When the UK Government introduced a gross profits tax (GPT) system for the betting industry in 2001, it was hailed as being;

"A radical reform of betting duty, which will create the right competitive environment for British-based bookmakers to develop their business domestically and internationally, and give punters a better deal."

The tax, primarily introduced to encourage the "Big Three" boomakers to move their telephone and internet betting operations back onshore, worked on the basis that where competition intensified and gross profits fall, tax burdens would be reduced.

The Big Three warmly embraced the tax, not least because it reduced the price of a bet to the punter, and led to an immediate increase in the number of bets being placed in their shops, through recycling. John Brown, the then Chairman of William Hill, speaking at the British Horseracing Board AGM in June 2002, said that the new Gross Profits Tax was:

..truly momentous. The significance of this cannot be over estimated. This new tax changes everything the basis is now fairer, it is set at a sensible rate, and thus enables the bookmaker to stand the tax without deductions from the punter. It represents forward thinking of the best possible sort, and for all that all of us should be very grateful. In my opinion, GPT will prove to be the single most important and influential development in betting and racing in 30 years. At a stroke it has removed the benefit of betting offshore, or betting illegally. Already more and more overseas business is finding its way to the UK.

Exchanges arrive

Since the arrival of the GPT, betting exchanges have gained a strong foothold in the UK betting market. These are trading systems which facilitate person to person betting, allowing traders to either play or lay on a wide range of sporting markets. Many questions have been asked as to the status of betting exchanges; not least, the fiscal and regulatory arrangements that should be applied to them.

Under the 42nd Levy Scheme it was announced that the levy payable by Betting Exchanges on British horserace betting business would be charged at 10% of the gross profit achieved by individual successful layers.

In April 2003, the Treasury announced that betting exchanges, which had previously been taxed on the net aggregated profits of the layers on the exchanges, would now pay a 15% gross profits tax on the basis of their commission;

"General betting duty shall be charged on the amounts ("commission charges") that the parties to the bet are charged, whether by deduction from winnings or otherwise, for using those facilities...No deductions shall be allowed from commission charges.......The amount of duty charged under this section in respect of bets determined in an accounting period shall be 15 per cent of the commission charges relating to those bets."

Opposition to

Traditional bookmakers and the British Horse Racing (Now the British Horse Racing Authority) board have openly criticised the taxing formula that is currently applied to the betting exchanges. The bookmakers claim that individual layers on the exchanges should be made to the pay the GPT;

"All that we are asking for is that anyone who lays bets on an exchange should be subjected to the same regulation and taxation issue as any other licensed bookmaker.........We would welcome any step forward that is made to address the imbalance that has been allowed to arise in what is traditionally the best-regulated gambling industry in the world."

The BHB claim that the growth of betting exchanges, fuelled by a lenient tax system, has served to put the future of the entire horse racing industry in jeopardy;

"their impact on racing's finances has been ignored by the Levy Board, and the charging mechanism by which revenues are raised by both the Levy Board and Government is fickle to say the least."

Exchanges Redux

In March 2004, the Chancellor of the Exchequer Gordon Brown referred in his budget speech to "a review of the tax treatment of betting exchanges and their clients." This represented the first sign that individuals on the betting exchanges may be taxed over and above the commission which they already pay to the exchanges, as a percentage of their winnings.

The Joint Committee on the Draft Gambling Bill, who reported back to the Government in April 2004, also proposed that a new fiscal and regulatory regime should be applied to betting exchanges;

"We believe that the best way of achieving a balance between these points is to ensure that those using the exchanges to lay bets professionally are identified, regulated, made subject to the appropriate levy arrangements, and have their status checked."

The Joint Committe stated that persons using the exchanges to lay professionally ("non-recreational users"), should be identified and dealt with appropriately;

On June 14, the UK Government had made its response to the First Report of the Joint Committee on the Draft Gambling Bill; Session 2003-2004. On the subject of betting exchanges, they have rejected the proposals put forward by the Joint Committee on the Draft Gambling Bill that layers on the betting exchanges should be required to register for integrity purposes, levy payments and, perhaps, additional taxation. However, the Government has said that those that use the exchanges to conduct betting operations in the course of business will require an operating licence;

The UK's Gambling Bill which will usher in a process of industry deregulation, was printed on 18th October 2004; and, as expected, the proposals contained no mention of the further regulation of individual clients of betting exchanges, or any attempt to tax non-recreational layers.

However, in November 2007 British Horseracing Authority (BHA) put forward a case to the Department of Culture, Media and Sport for a greater contribution from the betting industry in the 47th levy.

