A security token offering (or STO) is a 21st century blockchain-based alternative to a traditional equity or debt sale to raise company funds. Instead of selling units or shares, a company sells digital tokens to investors. Instead of selling SAFE (simple agreement for future equity) notes, companies can offer a SAFT (simple agreement for future tokens).
But why would a company want to sell tokens in the first place? STOs and traditional equity offerings fall within securities laws and must either be registered with the SEC or comply with exemptions (Regulation A+, D, or S for example). State-level “blue sky” laws may also apply. Also, like traditional securities, STOs represent fractional ownership in a tangible asset, either an equity interest in the company, a profit share, or debt instrument.
An STO does have certain benefits over selling traditional securities:
Unlike traditional securities, the STO eliminates third parties and middlemen inherent in a traditional securities offering, leading to greater efficiencies, lower costs, and a faster issuance process.
Blockchain technologies are inherently transparent, as the digital ledger is public. This makes the offering inherently more secure.
By selling tokens, companies can tap into financial markets across the world that would not be normally accessible. An investor from Asia or Europe can easily buy into a company STO, just as an investor from the United States.
Security tokens are considered more liquid because investors can buy, sell, and trade tokens around the clock.
The digital nature of the tokens makes corporate governance and voting easier and more transparent.
Another distinguishing characteristic of an STO is that a company can tokenize and sell fractional ownership in almost any real world asset – such as real estate, a machine, or even intellectual property. This opens up a host of possibilities and financing options that would otherwise be limited or unavailable with traditional securities. This is especially attractive to high-tech startups whose business model is already based on or related to the blockchain.
STOs should not be confused with ICOs (initial coin offerings). ICOs boomed in 2017, as some companies turned to unregistered token sales to raise funds outside of the traditional securities disclosure, registration, and other legal requirements. In 2017, the SEC issued an investor bulletin and clarified that these digital token sales constitute “investment contracts” that meet the SEC v. W.J. Howey Co., 328 U.S. 293 (1946) test and therefore must be registered as securities under federal law. ICOs also are associated with several high-profile “exit scams,” where cryptocurrency promoters claimed big plans for a new crypto project, collected funds from investors, and then simply disappeared with the funds. Other ICOs purported to be “high-yield investment programs” that turned out to be nothing more than Ponzi schemes.
As cryptocurrency, NFTs, and other blockchain-based technology became more mainstream in 2021, it is important to recognize that the STO is a new way for innovative companies to raise funds. While these are still securities offerings that must comply with applicable regulations, the flexibility, transparency, and efficiency that these digital instruments offer are certainly attractive.
Want to know more? Contact Dan Artaev by email or call or text to set up your initial consultation.
Disclaimer: This guide is for general informational and promotional purposes only. Nothing herein constitutes legal, investment, or tax advice. Every situation is different and faces its own unique set of challenges. Do not take any action or sign any contract until you have obtained specific guidance from a qualified professional.
Video games are quintessential contests of skill and online multiplayer modes are a must in most modern video games. And yes, playing skill video games for real money prizes is legal in the majority of U.S. states. Some of the most popular video games (Call of Duty, Fortnite, Magic: Arena, and others) frequently feature official in-game tournaments with real-money prizes for the top finishers. Fueled by the global popularity of esports, there is also a growing number of third-party esports tournament sites and apps. These third-party offerings are essentially on-demand, which means that there are always head-to-head challenges waiting and frequent “cash cups” with winners able to win a hundred dollars or even more.
Real-money game tournaments and contests serve as a more casual alternative to professional esports. Not everyone has the time (or the reflexes) to go pro or even compete at the collegiate level. But, you may be skilled enough to dominate your local group of friends at Call of Duty or FIFA and there are plenty of offerings to let you win real money prizes against online opponents. Some of the most innovative companies even integrate streaming (for example through Twitch) to add an exciting “audience” element to real money play. Anyone can feel like an esports pro. There is also a growing opportunity for market crossover, with streamers getting involved in real-money play and adding a whole new dimension to their entertainment potential, audience, and branding opportunities.
What kinds of legal issues will a contest or tournament organizer/developer encounter? As with any business, there are several distinct legal areas in play.
Esports competitions or tournaments are not expressly regulated or prohibited under U.S. federal or state law.
First, from a government regulation perspective, no states expressly prohibit esports or video game tournaments. However, there are several jurisdictions that prohibit any sort of real-money gaming. This is the case even if the game involves a pure contest of skill (even offline, like a hole-in-one contest). Accordingly, tournament organizers and app developers stay away from those restrictive jurisdictions.
In the remaining states, game contests, tournaments, and esports are not licensed under any sort of “gambling” or “fantasy sports” regulatory scheme. The largely unregulated market means that there are a number of service providers out there that disagree on where their product can be offered. Some are more conservative than others, but there is not a definitive list of where gaming competitions are legal or illegal. At least one state – Nevada – passed legislation to create an esports advisory board (within its Gaming Commission), to recommend best practices for maintaining integrity of esports competitions and related betting. According to Nevada lawmakers, they recognize the value in the esports competition industry and want to ensure Nevada remains an attractive investment environment for this burgeoning industry. At this time, the potential advisory committee is the closest any state has come to any sort of esports-specific legislation.
A lot depends on the specific competition and tournament model, as well as the types of games being played. For instance, are shuffled cards involved (Magic: The Gathering)? Or some other element of randomness (like team or opponent selection)? Are bots or AI players involved? How do all these elements interact and do they introduce a significant chance element that may affect the outcome? Does the randomness element render the game illegal “gambling”?
Third-party video game websites and apps implicate the intellectual property rights of the underlying game’s developers and may be subject to DMCA takedown notices or federal trademark lawsuits.
Second, esports competitions and tournaments do implicate intellectual property rights, specifically the rights of the game developers. A game’s developer (like Blizzard, Riot, or Epic) owns the copyrights in its games and underlying code. Third-party apps and websites operate without any sort of license from the developers, which may be a violation of copyright or trademark law. Disclaimers alone may not be enough – using game imagery, logos, or even gameplay footage may constitute copyright or trademark infringement. A player or streamer may be protected by the “fair use” copyright law exception, but a company that organizes and monetizes game tournaments is unlikely to prevail on this argument. At the same time, a properly run game tournament organizer may not have sufficient interaction with the game itself to violate IP rights. After all, the players are the ones playing. Each situation is highly fact-specific and there is certainly no bright line rule.
As real-money video game tournaments become more widespread, expect to see pushback from the game studios. At least one studio – Epic – has announced an aggressive stance towards third-party platforms that facilitate playing Epic’s games for real-money prizes (particularly Fortnite). However, as of the date of this article, no lawsuits have been filed.
