The old adage is “you never know what you’ve got until it’s gone,” but in the case of U.S. sports betting in February, an argument can be made that certain states missed what they never had when it came to tax revenue.
Arizona’s revenue report for February, released on Tuesday, capped another good month for the betting public. The 4.9% nationwide operator win rate for gross revenue marked the first time it was below 5% since February 2020, and it was the third consecutive month the hold was below the 7% industry standard.
A good month for bettors, however, meant a bad month for operators — though “bad” may be overdoing it, given the dramatic expansion of sports betting in the country. A bad month for operators means less money flows into state coffers in the form of tax receipts. Any downturn in government revenue is usually accompanied by an uptick in scrutiny about unrealized tax revenue that may have been promised by lobbyists and politicians during the run-up to legalization.
That has happened in states where promotional credits are being claimed by operators that, in some instances, dramatically reduce the taxable amount of operator revenue. Some states, such as Virginia, have lawmakers looking to address that imbalance legislatively, while others — most notably Connecticut and Louisiana — have come up with creative ways to limit the amount of revenue operators can count as off-limits.
The nine states that do allow operators to claim at least a portion of promotional credits as untaxable revenue span the spectrum of market sizes, but when there is a notably good or bad month for operators — plus the newer phenomenon of watching New York reap notable windfalls due to its 51% tax rate on mobile operator revenue — that missing government revenue gets noticed more.
First, the big picture
Even with the Super Bowl marking the end of the NFL season, February’s nationwide handle was still robust at more than $7.9 billion. The 19.4% month-over-month decline in wagers can largely be attributed to the rampant popularity of the NFL in its first full season of embracing legal wagering, on top of the usual drop-off that comes with three fewer days to bet in February.
The February handle was a short-lived No. 2 among monthly all-time post-PASPA era handles, as Illinois released a March handle of $971 million Monday that catapulted the national handle for that month to over $8 billion. Arizona has yet to release its March figures.
It takes something like a Super Bowl to have a pronounced impact on operator win rate, and that took place in February. The hold was the second-lowest of the 45 months of the post-PASPA era, and the lowest when including states where promotional credits can be claimed as untaxed operator revenue.
|Month and Year||Number of States With Commercial Sports Betting||Number of States That Allow Untaxed Promotional Credits||Gaming Gross Revenue (GGR)||Adjusted Gross Revenue (AGR)||Difference in Dollars (GGR-AGR)|
One contributing factor to the decline in revenue was the improvement bettors enjoyed while wagering on parlays. The nearly $43 million in revenue across six states — including New Jersey, Nevada, Illinois, Colorado, Mississippi, and Delaware — where such figures were available was less than half the $94.3 million from January.
Handle was down in that category among those states, but only 24.1% to $426.4 million. The bigger difference was with the hold, which was 10.1% in February versus 16.8% in January. In the top-five markets of New Jersey and Illinois, the drop in win rate was steep, with the Garden State falling more than five full percentage points to 10.7% and Illinois bettors nearly cutting it in half, from 18.2% to a shade under 10%.
That $51 million drop is substantial given that the gross nationwide operator revenue of $387.5 million in February was 40.2% lower than January’s total of $648.9 million. The decline in hold for month-over-month gross gaming revenue (GGR) from January to February was 1.7 percentage points, but the difference in the hold for adjusted gross revenue (AGR) after adding up known promotional credits and other deductions was more than two full percentage points, as AGR plummeted from $524.6 million to nearly $263 million.
Big events require big promotions
February is always a big month for sportsbooks because of the Super Bowl, the best event annually for operators to attract new bettors and either strengthen relationships with existing ones or rekindle them through promotional offers that include free bets, matching deposits, and profit boosts on wagers.
In states where a percentage of promotional credits can be exempt from taxation, such offers were made widely available by operators and voraciously accepted by bettors. Three states — Michigan, Pennsylvania, and Colorado — exceeded $20 million in untaxed promotional credits, while Virginia was less than $400,000 shy of making it a quartet.
