Why I Believe DraftKings Surcharge Tax Would Send More Bettors Offshore

During a recent earnings report, DraftKings revealed plans to implement a surcharge on sports betting winnings. Patrons in markets with a 20% tax rate or higher will be subject to a gaming tax surcharge beginning Jan. 1. The current markets affected by this change will be New York, Illinois, Pennsylvania, and Vermont.

This surcharge will decrease the payout for winning wagers for bettors. This essentially creates less profitable odds for every wager on DraftKings. Why would bettors with multiple options choose to continue to wager at DraftKings, knowing they are getting less favorable payouts?

And if other regulated books follow the trend, what motivation do bettors have to avoid the unregulated offshore market?

Why DraftKings Is Implementing The Surcharge

DraftKings explained in its quarterly shareholder letter that the surcharge is due to increasing tax rates in some markets.

“In 2021, New York legalized mobile sports betting and its tax rate of 51% made it only the second state in the nation, after Pennsylvania, that has multiple sports betting operators and a tax rate above 20%. For the next three years, no other states followed suit so there was no major forcing mechanism for DraftKings or any other company to address the potential for higher tax rates becoming more widespread. However, over the past several months, we have seen a shift to tax rates over 20% in certain competitive markets, including a recent significant tax increase in Illinois. We now must consider the prospect that some states may choose to tax the industry at a rate that is in excess of what we can absorb while still generating a reasonable profit margin and remaining competitive against the pervasive illegal market that pays no taxes at all.”

DraftKings Shareholder Letter

DK cut its adjusted EBITDA guidance for 2024. The initial guidance was set at $500 million and is now down 24% to $380 million after Q2. A part of the cause of the decrease is the Illinois sports betting tax change. Illinois now implements a graduated 20% to 40% range instead of the 15% initial tax rate. The surcharge is a way to offset the added taxes in Illinois and other markets.

The size of the surcharge will likely be between 3% and 5% of winnings. The Q2 Earnings Presentation presented an example. A $10 wager at +100 odds was used, with a potential payout of $20 on a win. However, an Illinois Gaming Tax Surcharge of $0.32 was placed on the payout, leaving the total winnings at $19.68. This roughly moves the line from +100 to -104 in terms of payout.

How the Surcharge Could Backfire On DraftKings

DraftKings CEO Jason Robins discussed the surcharge decision during Friday’s earnings call. DK hopes the surcharge will discourage lawmakers from raising the sports betting tax rate in their market. If residents are vocally unhappy, lawmakers may reconsider the higher rates.

“I do think that this is something that may make some states reconsider raising their sports betting taxes,” said Jason Robins.

Legislators are truly concerned about high tax rates and the risk to customers. The calls for lowering New York’s 51% tax rate prove this. However, a state changing its tax rate based on a sportsbook’s business decision is yet to be seen. In the meantime, DraftKings is banking on customer loyalty.

“People may gripe about it, but I don’t really see behavior change because of it,” said Robins.

DraftKings is one of two sportsbooks, the other being FanDuel, that dominate the sports betting market. DK believes its market position will remain strong even with the surcharge. However, in the four markets that will see the surcharge, there are indeed other options. Sports bettors do not have to wager at DraftKings, especially if the sportsbook offers a lower payout on winnings than their competitors.

Knowledgeable sports bettors will always wager on the more profitable line. If DraftKings actively reduces the profitability of wagers on its platform, many bettors may choose to wager elsewhere if the new tactic creates a negative user experience.

If Other Operators Follow Suit, It Benefits The Offshore Market

During his address, CEO Jason Robins also said he thinks other sportsbooks could follow suit, stating, “Every company has to do what’s best for their own business.” While Robins says the tax surcharge will be “fairly nominal” to customers, a lower payout is a lower payout. And if regulated sportsbooks are offering lower payouts, that only benefits the offshore market.

Officials are pushing legislation to repeal the federal sports betting excise tax. Senators Catherine Cortez Masto (D-Nev.) and Cindy Hyde-Smith (R-Miss.), sponsors of the bill, admitted that offshore books often offer better odds because they don’t pay any state or federal taxes.

“This outdated tax punishes legal operations while incentivizing illegal sportsbooks, as they can operate more cheaply and often offer better odds,” reads the press release.

In 2022, the American Gaming Association (AGA) released a report examining the illegal betting market. The AGA estimates that $63.8 billion in wagers from Americans go to illegal bookies and offshore sites. The U.S. is missing out on $3.8 billion in estimated gaming revenue and $700 million in estimated taxes. Research shows that nearly 40% of the U.S. sports betting market is wagering illegally.

Regulated sportsbooks compete with the offshore market, too. Decisions like a surcharge on wins only benefit the offshore books, which could push customers to chase more profitable payouts. DK’s decision may send some sports bettors to the offshore market in search of what they believe is a more positive user experience.

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