Combining real-money tournaments with streaming is an attractive business model, but may involve complex licensing and contract issues.
Third, streaming tournaments and competitions, as well as partnering with known streamers, involves a number of contract law and licensing issues. Each streaming service has its own set of terms. Players (and organizers) streaming real-money game content must ensure that they are compliant with the terms or risk being banned from the platform. Further, who owns the streaming content? Normally, the creator has the intellectual property rights to their own content, but it is not so clear-cut when streaming a tournament or other organized contest. Tournament organizers should ensure that rights and expectations are clear from the outset, especially if a well-known esports streamer or player is involved. If the streamer is granting the organizer a license to showcase their gameplay, the license should at a minimum be in writing. Any royalties, cross-promotions, and sponsorships likewise need to be negotiated ahead of time. Even the best intentioned relationships go awry when money becomes involved.
For developers looking to launch a new esports or game tournament app or website, an experienced gaming attorney is a must-have. Artaev at Law has worked with a number of gaming companies from across the world and has the expertise you need. Reach out today to set up a meeting with Dan.
Contact Dan Artaev by email or call or text to set up your initial consultation.
Disclaimer: This guide is for general informational and promotional purposes only. Nothing herein constitutes legal, investment, or tax advice. Every situation is different and faces its own unique set of challenges. Do not take any action or sign any contract until you have obtained specific guidance from a qualified professional.
The skill-based real-money gaming market remains a popular and innovative business environment. The draw for players is that they can play games and win real money, but also improve their chances of winning through skill. Unlike gambling or casino-style games, skill-based gaming is not mathematically skewed in favor of “the house.” There are many types of games to choose from – card-based solitaire-like games, bingo, bubble puzzlers, trivia, and even sophisticated physics-based racing games. Best of all, unlike casino gambling and sports betting, skill-based real-money games are legal and available in the majority of U.S. states and internationally as well.
For developers, the upside is obvious. Monetization of gaming has always been profitable and a lucrative business – hence the tightly-regulated casino and sportsbetting markets. Designing a mobile game instantly gives the developer access to customers across the world through a well-established distribution network (i.e. the Apple App Store). When done right, real-money skill games are not required to be licensed or otherwise regulated in a majority of the states. This makes the real-money skill game market very accessible to most developers, including smaller studios with limited budgets and without the lobbying firepower that would otherwise be required to enter the money gaming market.
These factors combine into a highly-competitive market. This makes it difficult to design a profitable game without innovation. For example, the Skillz.com platform (publicly traded as SKLZ on the NYSE) boasts over 30 million players and over 30,000 developers. However, according to Skillz’s August 2021 prospectus filed with the SEC, only three games accounted for 74% of all revenue in 2021. These so-called “big three” are Tether’s “Solitaire Cube” and “21 Blitz,” and Big Run’s “Blackout Bingo.” Predictably, there are number of copycat games that are very similar to these “big three” in design and gameplay. To be successful, developers must innovate. As part of their development and marketing efforts, all companies in this space need to understand the three main types of skill games, each with its own set of regulatory nuances:
Pure-Skill Games
The first category of games is the “pure skill” variety that are similar to the popular Solitaire Cube, 21 Blitz, and Blackout Bingo that account for such a large share of the market. These games pit players in head-to-head contests, multiplayer battles, or tournaments the outcome of which depends solely on the skill of the player. For example, in Solitaire Cube, players are given the same deck and are scored on how well and fast they play Klondike Solitaire using these cards. Players pay an entry fee, with the winner receiving a cash prize.
These “pure skill” games do not involve any other factors than the players’ own skill in determining the outcome. There are limitless possibilities in this genre – anything from knife-throwing games, to cup flipping or “beer pong” style contests, to trivia games fall into this category. Some particularly innovative developers have even developed sophisticated physics-based games (similar to Angry Birds) that take serious dexterity, planning, and logic to master.
The second category of skill games are those that are similar to the daily fantasy sports (“DFS”) contests offered by DraftKings and FanDuel. Generally, participants pay an entry fee and then are given a virtual currency budget to spend on a lineup of sports players to be on their fantasy team. The fantasy team then scores points based on real-world performance and the participants that accumulate the most points can win a cash prize.
Traditional sports and leagues like the NBA, NFL, MLB, and NHL are not the only options. There is at least one fantasy esports platform that lets players put together a lineup of their favorite gaming stars. There are also fantasy stock market games that let players pick a portfolio of real-world shares and win prizes based on how well their portfolio does against other players.
The key distinction between these fantasy games and pure-skill games is that the outcome of a fantasy game is not determined solely by a player’s skill. While it certainly takes knowledge and research to put together the best team, points are awarded based on real-world performance that is outside of the participants’ control. In fantasy sports, a particular player might have a bad game, get injured, or fall victim to bad officiating or adverse weather conditions. In fantasy stocks, a particular stock might enjoy a sudden price spike due to a merger announcement or a new product. Or, a stock might quickly lose value due to an SEC investigation or other unpredictable real world factors. In 2020, the IRS issued two separate memoranda analyzing and addressing this distinction, concluding that DFS involves “wagering” within the meaning of the Internal Revenue Code. At a minimum, the IRS’s position matters from a tax perspective: does your skill-based game involve “wagers” subject to excise tax?
DFS and similar fantasy games are more regulated than “pure-skill” games. DraftKings and FanDuel currently offer their DFS products in 43 states and are a good regulatory bellwether. In some states, DFS is offered as an unregulated skill-game product that falls outside of the state’s definition of “gambling.” In other states, legislatures have passed laws that expressly exclude DFS from “gambling,” but do not otherwise regulate or license DFS. In contrast, states like Michigan have enacted comprehensive licensing regulations for DFS. There are also states that outright ban any sort of real-money wagering. And, there are states that have issued DFS-adverse legal opinions and are embroiled in litigation to decide whether DFS constitutes illegal “gambling.” In other words, the regulatory landscape for DFS-type games is complicated and requires guidance from an experienced gaming attorney.
Arcade-Style Skill Games
The third category does not involve mobile phones, computers, or the internet at all. Rather, these games look like arcade cabinets or even like slot machines, and are found in certain bars, restaurants, and other public establishments. Originally, these games were purposefully designed to look and feel like slot machines, but introduced additional player choice or input features so that they would involve skill and purportedly fall outside of the definition of “gambling” in most states. Authorities in some states have cracked down on these types of machines (sometime called “nudge machines” or “skill slots”), concluding that the claimed skill element was a sham or otherwise insufficient to render the machine a true game of skill.