Michigan, Pennsylvania, and Colorado also finished with negative adjusted gross revenue for February, with Pennsylvania and Michigan ranking eighth and ninth, respectively, for gross gaming revenue, but 24th and 26th in adjusted gross revenue. Newcomers Arizona and Louisiana also flashed some free cash, topping $10 million in promotional credits.
|State||Handle Rank Out of 26 states||Total Amount of Promotional Credits and Other Deductions||Tax Rate||Unrealized State Tax Revenue|
|Arizona||6th||$17,571,274||8% retail; 10% mobile||$1,757,127|
The unrealized taxes are different, however, because tax rates vary from state to state. Pennsylvania had the second-highest amount of promotional credits at $22.6 million, but the highest amount of unrealized tax revenue at nearly $7.7 million due to its 34% tax rate. Michigan, which led the way with $26.5 million in promotional credits, ranked third with more than $2.2 million in unrealized taxes due to its 8.4% rate.
Michigan bettors also did their part in lowering tax receipts collected by winning, as the Wolverine State’s minus-$4.8 million AGR was the lowest of any state in the post-PASPA era dating back to 2018. The end result was the state collecting barely more than $360,000 in taxes for February, its fourth-lowest amount in 14 months of mobile wagering. Michigan’s percentage of adjusted gross revenue to gross gaming revenue for the first quarter of 2022 was 36.2%, well off the overall mark of 46.6%.
It should be noted, however, that Pennsylvania and Michigan are outliers in being two of three states among the nine that also currently offer iGaming. Pennsylvania does not let up when it comes to taxing iGaming, doing so at a 54% rate for slots and 16% for table games. Meanwhile, what Michigan does not collect from sports wagering tax revenue it compensates for with iGaming being taxed at rates ranging from 20% to 28%. The two states collected a combined $51.8 million in iGaming tax receipts in February, which dramatically softens the impact of not seeing $10 million from sports wagering.
Heavy promotional play in other states, though, has left a mark. Virginia has averaged more than $16 million in promotional credits over the past seven months, eclipsing $10 million in each month. Only four operators finished with positive adjusted gross revenue in February, and operators who finish with a negative AGR are allowed to carry over that amount from a previous month to offset tax payments on any positive AGR the following month.
Given the high amount of operators finishing with negative AGR on a monthly basis, the promotional credits bleed into a second category of “other deductions,” which topped $13 million for the first quarter of 2022 and totaled close to $3.8 million in February. The two categories combine for close to $60 million in untaxed revenue for the first three months of the year, which has resulted in Virginia’s AGR from sports wagering being barely more than 40% of its gross operator revenue in 2022.
Colorado has had seven straight months of promotional credits exceeding $15 million, which is not all that surprising considering there are 25 mobile operators in the state. But February’s net AGR of minus-$1.1 million resulted in the state having been able to tax just 19.5% of the $54.2 million in gross revenue from the first two months of 2022.
Legislative tweaking and best practices
This is where the tweaks to taxing promotional credit by both Connecticut and Louisiana become important as potential best practices for states that may consider legalizing sports wagering. While promotional play was heavy in Louisiana in February, it was also a business strategy for operators, which are allowed to claim only $5 million in promotional credits per year. The drop-off in promotional play from February to March was dramatic, going from $10 million to barely more than $800,000.
In Connecticut, legislators put in a declining percentage scale for what operators are allowed to claim on an annual basis. In the first year of operations, it is 25%. In Year 2, it will decline five percentage points to 20% and continue downward until zeroing out. Connecticut also offers iGaming, but the ability to zero out promotions in the longer term will prove a net positive for state tax coffers as both markets continue to project growth in operator revenues.
If states with high handle and low tax rates that offer promotional credits continue to see substantial percentages of operator revenue go untaxed, the call to revisit state rules and laws regarding such arrangements will undoubtedly get louder — thanks in large part to New York. Its $42 million in taxes collected in February accounted for more than 57% of the national total of $73.4 million, and the $163.7 million in the first quarter of 2022 is more than half the $320 million state governments have been able to claim.