An economic review of the proposed change in UK legislation for online gambling taxation. Summary view

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1 An economic review of the proposed change in UK legislation for online gambling taxation Summary view September 2013

2 This report has been prepared by KPMG LLP ( KPMG ) solely for the Remote Gambling Association ( RGA ) in accordance with terms of engagement agreed by the RGA with KPMG. Following a request by the RGA, KPMG has agreed that this report can be shared with certain third parties to facilitate discussion between them and the RGA, subject to the remaining paragraphs of this Notice, to which readers attention is drawn. Readers are not permitted to copy, reproduce or disclose the whole or any part of this report unless required to do so by law or by a competent regulatory authority. KPMG s work for the RGA and this report have been designed to meet the agreed requirements of the RGA only, determined by the RGA s needs at the relevant time. This report should not be regarded as suitable to be used or relied on by any reader other than the RGA wishing to acquire any rights or assert any claims against KPMG for any purpose or in any context. KPMG does not accept or assume any responsibility to any readers other than the RGA in respect of its work for the RGA, this report, or any judgments, conclusions, opinions, findings or recommendations that KPMG may have formed or made and, to the fullest extent permitted by law, KPMG will accept no liability in respect of any such matters to readers other than the RGA. Should any readers other than the RGA choose to rely on this report, they will do so at their own risk. KPMG s work was conducted between 5 April 2013 and 3 September 2013, and the work comprised desk-based analysis of publicly available information, information supplied to KPMG by the RGA and meetings and conversations with the RGA s staff. The analytical activities that KPMG conducted to provide a basis for this report focused on specific areas as agreed with the RGA. KPMG does not provide any assurance on the appropriateness or accuracy of sources of information relied upon and KPMG does not accept any responsibility for the underlying data used in this report. No review of this report for factual accuracy has been undertaken. For this report, the RGA has not engaged KPMG to perform an assurance engagement conducted in accordance with any generally accepted assurance standards and consequently no assurance opinion is expressed. The opinions and conclusions expressed in this report are those of KPMG and do not necessarily align with those of the RGA. 1

3 Foreword In its 2012 Budget, the Government announced plans to tax online gambling on a place of consumption basis. It has proposed that the existing remote gaming, betting and pool betting duty rates of 15 per cent should be applied on a point of consumption basis from December KPMG has undertaken a detailed economic review of the proposed changes, which are set out in a report prepared on behalf of the Remote Gambling Association. The KPMG analysis relies on publicly available materials, analysis by respected market observers, economic analysis of UK and European markets and interviews and data from the UK s leading gambling providers in order to assess these proposed changes. The main findings of the report include that there is a serious risk of the Government s proposals failing to establish a viable market for UK licensed operators with the consequent danger that the Government s following stated goals will not be achieved: i) protecting UK consumers; ii) levelling the playing field for existing UK based operators; and iii) increasing public revenues. This is because the current proposals for changing the tax regime could well unintentionally distort prices and products on offer in the UK market and, in doing so, result in the creation of a larger black market than the Government has anticipated. A number of operators believe that they will be unable to absorb the tax and will be forced to pass the additional cost on to their consumers. Given how price sensitive many customers are this will result, the industry believes, in a large number of customers switching to offshore, duty-avoiding, providers who are able to continue to offer lower priced, more attractive, products. The KPMG analysis concludes that the way to remedy this problem is to at least initially have a lower tax rate than the 15 percent that is currently proposed, that will enable those paying it to provide a competitive offering to UK consumers whilst the actual rate is adjusted to find the optimum yield for the minimum market distortion. KPMG has two main recommendations, based on objective economic analysis, for achieving the Government s stated goals in a way that will also benefit the taxpayer, consumers and the industry: Any tax on UK online gambling activity should be on a gross profits basis and not, as appears currently to be suggested in the consultation documents, on gross gaming revenues. This will require gross profits to be defined. In particular, the bonuses and free plays that are a central part of the marketing strategies of online companies and which consumers expect to have should be excluded from tax calculations. Whatever the tax structure chosen, in order to meet the Government s fiscal and social objectives the tax rate should not be set at an excessive level. The prudent approach, in terms of the economics of the situation, would be to start with a tax rate of no higher than ten per cent and adapt it over time as the Government gains sufficient experience of this new regime to gauge the revenue-maximising level of tax. The dangers of introducing the proposed rate of 15 per cent immediately are: firms may be unable to recover their costs and could either go out of business be forced, to the potential detriment of UK consumers, to operate outside of the UK regulated market; and / or a very large number of UK customers could switch to buying gambling products from offshore duty avoiding providers because they are able to offer lower priced, more attractive, products. If either of these come to pass, then it may be difficult to reverse these consequences with a subsequent reduction in the tax rate. We also consider there is a need for effective enforcement measures to be introduced against those operators who do not comply with the new legislation once it is introduced. 2