Despite the ongoing pandemic and the ubiquity of gaming options on mobile devices and the internet, these cabinet-type skill games are still thriving. One particularly popular game called “Dragon’s Ascent” has attracted the attention of regulators in the D.C. area and has sparked debate over whether the game (which pays out cash prizes) is an illegal gambling device. Players score points by shooting magic balls at dragons to capture them, using the joystick and buttons to direct and time their shots. The two-player version looks like a traditional arcade cabinet. The eight-player version adds an impressive-looking table that doubles as a screen. Both versions include drink holders, and the game’s promotional material specifically targets bars as a way for them to “offer something new.”
Although the barriers and start-up costs to enter into this specific market are significantly higher than the mobile game field, the presence of arcade-style skill games demonstrates the level of innovation and variety in the industry. Bars and restaurants that survive the pandemic may very well be interested in real-money skill games as one way to bring customers back to their in-person establishments. It is also possible that bars and restaurants will partner with more skill game developers to introduce mobile or more individualized real-money games to their establishments. After all, having a pint and betting $5 on a game of pool or darts is one of the most traditional and familiar ways to bet on a game of skill. Technology may advance, but people’s desire to compete, wager, and win real money remains the same.
Have more questions? Do you need a legal opinion or help getting your game through the regulatory process? Contact Dan Artaev today by emailing dan@artaevatlaw.com or by phone or text at (269) 930-0254.
Disclaimer: This guide is not intended to be and does not constitute legal advice. It is for informative and promotional purposes only. Do not take any action or refrain from taking any action based on this guide, and always consult with a qualified professional about the circumstances of your particular case. Each set of facts is unique and different circumstances apply to each individual business.
Real-money skill-based games are very popular across the world and the United States is no exception. Generally, real-money skill games allow players to compete against others in various games where the outcome is determined by the relative skill of the players (as opposed to chance). In simple terms, it is the same betting your friend $5 on a game of darts or pool at the local pub. Except these games are played online – most frequently on smartphones. Games range from timed solitaire contests (using the same deck), to knife throwing or cup flipping games, to trivia contests. Because chance does not determine the outcome, most states’ anti-gambling laws do not prohibit skill-based games. U.S. based and international companies have been working to invest in this space, using the increasing availability of the internet and smartphone apps to provide entertainment to players seeking to compete against others and win some money in the process.
Besides private company gatekeepers, local law enforcement, and regulatory authorities, there is a new obstacle for skill-based gaming companies. This time it comes from the IRS and could have broad market implications beyond simply paying taxes.
In 2020, the IRS issued two related memoranda regarding Daily Fantasy Sports (“DFS”) wagers. Recall that DFS is an accelerated version of traditional fantasy sports, giving players a chance to set lineups and compete on a daily basis, rather than having just one team for the entire season. DFS is available in 43 states through the two major operators: DraftKings and FanDuel. Similar to pure-skill games, DFS distinguishes itself from gambling by emphasizing that relative skill of the players determines the outcome (as opposed to chance). In some of the 43 states, DFS operates pursuant to government license. In other states, DFS is unregulated and either expressly or implicitly exempt from the statutory definition of “gambling.”
In the first 2020 memo, the IRS considered whether DFS operators (i.e. DraftKings and FanDuel) were required to pay excise tax on wagers pursuant to IRC §§ 4401 et seq. Under federal tax law, each “wager” is subject to excise tax – sportsbooks are very familiar with this provision that requires the bookmaker to pay tax on every bet accepted from a patron. In answering in the affirmative, the IRS defined “wager” without any reference to an element of chance:
“[T]he statutory language in IRC §§ 4401 and 4421 does not differentiate whether an activity involves skill, chance, or some combination of the two. Most importantly, whether DFS is a game of skill for state gambling statute purposes is not relevant for determining whether DFS is wagering for federal excise tax purposes.”
IRS AM 2020-009
At the same time, the IRS did not overturn Revenue Ruling 57-521, which was a 1957 opinion on whether a puzzle contest was a taxable gaming transaction. Rather, the IRS distinguished that in the puzzle contest “the contest participant’s own skill was the only factor involved in winning the puzzle game and there was no chance element at all.” In DFS, the participants use their skill to select a lineup, but then earn points based on the real-world performance of the selected athletes (over which the participants have no control). The IRS emphasized that no matter how educated and skilled a DFS participant may be, there is always a chance that the chosen player or players will perform poorly that particular day, get injured, or suffer adverse effects on their performance from the weather or officiating. Thus, the IRS concluded that the “skill” involved in DFS was similar to the skill involved in traditional sports betting or horse race “handicapping.” Finally, the IRS also explained that that the rate of excise tax (0.25% or 2%) depends on whether DFS is “authorized” under the law of the state where the wager is accepted. The IRS did not explain whether “authorized” means DFS is operating pursuant to express state license or is simply outside of the particular state’s anti-gambling legislation.
Two months after the excise tax memorandum, the IRS relied on essentially the same analysis to conclude that DFS wagers are “wagering transactions” that can be used to offset wagering income during a taxable year under IRC § 165(d). Effectively, DFS wagers are treated the same as gambling losses under the IRC. In its legal analysis, the IRS reiterated:
Any argument a DFS transaction is not wagering because it is based on skill must fail because elements of chance beyond the participant’s control ultimately determine the outcome of the transaction
IRS Memorandum 202042015
Why does the IRS’s DFS analysis matter for skill-based real-money gaming? Two main reasons: (1) The IRS’s interest in DFS transaction could signal increased tax scrutiny for real-money skill-gaming operators; and (2) the IRS’s legal analysis of whether a skill game is actually gambling/wagering could be adopted by states that currently do not regulate skill-based gaming.
1. Do real-money skill-based game companies have to pay federal excise tax?
There is no doubt that pure-skill games are still exempt from the definition of “wager” and “wagering transaction” for tax purposes. However, it is unclear whether there can be “any” chance at all. The first IRS memo cited a 1957 puzzle game ruling to distinguish pure-skill games, noted “there was no chance element at all,” and concluded that “[t]he existence of chance indicates that DFS contests are distinguishable” from the pure-skill puzzle game at issue in the 1957 memo.
In the second memo, IRS revised its position slightly to conclude that “the test is not whether there is an element of chance or skill, but which is the dominating element that determines the result of the game.” Regardless, the IRS took the position that the outcome of a DFS contest is predominantly determined by chance (as opposed to skill). DFS industry leaders have predictably issued statements opposing the ruling, calling it “deeply flawed” and inconsistent with state court decisions that have held that DFS is a game of skill.
