July 3, 2007

Gambling with Tax Policy: States’ Growing Reliance on Lottery Tax Revenue

Download Background Paper No. 54

Background Paper No. 54

Most Americans don’t think of lotteries in terms of tax policy. The lottery conjures up images of smiling Powerball winners displaying $10 million checks for the TV camera or per­haps stories of lottery players suffering financial ruin or gambling addiction. But in between these two extremes is the less glamorous but equally important issue of the lottery’s effect on state tax policy.

In fiscal year 2005, total consumer spend­ing on lotteries surpassed $50 billion, and the average American spent $177 playing the lot­tery. Over $15 billion of this revenue was trans­ferred to state coffers. The significant revenue raising potential of state lotteries raises serious tax policy concerns. Although no government agency is willing to call the lottery a tax, it is nonetheless a source of implicit tax revenue.

Lotteries are fundamentally different from other gambling in one important way: they are provided by the state, and only by the state. Therefore, they raise policy questions entirely separate from issues of morality and addiction. The lottery is more than a controversial way to add a little money to state coffers; it is a tax and should be evaluated as such.

When subjected to the tests of sound tax policy, it fails:

• Extensive evidence shows lotteries are regressive, meaning the poor shoulder a disproportionate share of the tax burden.
• The lottery is not economically neutral: it distorts consumer spending by applying an unusually high tax rate to a particular product.
• It is a hidden tax, lacking transparency.
• Lotteries unnecessarily complicate the tax system.
• Lottery revenues do not always benefit the programs for which they are earmarked, and voters may feel deceived when they approve lotteries for education only to find that legislators shuffle funds and their states’ public education systems do not benefit significantly.
• Finally, the use of state-operated gambling monopolies to raise tax revenue poses seri­ous policy questions about government accountability.

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