Seeking a levy of somwhere between £135million and £153million for 2008-09, compared with an estimated £94m from the latest scheme, the BHA's document calls for the government to settle the levy on the basis of 15% of gross win on British horseracing.

The BHA also calls for betting exchanges to contribute to the levy on a new and equitable basis, stating that the contribution made by betting exchanges to the Levy should increase from the £6m paid in 2006-07 to £20m. This figure would be achieved, they argue, through the imposition of a 1.25% Levy on the net profits of punters on betting exchanges, raising the possibility that Betfair et al, may be forced to increase their commission charges.

The Funding Question

The "funding question", which lies at the heart of the debate raging between the betting exchanges and the BHB, the Governing Authority for British horse racing, is both complex and controversial.

The BHB contended that the betting exchanges enjoyed an unfair tax advantage compared with traditional bookmakers, and, that they single handidly depress the margins of the on-course and off-course betting business';

"the taxation of betting exchanges creates an unlevel playing field which ... (gives) betting exchanges an unfair advantage and results in less money flowing to government and racing."

Establishing a clear relationship between the betting exchanges and a fall in bookmakers margins, is not easy, however. In the first instance, there is the fact that the internet has ushered in increased competition; with the likes of BlueSq, Paddy Power, Canbet, Gamebookers and Bet365 now competing for market share.

Secondly, tthere is the arrival on the scene of the many odds-checking sites, which put pressure on industry margins through making prices more visible and also encouraging a greater intensity of competition. And finally, turnover figures across the industry, support the notion that a high proportion of the turnover going through Betfair is incremental, rather than cannibalistic.

From Betfair's perspective, the shortfall in boomakers margins can be attributed to a radical change in punter behaviour towards backing short price favourites, and, to the introduction by the bookmakers of low margin fixed odds betting terminals.

The profit margin built into starting prices had indeed fallen from 2.07 per cent per runner in September 2000 to 1.45 per cent per runner in September 2006.

However, on 1 November 2006 a new procedure for returning Starting Prices (SPs) was introduced, following a review of the system by the Starting Price Regulatory Commission under the chairmanship of Lord Donoughue.

Whereas previously Starting Prices had been determined by taking a sample of bookmakers' prices, and taking the lowest price among the best third available "to good money" at the off; under the new system the SP is the lowest price among the top 50 per cent, including at quieter meetings, bookmakers betting each-way. There is also greater input from the on-course representatives of major off-course betting shop chains.

The first month-to-month comparison of SPs returned under both the old and new procedures revealed a rise in the profit margin of bookmakers from 1.59% per runner to 1.8%. Figures for the last twelve months show that the margin is now trending back towards 2% per runner.

To tax or not to tax?

Regulation is a contentious issue, not least, because an inevitable tension exists between developing a regulatory framework for what is an innovative technology, whilst at the same time encouraging its development.

Whilst the traditional bookmakers and the BHA may feel that there is a clear cut case for taxing professional layers on the betting exchanges, the government will have to consider competition issues, alongside the implications of taxing the new trading systems, for innovation and productivity within the industry.

The issues surrounding funding are in themselves not so clear cut, as to provide the Government with a reason to tax the exchanges. The factors most likely to affect the government's review process of the Levy are; the general changes in the competitive milieu, such as the arrival of betting exchange centres on the High Street; the migration of former on-course bookmakers onto the betting exchanges; the useage of the exchanges by non-domiciled bookmakers; the useage of the betting exchanges by high net worth individuals, turning over millions of pounds a year; the fact that Betfair now enjoys a significant monopoly position in the sector, and that any tax geared towards it and its users, may well serve to stifle competition (as well as placing small UK based betting exchanges at a disdavantage compared with exchanges based offshore.).

It would be ironic, if the GPT, designed to boost industry competitiveness, were to be used in a manner that would either drive the betting exchanges offshore, or blunt their competitive edge. So the question that the government will now have to ask itself, is whether it is it worth introducing a new tax scheme, which would serve to eliminate or reduce the benefits of the betting exchange system for a small number of individuals - weighed against the benefits of the betting exchanges to the UK economy as a whole, and the contribution that they make towards maintaining the competitive edge of the UK as a global betting centre.

They will have to decide whether the registration and taxing of the one per cent of individuals that make significant profits by laying on the betting exchanges, will represent a fiscal and regulatory burden too far.

In November 2004, Mr David Michels of Ladbrokes said that his company eagerly awaited the results of a Treasury review of the online betting exchanges;

"We believe the chancellor will level some form of additional taxation on betting exchanges." A previous Treasury examination of exchanges found no need to impose a further tax."

His comments came a day after Sporting Options, allegedly one of the largest companies in the fledgling betting exchange sector went to the wall. It would seem certain that any additional taxation of the sector, will lead to other companies going the same way.