If you are a real-money skill game developer, it is critical to determine whether your game has any element of chance at all. In other words, is your game more fantasy sports or pure contest? If there is any element of chance at all, you must determine whether skill “is the dominating element” of the game. Most, if not all, real-money skill games will pass this second test. At the same time, if your game is more like fantasy sports (for example a stock market or cryptocurrency picking game), your game will likely be considered to involve taxable wagering. This obviously subjects you to the excise tax under IRC §§ 4401 et seq. An added wrinkle is whether you owe tax at the 0.25% “authorized” rate or the 2% “unauthorized” rate. Most skill-based operators operate without a license or governmental approval – but at the same time, they only operate in states where their activities are not prohibited by state anti-gambling laws.
2. Will states adopt the IRS definition of “wager” to regulate real-money skill-based gaming?
Additionally, the IRS analysis may be adopted by states seeking to regulate or prohibit real-money skill games. For instance, if you are paying excise taxes to the IRS, a state regulator can easily use that fact to argue that your game is actually “wagering” and therefore constitutes “illegal gambling.” This is especially troubling because the first “excise tax” memo seems to require “chance only. It is also possible that real-money skill games will be considered “wagering” for the purposes of excise tax imposed by IRC §§ 4401 et seq but not “wagering” for the purposes of IRC § 165(d).
Stay tuned for more on this developing area. It is likely that DraftKings and FanDuel are headed for a showdown with the IRS over the excise tax issue. Any resulting Tax Court decision (or even settlement) will have significant repercussions for the skill-based gaming industry.
Disclaimer: This guide is not intended to be and does not constitute legal or tax advice. It is for informative and promotional purposes only. Do not take any action or refrain from taking any action based on this guide, and always consult with a qualified professional about the circumstances of your particular case. Each set of facts is unique and different circumstances apply to each individual business.
Skill-based real-money gaming has been a popular form of entertainment across the world for hundreds of years. From Roman legionnaires wagering on an early version of backgammon to $5 eight-ball games at your local pool hall, skill games have always attracted players looking for a chance to win real money. With smart phones in every pocket, skill-based gaming has entered a new era where anyone with an internet connection can play various money skill games through their phone or computer and stake anywhere from $0.25 to hundreds of dollars on the outcome.
Gaming is a rapidly growing industry and the skill-based real-money market is no exception. Indeed, there is already at least one publicly-traded California-based company (Skillz.com; SKLZ) investing substantial resources in the real-money skill-based U.S. market. However, any sort of real-money gaming business implicates federal and state-level regulation. While a government license is not necessary in most states, your game must still pass private sector review. Apple’s App Store is indispensable in the current market; advertising through social media like Facebook is another must. Banking and payment processing is likewise an integral part of your ability to run a business.
I have advised a number of companies, both international and U.S. based, on the legality of their skill-based real-money games. Through Artaev at Law, I have prepared detailed memorandums and analysis for a number of companies, as well as provided consultation to investors seeking more information about the real-money skill-games market. As a game developer, here is what you need to know:
1. Get Your Game to the Players.
If you were to get into the full-scale casino gambling market, you would have to comply with stringent state-level regulatory requirements, pay substantial application and licensing fees, and otherwise deal with an intricate governmental regulatory framework. Further, in the few states where casinos are even legal, there is only a limited number of licenses that a state will issue. In other words, it is impossible. But real-money skill gaming operates outside the gambling regulatory framework, which means you don’t have to go through a government licensing or regulatory approval process to offer your product (in most states).
Instead, real-money skill game providers find themselves faced with so-called private company gatekeepers. The popularity of real-money skill gaming is in large part due to the ubiquity of the smartphone. Apple’s App Store is the only practical way to get real-money skill games onto iPhones (no, people will not “unlock” their iPhones to sideload your real-money skill game, especially when the App Store already has a robust selection of these games that are easy to download and use). Google’s Play store does not currently allow real-money skill games, so there developers must either provide sideloading options or use a Progressive Web Application (PWA).
The bottom line is that developers must pass Apple’s “gatekeeping” to even get their app on the market. That means complying with the App Store Review Guidelines. Section 5.3.4 is particularly important:
5.3.4 Apps that offer real money gaming (e.g. sports betting, poker, casino games, horse racing) or lotteries must have necessary licensing and permissions in the locations where the app is used, must be geo-restricted to those locations, and must be free on the App Store.
Apple considers real-money skill games to fall into this category, even though skill games do not depend on chance like the “sports betting, poker, casino games, horse racing” examples. This guideline can be distilled into three requirements: (1) The app must be legal where you are offering it; (2) The app must be geo-restricted to only those locations where it is legal; and (3) the app must be free.
The first requirement is the most important and the most confusing for app developers. How do you demonstrate that your app has “necessary licensing and permissions” if the states where you are offering your real-money skill games do not regulate such games? This is a situation where a legal opinion or memorandum from an experienced gaming attorney is helpful. In general, such a legal opinion will describe your game, explain how the game fits within existing federal regulations, and then present a state-by-state analysis (supported by applicable statutory and case law citations) to show that the skill game does not violate those states’ anti-gambling prohibitions or any other law.
The second requirement of geo-restriction is self-explanatory. Your app can only offer real-money gaming if the user verifies their location in a state where such gaming is legal. You can still offer practice or play-money games without geo-restriction (or if the user does not want to or cannot verify their location).
The third requirement is that the app must be free. Section 5.3.3 of the review guidelines further clarifies that “in-app purchase” cannot be used to purchase credit or currency for use in the real-money gaming app. That means that you will need to set up some sort of external mechanism for deposits, link the user’s existing account and balance to the app, and ensure compliance with the external payment processors’ requirements.
Once submitted, the review process can take between several weeks to more than a month. A lot depends on whether your app is similar to other apps already approved or whether it is something completely new. Other factors, like the reviewer or the law firm reviewing the legal analysis may also impact the timeline.
2. Advertise Your Game.
Advertising is critical to your app’s success and online advertising platforms have special rules for real-money games. Social media companies like Facebook and Twitter require prior approval and permission before running your gaming ad. The process is similar for both platforms and generally involves filling out a questionnaire, selecting the geographic areas you are targeting, providing a link to your app’s website, and submitting a legal opinion that your app comports with the law where it will be advertised. Google and YouTube (owned by Google) do not currently allow real-money skill game advertising.
This process may be a bit more lengthy than getting approval from the App Store. Depending on the nature of your product, your location, and the platform, the process may take several months. The social media platform may also come back with additional specific legal questions for your counsel to answer. The level of follow up and scrutiny is hard to predict because the social media companies farm out the review to outside law firms, which have their own standards and review processes.