4 An economic review of the proposed change in UK legislation for online gambling taxation 3

5 An economic review of the proposed change in UK legislation for online gambling taxation Main findings and recommendations Background From 1 December 2014, the Government intends to implement a new regime whereby the existing remote gaming, betting and pool betting duty rates of 15 per cent will be applied on a point of consumption basis. The duty is currently levied on a point of supply basis and, as most of the supply is provided from outside of the UK, the applicable gambling taxes are paid where the companies are licensed rather than to the UK Government. The change in the way the tax is levied would, for all practical purposes, be to increase the tax rate paid by most operators on bets placed online in the UK from close to zero to 15 per cent. This represents a radical change in approach and to the cost base of the vast majority of companies that service the UK market. In interviews with industry participants covering c70 per cent of the online market, KPMG has been told that many online gambling providers will struggle to survive this change. There are fundamental concerns within the industry that the Government does not have a sufficient understanding of: i) the impact that the tax will have on the market; or ii) the viability of the associated plans to introduce a new licensing regime. KPMG s economic analysis A comprehensive economic analysis conducted by KPMG finds that there are risks of unintended consequences arising from both an inappropriate tax structure and an excessive tax rate. The current proposed tax is akin to that of a tax on gross gaming revenue rather than on gross profits. The economic analysis set out in this report demonstrates a gross profits tax will create fewer distortions to the market, will raise more tax revenues, and enable the Government to more easily achieve its social objectives from gambling taxation and regulation. Although a full definition of a gross profits tax will need to be agreed by the industry and the Government, the gambling industry believes that it needs as a minimum to ensure that when player bonuses and incentives are used they are not counted towards any tax liability. Including them as a part of the tax base will, the industry believes which is supported by the economic theory act as a de facto restriction on the marketing offers UK licensed operators are able to provide. This could make it difficult for them to compete with operators who are not licensed in the UK but continue to provide gambling services to UK customers. In addition to levying tax on online gambling on gross profits, it is also important to ensure that the rate is not set at an unsustainably high level. There is an industry-held view that a rate of 15 per cent is likely not to be absorbed by many online gambling operators. The additional cost presented by this rate of tax can, if at all, only be met by reducing spend in discretionary areas such as marketing or passing on the cost to consumers in the form of higher prices (worse odds). These are likely to reduce the attractiveness of the offer and competitiveness of companies licensed in Britain. Due to the high price sensitivity of many online gambling customers, brand awareness will not protect a large proportion of companies' businesses from customers switching to duty-avoiding offshore competitors. Of note is that high rollers and VIPs a small percentage of the total customer base but representing a very large proportion of industry gross gaming revenues and gross profits are especially price conscious and place relatively little value on brand. HM Treasury considers that the proposed 15 per cent point of consumption tax on online gambling will capture 80 per cent of the existing UK remote gambling market. Evidence from the industry, 4

