is, wages plus a normal return on the capital invested in the business (taking into account how risky the business is). A business earns economic rent when its sales exceed the full costs of its inputs. In a gambling business, player loss is the gross revenue of the business, equivalent to gross sales for other businesses. In this case a more accurate tax on economic rent could be calculated as:

    Τ (BPW) where

      Τ is the rate of rent tax;

      B is the amount of bets placed in the period;

      P is the amount of prizes paid in the period;

      W is the amount of wages paid in the period;

      K is the amount of capital employed in the period; and

      θ is the risk-adjusted rate of return.

The allowance for capital could be calculated for each tax paying business individually (at the cost of additional complexity) or could be set at an average value for each form of gambling, on the assumption that cost structures are similar across any particular industry segment. It would also be necessary to consider what, if any, allowance for licence fees should be included in the measure of capital invested.

The effectiveness of gambling-specific taxes in capturing economic rent is affected by the way they are structured. Governments need to consider trade-offs between the accuracy of the tax in targeting economic rent and the compliance costs that it could impose on gambling businesses. Most gambling businesses already calculate the amount bet and the amount paid in prizes for GST purposes, but an allowance for capital would require capital investment to be allocated between gambling and other activities. Some non-profit organisations are not currently required to lodge a Business Activity Statement for GST purposes, so some additional compliance costs might arise in that quarter. It would also be necessary to consider how a gambling rent tax would interact with income tax and the GST, including the priority of debts incurred under the different taxes.

In theory, all economic rent accruing to the gambling business could be taken in tax without reducing the supply of gambling services, but in practice uncertainties in estimating the magnitude of the available rent suggest that a lower tax rate should be adopted.

A simpler step to reduce the efficiency costs of gambling taxation would be to abolish gambling taxes on gambling businesses that operate in competitive markets.

Box E7–1: Gambling rent tax

Chart E7–1 illustrates a gambling rent tax that seeks to appropriate the economic rent generated by regulatory restrictions on the supply of gambling services. It is assumed that the cost of providing the service is the same for each dollar that gamblers lose.

Chart E7–1: Taxing economic rent earned by gambling businesses

Chart E7–1: Taxing economic rent earned by gambling businesses

Pf per dollar lost constitutes the normal return to the gambling business, that is, the player loss ratio it would need in order to make a normal profit in a competitive market. The restriction of supply to Qr would create economic rent equivalent to the sum of the shaded and crosshatched areas. If licences were allocated at no cost to the licensees and if no gambling taxes were imposed, licensees would keep the whole of this rent. In theory the government could appropriate the whole of the rent by imposing a tax of Pr — Pf per dollar lost. In practice it is difficult for the government to estimate the amount of the rent. So a lower tax rate of Pt — Pf would allow the government to recoup most of the economic rent without running the risk of overtaxing gambling services. A rent tax could be adopted as the sole means of appropriating economic rent. Alternatively, governments could auction licences and then use a rent tax to appropriate any additional rent.

Raising revenue

Gambling taxes are well-established and constitute an important source of revenue for State governments. While existing gambling taxes have deficiencies, many other State taxes perform even more poorly when assessed against the criteria of efficiency, equity, simplicity, sustainability and policy consistency (see Section G2 State tax reform). State governments may therefore be reluctant to give up this own-source revenue stream.

Rent-based gambling taxes have little effect on equity

Spending on gambling is not proportionally spread across the income distribution — low income people spend a higher proportion of their income — 1.4 per cent — on gambling than high income people — 0.3 per cent (ABS 2006c). Accordingly, gambling taxes appear to be regressive overall, falling as a proportion of income as incomes rise (Smith 1998). However, some gambling taxes represent a transfer of economic rent from the gambling business to the government. In these cases, a marginal change in gambling taxes would not change the supply of gambling services or the prices that gamblers pay to gamble. Reducing taxes would simply increase the profits of the gambling business.

Spending on particular forms of gambling is less evenly distributed than spending on gambling as a whole. For example, participation in casino gaming and sports wagering is strongly biased towards young single men. Lotteries and gaming machines are disproportionately patronised by low income people. Thus where the burden of the tax is borne by gamblers, taxes on lotteries and gaming machines are the most regressive; taxes on wagering are also regressive, though there is significant variability among income groups; and casino taxes are neither regressive nor progressive (Productivity Commission 1999b).

Taxes on specific goods and services should not generally be used for redistributive purposes (see Section E Enhancing social and market outcomes). Even without appealing to this general principle, gambling expenditure is too evenly spread across the income distribution to make reductions in gambling taxes an effective tool for redistributing income.

Tax concessions are a poor way of subsidising clubs

The rationales for imposing specific gambling taxes apply to clubs just as much as they do to other gambling businesses. If governments wish to subsidise clubs for reasons of social policy they should do so through direct expenditures, not through gambling tax expenditures (see Recommendation 77). Direct funding would be much more transparent than the current practice of providing tax concessions for gambling in clubs, and it would relieve clubs of the incentives set up by the current link between concessional gambling tax rates and the delivery of community services.

State and federal governments should together develop policy for regulating and taxing gambling

Given that economic rent in the gambling industry can be created by local restrictions, gambling taxes would appear to be a matter for State governments. However, if they have few other viable revenue sources, reliance on gambling taxes may set up incentives for State governments to manage the supply of gambling services so as to maximise the available revenue. Given that problem gamblers account for around one third of all player losses23, taxes on gambling by problem gamblers account for around 3 per cent of total State tax revenue. Incentives to reduce the social costs of problem gambling may be diluted by unwillingness to forfeit the tax revenue derived from problem gamblers.

For this reason, the State and Australian governments should together explore options for the regulation and taxation of gambling that would minimise conflicts in policy-making between revenue-raising and addressing problem gambling (see Recommendation 78). Such policy discussions cannot be undertaken outside a broader consideration of federal financial arrangements (see Section G2 State tax reform).

23 Productivity Commission 1999. The figure has been vigorously questioned by the gambling industry.