3. Set Up Your Payment Processor and Bank.
Once your game is live and advertised, it’s time to start making money. There are a lot payment processors out there (PayPal, Square, etc.) and each has their own set of rules and guidelines for business accounts. The federal Unlawful Internet Gambling Enforcement Act applies to payment processors, so they must be especially careful not to facilitate illegal gambling activities. Credit card companies present another potential obstacle, as credit card companies often lump skill-based gaming with gambling into the 7995 merchant code.
For example, after states started rolling out regulated sport-betting options, Visa issued guidance that made its payment services available for “all transactions that are consistent with local, federal, and international laws.” Visa introduced new 7800-series merchant codes for legal gambling, but none of those codes apply to real-money skill gaming transactions. Practically, this means that skill-gaming transactions may still fall under the blanket 7995 code and Visa may not authorize the transaction. Nor does Visa issue an MVV (merchant verification value) for 7995 merchants, meaning that skill-based real money gaming companies are limited as to their direct-pay options.
This essentially requires skill-game companies to explore options through payment providers like PayPal. Provided you are based in the United States and can link a bank account, the process should be straightforward. If you are based in another country however, there is a whole another set of hurdles to overcome.
There’s More.
Getting your game approved, advertised, banked is only the first step. You will also need robust terms and conditions that govern your relationship with your users, which is especially critical when dealing with real-money gaming and facing potential payout disputes. A privacy policy is also a must, especially if you are offering your game internationally. Then there is the issue of taxation and whether you should be paying excise tax on skill-based game wagers. Real-money skill-based gaming is a hot market, but requires experienced legal counsel to get through these various issues.
Have more questions? Do you need help getting your app through the review process? Contact Dan Artaev today by emailing dan@artaevatlaw.com or by phone or text at (269) 930-0254.
Disclaimer: This guide is not intended to be and does not constitute legal advice. It is for informative and promotional purposes only. Do not take any action or refrain from taking any action based on this guide, and always consult with a qualified professional about the circumstances of your particular case. Each set of facts is unique and different circumstances apply to each individual business.
Stablecoins are cryptocurrencies backed by other assets like fiat currency reserves, precious metals, commercial paper, and even portfolios made up of other cryptocurrencies. By pegging their value to another asset, stablecoins attempt to decrease price volatility and achieve a more “stable” price than uncollateralized cryptocurrencies like Bitcoin and Ethereum. As I previously wrote, stablecoins may be particularly useful for international trade and business due to their predictable value and the ability to avoid wire delays and to minimize transaction costs. Stablecoins are also not targets of speculation or artificial price increases due to external events like Elon Musk’s SNL appearances or even China’s clampdown on Bitcoin mining. If the stablecoin is pegged to the value of the dollar, it will still be worth $1 regardless of whether there is a sudden spike in demand or supply.
Other than potential business use, stablecoins are also a popular investment medium. Certain exchanges have offered attractive interest rates on stablecoin holdings, ranging from Coinbase offering 4% on USD Coin (USDC) to double-digit returns on some lesser exchanges and stablecoins. As always, do your due diligence and make sure you know where your money is going before transferring any significant amount of cash. Also, it may be worthwhile to test the liquidity or withdrawal time with smaller deposits before investing any large amounts.
Just like with traditional cryptocurrency, there are two main legal areas that affect stablecoins: tax and securities regulation. Here are the latest “must knows” in each area:
Stablecoins are taxed like property and are subject to capital gains tax. Cryptocurrency is not “currency” as far as the IRS is concerned – rather, for taxation purposes, it is treated like property and subject to capital gains tax. This gets tricky, especially with stablecoins that are pegged 1:1 to the dollar. Buying stablecoins (or any crypto) for dollars is not a taxable event. However, using stablecoins to purchase goods and services is a taxable event that must be reported, even if your capital gains are zero.
For instance, if you buy 1,000 USDC for $1,000, that is not taxable. Then, when you pay a Romanian engineer 1,000 USDC in exchange for a circuit board design, the IRS deems that you have sold the USDC at the market rate in exchange for the engineering services. The difference between your cost basis and your sell price is the capital gain. Where the stablecoin is pegged 1:1 to the dollar, the capital gain will be $0 (your purchase price and sale price are the same). In fact, you may even realize a loss that you can use to offset your income if you paid a transaction fee. Transaction fees are added to your cost basis, so if you paid a $10 transaction fee to buy 1,000 USDC, your cost basis is $1,010 and when you sell for $1,000, you just netted a $10 loss. Also, you can end up with capital gains or losses if you are transacting large amounts of stablecoin – for example if you sell 50,000 USDT (Tether) when it’s price fluctuated slightly to $1.01, you just received a $500 capital gain.
Additionally, if you are earning interest on your USDT holdings, interest is taxable like ordinary income. In other words, buying stablecoin for fiat currency is not taxable, but earning stablecoin through staking is taxable. Just like you pay income tax on interest earned from your savings account, you will incur income tax on cryptocurrency gains. Finally, when you use your earned USDT to buy something or convert to cash or another cryptocurrency, that is a reportable taxable event subject to capital gains tax because for IRS purposes, you just sold property – your cryptocurrency.
Some stablecoins may be regulated like securities. The Securities and Exchange Commission (SEC) enforces U.S. securities laws, which apply to a wide range of publicly-available investment products like stocks, bonds, mutual funds, and investment contracts where investors provide capital in exchange for expected returns. Cryptocurrencies like Bitcoin and Ethereum are not considered securities because they are exchange mediums and in the SEC’s view, are no different than a foreign currency like the Euro or the Japanese Yen. At the same time, the SEC has scrutinized new coin offerings (also called initial coin offerings or ICOs) and concluded that they may constitute investment contracts if there are facts that indicate the buyer is “expecting a profit to be derived from the efforts of others.” See generally SEC v W.J. Howey Co., 328 US 293 (1946) (where the Supreme Court held that shares in a citrus grove operation were investment contracts subject to securities laws because the investors provided capital with the expectation that workers’ efforts in harvesting oranges would yield profits). Certain stablecoins, especially those that seek capitalization through ICOs and promise a percentage return through “staking,” will be considered “investment contracts” required to register with the SEC and provide public information like any other security.
There are also some stablecoins that are backed by securities like corporate and municipal bonds, mutual funds, and other publicly-traded instruments that are themselves regulated by the SEC. There is little doubt that these security-backed stablecoins are considered derivatives because their value is derived from the value of regulated securities. SEC regulation will require stablecoin issuers to disclose additional information about their companies to the public. Already there is some concerning information release ahead of Circle’s (the issuer of USDC) intent to go public – USDC reserves are only61% cash and money market funds, with the rest divided between U.S. and foreign treasury bonds, municipal, and corporate debt. Previously, the 1:1 stablecoin issuers represented that each coin was backed by actual cash reserves, which were regularly audited. Apparently, that is not the precise reality.
