The Impact of Promotional Tax Deductions on Colorado’s Sportsbooks

Colorado’s sports betting market has experienced significant shifts since the state legalized wagering in May 2020.

One of the most debated policy changes is the gradual elimination of promotional tax deductions for sportsbooks. This move, designed to create a more stable and equitable revenue environment, has profound implications for operators, state coffers, and the overall market dynamics.

Key Takeaways:

• Initial Advantage: When sports betting launched in Colorado in May 2020, sportsbooks were allowed to deduct promotional costs (e.g., free bets, deposit matches), reducing their taxable revenue – even to negative figures.
• Phased Out Deductions: Starting in 2023 and set to disappear by 2026, deductions are being progressively limited (2.5% in 2023, 2.25% in 2024, 2% in 2025, then zero).
• Revenue Growth: Despite a slight drop in the betting handle, state tax revenue rose from $12.4 million in FY 2021-22 to $24.2 million in FY 2022-23, with further growth projected.
• Operator Concerns: Reduced promotional spend has prompted some operators to scale back marketing efforts, potentially affecting market growth.
• Broader Implications: Comparisons with states like Virginia, Pennsylvania, New York, and Michigan highlight differing regulatory approaches, aiming for long-term market stability.

A Tax Policy That Changed the Game

Here’s how Colorado developed their betting taxes to the next level.

Initial Tax Structure and Its Incentives

When Colorado first opened its doors to sports betting, sportsbooks enjoyed a key advantage: the ability to deduct promotional expenses from their taxable revenue.

These deductions covered costs such as free bets, deposit matches, and other marketing incentives. For many operators, this policy lowered their effective tax burden to the point where some even reported negative taxable revenue.

In the fiscal year 2021-22, Colorado collected approximately $12.4 million in sports betting taxes on around $4.8 billion in wagers. This setup allowed sportsbooks to invest heavily in promotions, spurring market growth and increasing player engagement.

The Phase-Out Plan: A Shift Toward Stability

However, the landscape began to change in 2023. Recognizing the potential for market distortions and long-term instability, state regulators initiated a phased reduction of promotional deductions:

• 2023: Deductions capped at 2.5% of the handle.
• 2024: Further reduced to 2.25% of the handle.
• 2025: Lowered to 2% of the handle.
• 2026 and beyond: Eliminated altogether.

Colorado aims to level the playing field and boost state tax revenue by stripping away these deductions. Early indications from the fiscal year 2022-23, which saw tax revenue increase to $24.2 million even as overall wagering dipped slightly, suggest that the policy change already has a measurable impact.

Economic Impacts on Operators and the State

The Revenue Equation

For the state, the removal of promotional deductions means a steadier stream of revenue. Projections indicate that tax collections could reach:

• FY 2023-24: Around $24 million.
• FY 2024-25: Up to $27 million.

These gains come at a time when the sports betting handle is expected to stabilize or grow modestly, ensuring that Colorado’s coffers continue to benefit from a robust market.

Operator Responses and Concerns

Not all operators are cheering the news. Some, like DraftKings, have already reported a reduction in their marketing spend in Colorado. With fewer deductions available, the cost of running aggressive promotional campaigns has risen. This could lead to:

• Market Contraction: Operators may scale back on promotions, which in turn might dampen player acquisition and retention efforts.
• Competitive Pressures: Smaller operators, who previously relied on high-risk marketing tactics, might find it harder to compete against larger firms with deeper pockets.

Industry analysts point out that while the phase-out might curb some of the short-term volatility, it could also stifle growth if promotional incentives dwindle too rapidly.

Regulatory Rationale Versus Industry Fears

Proponents of the policy change, including many state regulators, argue that eliminating promotional deductions will ultimately lead to a healthier and more competitive market. They believe that a stable tax environment benefits all stakeholders by:

• Encouraging Responsible Growth: Without the lure of heavy promotions, operators may focus on sustainable business models.
• Ensuring Fair Competition: Similar restrictions in states like Virginia and Pennsylvania have shown that limiting deductions can foster long-term profitability.

Conversely, the Colorado Gaming Association has voiced concerns that these measures might hinder market expansion. The fear is that reducing promotional spending could make the market less attractive to new entrants and slow innovation.

What Lies Ahead

The policy shift in Colorado is not merely a tax adjustment – it’s a fundamental realignment of market incentives. As operators adapt to higher effective tax burdens, they may need to innovate in other areas to attract and retain customers.

The future might see:

• New Marketing Strategies: Operators may use non-monetary incentives, enhanced customer service, and loyalty programs.
• Technological Innovations: Using platform improvements and user experience enhancements could become the new battleground for market share.

The move is expected to lead to a more predictable revenue stream for the state, even if it means a slower pace of market expansion in the short term. This could contribute to a more mature and sustainable sports betting ecosystem in the long run.

Sources

• Colorado Department of Revenue
• PlayColorado.com
• Colorado Legislative Council Staff Fiscal Notes