Speaking at a SIS-sponsored seminar organised by Global Betting And Gaming Consultants in London, David Harding, of William Hill again called for the strict regulation and taxation of betting exchange clients;

"The UK is now the only nation in the world that is not seeking to ban these things. We don't want to see them banned, but we want a level playing field. If people are on there to conduct a business, they should be subject to the same licensing system that we are, and if they are layers, they should be subject to the same tax."

Antonia Sharpe, a spokesperson for Betfair said in response to Harding;

"The exchange model is completely different from the bookmaking model," . "Bookmakers work to a margin between 10% and 17%, whereas we have a margin of 3% to 5%. The reason they have such a huge margin is that they have to manage their risk. Betfair doesn't, because we only accept bets that are instantly matched on the exchange by another punter........Amending the Gambling Bill as the traditional bookmakers wish will actively work against the aims of the Bill, by encouraging people to seek out alternative platforms on which to bet, outside the regulatory framework. This will fundamentally undermine the legislation, and kill the award-winning exchange model in the UK."

The following day, the government's spending watchdog, the National Audit Office said that Customs had underestimated (and failed to understand) the popularity of new forms of gambling, such as internet betting exchanges, adding that these new services posed "new risks to [tax] revenue." *

In October 2005, the Lotteries and Gaming Authority of Malta announced that Betfair was set to launch an operation in Malta on Thursday 13 October. Few failed to see this announcement for what it really was; a veiled threat from Betfair, that should the Treasury annouce in the chancellor's pre-Budget report in November that it was going to levy some form of additional taxation on betting exchanges, that it would simply not have any servers in the UK.

In December 2005, the Chancellor, Gordon Brown delivered his Pre-Budget Report Speech to the House of Commons. On the question of gambling, it was stated that current taxation regimes were working well and would stay in place.

Were the BHA to succeed in their latest attempt to get the government to impose a 1.25% Levy on the net profits of punters on betting exchanges, there can be little doubt, that we will see Betfair move offshore.

Niall O'Connor

Considering the fact that industry turnover figures support the notion that most of the turnover going through Betfair is incremental, rather than cannibalistic, and, the fact that the government has yet to accrue any revenue from offshore casinos and poker sites, it's difficult to quite see how, without having seen the full picture, the National Audit Office was able to report that Betfair poses "new risks to [tax] revenue."

* The National Audit Office has said that the introduction of a gross profits tax had encouraged bookmakers to move their online operations back to the the UK (really). But the government's spending watchdog also said that Customs had underestimated (and failed to understand) the popularity of new forms of gambling, such as internet betting exchanges, adding that these new services posed "new risks to [tax] revenue". It also said that HM Revenue and Customs and the Gambling Commission, should take advantage of opportunities to pool expertise and resources and share information on "traders". It was also said that; "The duty returns for betting exchanges do not include commission rates and therefore do not reflect the relationship between commission rate and turnover. Customs were in October 2004 working with the industry to devise an appropriate return." The use of the word "traders" to describe bookmakers has been seen by some as providing the biggest indication yet that the betting exchanges will be asked to pay more duty to customs and excise; however, looking at the report (para 3.7), it could be argued that what is being raised here is an enforcement issue, as opposed to a call for regulatory change.

** "We are not being charged on the basis of turnover we are being charged on the basis of gross profit and that is why we can say we are paying exactly the same. For turnover against turnover, yes, the amount of money that comes off our turnover is less than the amount of money that comes off somebody else's turnover, that is because our turnover is high and because our margin is low and the taxation system is designed to allow high turnover and low margin operators to exist and we have created a very efficient high turnover, low margin business." Mark Davies, Betfair - Minutes of evidence taken before the Joint Committee on the Draft Gambling Bill. Thursday 22 January 2004.

*** The Inland Revenue on its own website states that; "Betting and gambling, as such, do not constitute trading. However, an organised activity to make profits out of the gambling public will normally amount to trading." In Graham v Green [1925] 9TC309 it was stated that - "Now we come to betting, pure and simple… It has been settled that a bookmaker carries on a taxable vocation. What is the bookmaker's system? He knows that there are a great many people who are willing to back horses and that they will back horses with anybody who holds himself out to give reasonable odds as a bookmaker. By calculating the odds in the case of various horses over a long period of time and quoting them so that on the whole the aggregate odds… are in his favour, he makes a profit..... The subject is involved in great difficulty of language, which I think represents great difficulty of thought. There is no tax on a habit. I do not think "habitual'' or even "systematic'' fully describes what is essential in the phrase "`trade, adventure, profession or vocation''."

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