Finally, stablecoins are also facing increased regulatory scrutiny from central bank authorities. Federal Reserve officials have expressed their concerns about the effect of stablecoins on the credit markets. Stablecoins also threaten the ability of the Federal Reserve to regulate monetary supply to stimulate the economy and control inflation. For instance, if a coin like USDC gains widespread adoption, a private company like Circle will be able to regulate monetary supply by increasing and decreasing interest rates. Expect to see increased guidance and regulation from the U.S. Treasury and the Federal Reserve in the near future. It would not be surprising to see stablecoin issuers to be treated as banks in certain circumstances.
Want to know more? Contact Dan Artaev by email or call or text to set up your initial consultation.
Disclaimer: This guide is for general informational and promotional purposes only. Nothing herein constitutes legal, investment, or tax advice. Every situation is different and faces its own unique set of challenges. Do not take any action or sign any contract until you have obtained specific guidance from a qualified professional.
Update: As of November 10, 2021, Congress is in the process of considering legislation to preclude loss-harvesting through cryptocurrency sales. Congress is also considering other amendments to the Tax Code and other laws to address cryptocurrency specifically. As this is a rapidly developing issue, it is critical that you consult with a tax attorney or other professional about your specific situation and the current state of the law before making any transactions or business decisions.
More than half-way through 2021, cryptocurrency remains an extremely popular investment. Although volatile and subject to unpredictable regulation (yes, that means China), the market has experienced substantial growth. Exchanges like Coinbase and integration with PayPal make owning, trading, and speculating in cryptocurrency easy. Sophisticated investors have even added cryptocurrency into their self-directed retirement portfolios, banking on the continued growth and popularity of the decentralized exchange medium.
As I have previously written, the IRS is keeping a close eye on cryptocurrency investors, transactions, and markets, looking to capture taxes on hundreds of millions in underreported or unreported income. In other words, crypto taxes are going to be an issue for many in the coming tax years, especially after the Biden administration’s mandatory $10,000 or more transaction reporting rule goes into effect in 2023. However, with proper planning and strategy, there are ways to reduce your tax liability even if you are planning to liquidate your crypto positions in the near term.
As a basic matter, know that the IRS classifies cryptocurrency as “property,” which means that it is subject to capital gains tax. General capital gains reduction strategies work for cryptocurrency as well as they do for more traditional property like investment real estate, stocks, and bonds. For instance, waiting at least 365 days to sell lets you take advantage of the lower long-term capital gains tax rate. Selling in a lower income year where your overall income puts you in a lower tax bracket is another strategy.
One advanced tax strategy involves taking advantage of the so-called wash sale rule. Or rather, it is taking advantage of the fact that the wash sale rules does not apply to cryptocurrencies (yet). Under Treasury Regulation 26 CFR 1.1091-1, an investor cannot sell “stock or securities” at a loss, use the loss to reduce taxable income, and then immediately repurchase the stock or security. Under the wash sale rule, there is a 30-day waiting period before purchasing the same or substantially the same stock or security – if an investor repurchases the security within the 30-day restricted period, the loss will be added to the cost basis of the repurchased security and reduce capital gains on the sale of the repurchased security, but it will not be treated as an investment loss to reduce general tax basis. In other words, you cannot manufacture losses in a bear market to reduce your taxable income that you receive from other investments, rentals, or wages.
The IRS has been clear that cryptocurrency is treated as “property” for tax purposes. However, whether it is a “stock or security” remains unanswered and both IRS Notice 2014-21 and the recently amended FAQ are silent on the issue. There is no express definition of “stock or securities” for the purposes of the wash sale rule. Looking elsewhere in the Internal Revenue Code, the definitions of stock and securities in various other sections include traditional shares, notes, bonds, and the like. Indeed, in 1988 the United States Tax Court adopted a narrow interpretation of the Code, holding that stock options were not considered “stock or securities.” Gantner v. Commissioner (91 T.C. 713 (1988). Congress responded by amending the wash sale rule to expressly include stock options, but still did not enact a definition of “securities” for the purpose of the rule.
Based on the current Code and Regulations and the lack of IRS guidance on the issue, there is a strong argument that cryptocurrencies are not “stock or securities” for the purposes of the wash sale rule. What this means is that crypto investors can take advantage of loss harvesting to accrue losses and use those losses to offset income. For example, if you buy one Bitcoin for $30,000 and the next day the price drops to $20,000, you can sell the Bitcoin at a loss of $10,000, “harvest” the loss, and repurchase the Bitcoin for $20,000 shortly thereafter. You still own 1 Bitcoin, but now you have accumulated a loss that you can use to offset capital gains income.
If your losses exceed capital gains, you can use up to $3,000 of loss to reduce regular income. Any excess loss can be carried over to future years to offset future gains.
At the same time, the Securities and Exchange Commission (“SEC”), the Commodities Futures Trading Commission (“CFTC”), and certain United States courts have ruled that cryptocurrencies are indeed “securities” within those Commissions’ regulatory scope. This regulatory effort was generally to stem the fraud and abuse through “initial coin offerings” or ICOs that sought to evade strict regulations designed to protect investors. While there is currently no indication that the IRS would consider cryptocurrency as “stocks or securities,” there is precedent for that conclusion from these other agencies and remains possible that the IRS could issue supplemental guidance and interpretations to that effect.
At the time of this writing, the IRS has not issued any such interpretation and savvy investors can consider the loss harvesting strategy if appropriate for their particular situation. As with all cryptocurrency transactions, good record keeping is paramount. It is especially critical to have accurate records to substantiate your losses if you are repurchasing the same crypto. Good and accurate records are the best tool in defending your position to the IRS, should the IRS take a position and disallow your claimed losses.
Contact Dan Artaev by email or call or text to set up your initial consultation.
Disclaimer: This guide is for general informational and promotional purposes only. Nothing herein constitutes legal, investment, or tax advice. Every situation is different and faces its own unique set of challenges. Do not take any action or sign any contract until you have obtained specific guidance from a qualified professional.
Previously, I wrote about the legality of skill-based real-money gaming in the United States. But the U.S. is not the only country where skill-based games are popular – real money competition is huge all over the world. For example, in India, skill-based gaming is not only a popular source of entertainment, but is also becoming a way to make a living. According to Ronaldo Landers, the CEO of the All India Gaming Federation, smartphone gaming has been the most significant contributor to the growth of real-money skill game business in India. That market alone is expected to gross close to $1 billion in revenue by 2025. Market studies currently estimate 350 million gamers in India and have reported a 21% increase in transaction-based gaming, with consistent growth expected in the near term.
