People may be dreaming about their future mansions and private islands amid the frenzied lottery ticket sales, but it's the states that are really salivating.
With the Powerball jackpot ahead of Wednesday's drawing hitting $550 million, the organization's largest-ever pot, states stand to make tens of millions of dollars in tax revenue.
The cash is often funneled to critical programs like education and infrastructure, many themselves squeezed as states cut back during the recession.
“It’s an effort to raise revenues without more taxes,” said Kent Grote, an economics professor at Lake Forest College in Chicago, who has researched lotteries.
New Jersey, for example, which has the largest state tax on lottery winnings at 10.8%, stands to rake in $1.8 million on average a year over the next 30 years if a winning ticket was purchased within its state borders. If the newly-rich winner opts for the lump sum, New Jersey would walk away with a one-time $38.9 million payment, according to data compiled by USA Mega.
It may not seem like that much money compared with states' massive budgets – only making up about 2.5% on average of their annual tax revenue, which is as much as alcohol licenses or tobacco taxes in some states – but it nevertheless is a welcomed influx as states struggle to recover.
“It’s extremely difficult for state and local governments to raise taxes, but time and time again when put to referendums, people have adopted lotteries across the U.S.,” said Victor Matheson, an economics professor at Holy Cross University.
With the jackpot rolling over 16 times since Oct. 6 and reaching record levels, several people have bought repeat tickets over the weeks, while new players have emerged from the woodwork to chase the growing pot. That's a benefit for states, as lottery revenues begin accumulating long before a winner is even named.
Matheson estimates that of every dollar spent on lottery tickets, 50% is removed from the jackpot, with about 35% going directly into states’ tax funds, 10% to fund the lottery’s operations, and 5% trickling to the retailers.
In a $500 million jackpot, for example, a half has theoretically already been removed, with $175 million funneling into state tax revenues, $50 million funding lottery operations and $25 million trickling down to the small retailers that sell the tickets, and that's all before the drawing.
“To generate that sort of jackpot, they’ve already taken out a huge amount of money,” Matheson said. “The actual take home is a mere fraction.”
After the drawing, the federal government would take $90 million of the winner's $550 million jackpot at an income tax rate of 25%. At a rate of 35%, the nation's highest-level income tax, the federal government would take in $126 million.
Of course, in a government that spends $500 million every 74 minutes and 18 seconds, the additional taxes are but a mere slice of overall expenses. For states, though, it’s a matter of critical money reaching the neediest programs.
States often dedicate lottery revenue to sensitive programs like education in an effort to make the legalized form of non-private gambling more attractive to the naysayers. Studies showing how state lottery taxes are funneled, however, often show revenues being used as a replacement to traditional taxes, thus freeing up traditional tax money for other needy areas.
“They dedicate lottery funds to education and then reduce [the] tax revenue,” Grote said. “It frees up tax revenues.”
The Winning Ticket
For those playing the lottery, the chance of winning is extremely slim: about 1-in-175 million.
And depending on the state, winners could walk away with less than half the listed jackpot. In New Jersey, for example, a person who opts for the lump sum payment would walk away with just over $231 million of a $550 million pot, while in Delaware, which doesn’t charge state taxes on lotteries, a winner would take home $270 million.
“Lotteries are the worst expected return of just about any gambling you can do,” Matheson said. Where slots pay 95 cents to the dollar in terms of prizes and a good Black Jack player can earn as much as 98 cents, lotteries pay a mere 50- to 60-cent return per dollar, he said.
At the same time, with the fiscal cliff deadline rapidly approaching, federal income taxes stand to be raised next year, which could potentially bite another few million out of the winnings if they are claimed in 2013.
Lotteries often attract people in lower to middle-income brackets, with scratch-offs preying on the lowest-income individuals. Mega jackpots like this, however, bring people from all class levels, including the wealthiest Americans, though they hardly represent the majority.
The frenzy has caused the jackpot to skyrocket by $125 million in just two days.