6 An economic review of the proposed change in UK legislation for online gambling taxation including from other jurisdictions, and from other highly taxed markets, suggests that there is a not insignificant risk that the leakage to duty avoiding providers could be much higher than that. The various measures that have been implemented to ring-fence the market in other jurisdictions have largely failed. This suggests that there is little the Government can do to prevent noncompliant, tax-avoiding, operators from targeting UK consumers. The current rate of fifteen per cent creates a competitive disadvantage which is why most UK-facing remote gambling companies are based offshore. KPMG considers that the solution is to introduce a rate that, while not at the minimal level offered in some jurisdictions, is low enough to enable UK taxpaying companies to compete. Since it is difficult to estimate what an optimal level is with current information, the prudent approach would be to start with a lower tax rate 10 per cent or less that is adjusted over time once the Government has sufficient experience of this new regime to gauge what level of tax the market can sustain. Failing to take this approach could put the Government s fiscal and social objectives in jeopardy. In particular, if the current proposals result in UK consumers transferring their business to less reputable operators in less well regulated jurisdictions outside of the current white list and Gibraltar, this may put consumer protection at risk. KPMG s recommendations The proposed tax is described as a gross profits tax. But the way it is defined lies in between a gross gaming revenues tax (i.e. a tax on stakes less prizes) and a gross profits tax (i.e. a tax on stakes less prizes less the cost of sales). Any tax on UK online gambling activity should be on a gross profits basis. This is because a gross profits tax will create fewer distortions to the market, will raise more tax revenues, and enable the Government to more easily achieve its social objectives from gambling and gaming taxation and regulation. A working group should be established, including the Treasury and the gambling industry, to define which categories of expenditure should be included as allowable costs in the gross profits calculation and how these should be defined on a consistent basis across the industry. When online gambling is taxed on a place of consumption basis, this should be combined with a substantial reduction in the tax rate to well below the 15 per cent rate that has been proposed. We recommend 10 per cent or less. This could be adjusted on an annual basis until an optimal level is achieved in respect of all of the Government s policy objectives in relation to gambling. A set of key performance indicators should be identified that reflect the Government s fiscal, social and other policy objectives in relation to gambling. These should be monitored on an ongoing basis. When they start to move in an undesired direction, tax rate increases should be ceased. This will ensure that the tax rate is raised to a level consistent with the all of the Government s gambling and gaming policy objectives. Further research should be undertaken on the factors that determine the optimal tax rate, notably: the price sensitivity of demand for online gambling (including across product types and different customer groups e.g. VIPs and high rollers); a better understanding of industry operators profitability and their ability to absorb taxes; and customers willingness and ability to switch to offshore, tax-avoiding, operators. A wider review of other possible effects of the tax needs to be conducted in a comprehensive and robust way including the effects of the tax on: employment; innovation; spillover benefits to other sectors (e.g. marketing); etc. 5

7 An economic review of the proposed change in UK legislation for online gambling taxation There needs to be a comprehensive and practical review of the viability of preventing customers using offshore, tax-avoiding, operators. The costs and benefits of possible enforcement mechanisms must be assessed as a part of this review. This should include an assessment of the benefits of social as well as economic factors. We would suggest that to enable the domestic industry to compete effectively and on a level playing field against offshore, duty-avoiding, operators a review of appropriate enforcement mechanisms should be considered as a priority. This report has been prepared by KPMG LLP ( KPMG ) solely for the Remote Gambling Association in accordance with terms of engagement agreed by the Remote Gambling Association with KPMG. The opinions and conclusions expressed in this report are those of KPMG and do not necessarily align with those of the Remote Gambling Association. 6

8 Contact us Simon Trussler T + 44 (0) E Bill Robinson T +44 (0) E Adam Rivers T +44 (0) E KPMG LLP, a UK limited liability partnership, is a subsidiary of KPMG Europe LLP and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative, a Swiss entity. All rights reserved. The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavour to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation. The KPMG name, logo and cutting through complexity are registered trademarks or trademarks of KPMG International Cooperative ( KPMG International ).

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