Despite the worldwide popularity of skill-based gaming, legal compliance remains a challenge. The law is obviously different in each country and whether skill-based money games are legal depends on where you are. Sometimes there is no uniform national approach – both the United States and India regulate gaming on a regionalized state level. In India, each state has the power to make its own betting and gambling laws, which has led to a patchwork of legislation and judicial decisions. For example, Andhra Pradesh and Telangana have banned all real-money games (whether gambling or skill based), Tamil Nadu permits skill games only, and Kerala has expressly banned real-money online rummy. The lack of national principles and regulations has even resulted in conflicting judicial decisions about whether poker is a skill-based or chance-based gambling game. The Gujarat and Bombay High Courts have determined that poker is a game of chance – while at the same time the Karnataka High Court has reached the opposite conclusion. To add to the confusion, the Supreme Court of India has opined that rummy is a skill game except if played for real-money stakes or if operators make a profit.
In Europe, gambling is generally governed on a national level. This means that each country has their own set of laws that define and regulate gambling. Skill-based games that fall outside the definition of gambling are permitted. For example, one popular skill-game platform active in the European Union only offers real money cash gaming in Austria, Belgium, Cyprus, Czech Republic, Denmark, Germany, Luxembourg, Monaco, Netherlands, Romania, Spain, and Sweden. However, players located in France, Portugal, Italy, etc., are restricted to play for virtual “play” money only. All countries either regulate or outright prohibit gambling, so the question comes down to whether a particular skill-based game falls within that country’s definition of “gambling.” That question can only be answered by careful application of the particular country’s laws to the specific characteristics of the game.
What about cross-border play? Can a company based in the United States, India, or Germany offer games between players in different countries? It depends on where the players are located. In the United States, federal law does not prohibit skill-based real-money gaming. The most significant legislation – the Unlawful Internet Gambling Enforcement Act of 2006 – restricts financial transactions associated with “betting or wagering” if the “betting or wagering” is illegal where it is initiated or received. The UIGEA does not apply to most skill-based games, which are not a “game subject to chance.” But even if it involved a “bet or wager,” skill-based gaming is not unlawful in the majority of the states in the United States. So long as the bet or wager is legal in the state where it originates and in the state or country where it s received, there is no federal prohibition on the activity.
From a practical perspective, most skill-based gaming companies put the onus on the players to determine whether real-money skill-based gaming is legal in their particular jurisdiction. This is especially the case with non-U.S. based players – the terms and conditions require the end users to do their own due diligence. Of course, before a company can offer its skill-based game on a different country’s Apple App Store, the company will have to comply with that country’s specific terms and requirements. For instance, there may be geo-restriction or geo-location requirements. It is also likely that Apple (or Facebook for advertising purposes) will require a legal opinion about the legality of the game in the host country as well as the other countries where competitors are located.
Cross-border competition can be especially attractive to players looking to compete against friends and family located abroad. Gaming plays an important part in many cultures and increased accessibility through the internet and mobile app gaming presents opportunities for users to enjoy real-money gaming no matter where they are actually located. Whether celebrating the lunar new year through some fun family games or simply challenging your cousin to a $5 game of 8-ball, skill-based money games are a growing, popular market and business opportunity all over the world.
Have more questions? Need an expert legal opinion? Need help getting your app through the Facebook, Apple, or Google review process? Contact Dan Artaev today by emailing dan@artaevatlaw.com or by phone or text at (269) 930-0254.
Disclaimer: This guide is not intended to be and does not constitute legal advice. It is for informative and promotional purposes only. Do not take any action or refrain from taking any action based on this guide, and always consult with a qualified professional about the circumstances of your particular case. Each set of facts is unique and different circumstances apply to each individual business.
The skill-based real-money gaming market is red hot in the United States, fueled in large part by the ubiquity of smart phones. We all play games on our phones and real-money gaming provides a quick, fun way to win some money for casual players. The games are not difficult to learn, offer free practice play, and have varied stakes to suit almost any level of risk tolerance. Full-scale casino apps are only available in a handful of states that have legalized full-scale online gambling, and while daily fantasy sports is more widely available, its appeal is limited. On the other hand, real-money skill-based games are available in most states. The preferred medium is the mobile app – as there are an estimated 222 million smart phones in the United States, split about 55% Android and 45% iOS. However, only Apple’s App Store offers skill-based real-money apps. Google’s Play store does not.
On March 1, 2021, Google changed its policies to allow “real-money gambling apps.” This definition expressly refers to licensed gambling products, meaning online casino apps for the few jurisdictions that have legalized online gambling. Google also allows daily fantasy sports apps that meet certain requirements. At the same time, Google expressly excludes any type of real-money skill gaming. Specifically, “we don’t allow content or services that enable or facilitate users’ ability to wager, take, or participate using real money…to obtain a prize of real monetary value. ” Critics have pointed to the fact that this encourages “sideloading,” (downloading the app through a website, as opposed to the official app store) which presents potential security risks and opens the door for true scams. Google’s policy also makes it more difficult for international companies to enter the U.S. skill-based market, as consumers may be even more reluctant to “sideload” an app from a foreign website, even if they would otherwise get the app through the Google Play store. At the same time, Google’s position is explained by the lack of clear regulation for real-money skill-based gaming. Google clearly does not want to police or vet the various iterations of skill-based games or review them for state-specific legality. Instead, it is relying on state licensing to authorize real money gaming. This position excludes most real-money games that are neither licensed nor regulated under most states’ laws.
Apple’s App Store Review Guidelines remain the same. “Apps that offer real money gaming…must have necessary licensing and permission in the location where the app is used, must be geo-restricted to those locations.” For real-money skill-based games that do not need a special license in about 80% of the United States (because they do not depend on “chance” and are not otherwise regulated), this is a green light to make their apps available on the App Store. There are many such games available in the App Store, including hundreds of titles offered through the Skillz.com platform, which is a large California-based, publicly-traded company. For the time being, Apple seems comfortable with hosting real-money skill-based gaming, so long as the developers comply with the geolocation requirements and are only operating in those states where a license is not required.
Developers looking to distribute their games in the United States should look toward iOS for the time being. The legitimacy of “official” app store distribution is especially valuable in the real-money gaming market. Note that Apple still requires “geo-restricting” to those jurisdictions where the app is legal. Federal law does not regulate most skill-based real-money gaming, but the state-level analysis remains unsettled. In fact, even the large industry participants like Skillz, WorldWinner, and others cannot agree on a uniform list of states where their products are legal. In other words, if you are operating unregulated and without a license, you must absolutely consult with a legal expert and determine your risk tolerance before defining your geolocation parameters.
Have more questions? Do you need help getting your app through the review process? Contact Dan Artaev today by emailing dan@artaevatlaw.com or by phone or text at (269) 930-0254.
Disclaimer: This guide is not intended to be and does not constitute legal advice. It is for informative and promotional purposes only. Do not take any action or refrain from taking any action based on this guide, and always consult with a qualified professional about the circumstances of your particular case. Each set of facts is unique and different circumstances apply to each individual business.
In 2021, there are many opportunities to play games for real money online, even if your particular state does not offer full-scale online casino operations. Daily Fantasy Sports (or “DFS”) is one hugely popular entertainment option. Real-money pure-skill contests are another. Video game tournaments, leaderboards, and prize pools are also available, as well as countless other options. Entrepreneurs all over the world want to enter the red-hot United States gaming market, but need to understand the legal nuances in order to effectively distribute their product and avoid legal issues with regulators, banks, and app platforms like the Apple App Store.
With skill-based games, it is important whether your game is more like fantasy sports or whether it a pure-skill contest. This distinction is critical because it determines where your game is legal (and whether you need a license) – and also affects your tax obligations to the IRS.
The following chart illustrates the three categories of games and the applicable regulations:
Description/type of game
Category
Regulations
Players determine the amount of the wager and may apply certain level of skill to increase odds of winning (like hit or stay in blackjack), but odds always against the player. Winner is determined primarily by chance or chance is the dominant factor in determining outcome. Game is similar to a casino game like slots, blackjack, keno, or bingo. Game is a poker-like game. Game features a random mechanism, like a shuffled deck of cards, roll of the dice, or a spinning wheel. Bet is on the result of a single athletic competition, event, or performance of a single player.
Gambling
Highly regulated, illegal and criminalized activity (without a license)in all 50 states. Federal law also applies, including the monetary transaction restrictions through the Unlawful Internet Gambling Enforcement Act (“UIGEA”).
Players pay an entry fee, and then use research, data analysis, or other skill to build a team or portfolio to compete against other player-chosen teams or portfolios. Points or scores assigned based on real-life performance. Player does not control the performance of the players, stocks, currencies, or other portfolio components. Real-world events determine outcome. Similar to fantasy sports or a fantasy league. Prize pool must be known and fixed ahead of time.
Fantasy
Fantasy sports are expressly excluded from the scope of the UIGEA. Fantasy sports and leagues are permitted in about 80% of the states, but license and revenue tax is required in some. IRS views fantasy wagers as gambling bets and no different than sportsbook betting for tax purposes. Potential exposure to excise tax for providers.
Players pay an entry fee into a sports tournament or skill contest for the chance to win a prize (whether cash or otherwise) based on their own participation. Players determine the outcome through pure skill, such as strength, speed, agility, mental knowledge, mental quickness, or other physical or mental factor. Chance has minimal or no role in the outcome. Head-to-head games of timed solitaire, chess, checkers, blockbuster, Tetris-like puzzle games. Trivia contests. Most video game tournaments. Golf or tennis tournaments, hole-in-one contests.
Pure Skill Contest
Unregulated and not considered gambling in about 80% of the states. Regulated pursuant to license or outright prohibited in the remaining states. Not regulated under federal law. The IRS does not consider entry fees or skill wagers to be gambling bets.
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As a gaming company providing a new product, you obviously want to steer clear of classification as a gambling game. Unless you are a licensed casino (or working in partnership with a licensed casino) in one of the few states that have legalized online gambling, real-money gambling games are illegal. Not only do you risk fines and prosecution from state and federal law enforcement, but you will not be able to pass Apple or Google’s app vetting process, advertise on Facebook, or use a mainstream payment processor like PayPal.
Skill-based real money games are those where the outcome is not determined by chance. These games fall either into the “fantasy sports” or “pure skill contest” categories. In either category, the argument is that where chance is not a dominant factor, the game is skill-based and falls outside the definition of regulated “gambling.” Many real-money skill-based gaming platforms have adopted this “if it is not prohibited, then it is legal” approach to offer their products in about 80% of the United States. But there is a difference between the so-called “fantasy sports” and “pure skill contest” categories. The first difference is regulatory – state law treats “fantasy sports” and “pure skill contests” differently.
To fully understand the difference, it is important to know that the “it’s not gambling” argument is not new. In the early 21st century, it was widely used by online poker providers and then daily fantasy sports operators. Recall that between the early 2000s and 2011, Texas Hold’em became huge in the U.S., helped by online pioneers like PokerStars and PartyPoker that allowed anyone to play online poker from anywhere. ESPN was airing the World Series of Poker as part of its routine sports coverage. The 2006 James Bond franchise reboot Casino Royale even focused on high-stakes no-limit hold’em (as opposed to Baccarat in Ian Fleming’s original book treatment).
The primary argument for legality was that poker is a game of skill, not chance, and therefore not gambling. Advocates pointed to the fact that skilled poker players were consistently able to beat their opponents, even though the game did involve the element of chance with a random shuffle of a card deck. In response to growing concern about unregulated real-money poker, a number of courts concluded that chance played a significant role in the outcome and Texas Hold’em is indeed gambling. The federal government took further regulatory action by enacting the Unlawful Internet Gambling Enforcement Act (“UIGEA”). The UIGEA essentially killed off any off-shore poker and other grey-market online gambling operations by targeting U.S. banks and payment providers and prohibiting them from facilitating wagering transactions. Those providers that continued to offer U.S. players real money poker games were shut down through federal law enforcement action on so-called “Black Friday,” April 15, 2011, and their executives charged with a number of felonies, including money laundering and fraud.
Daily Fantasy Sports emerged as an entertainment alternative around 2007 and relied on the same “it’s not gambling” argument as poker. Players would stake real money for a chance to play in a fantasy sports contest, where they would set a daily lineup of their own fantasy team and compete against others for the highest score. The highest score or scores would be awarded cash prizes. DFS relied on the definition of “bet or wager” in the UIGEA that expressly excluded fantasy sports contests. But, just because DFS is not illegal under the federal UIGEA (and MasterCard or Discover can process the associated wagering transaction) does not mean it is automatically legal. Some states concluded outright that DFS is “gambling” and is illegal. Others enacted legislation that DFS is not gambling. And some have done nothing at all. Thus, DFS offerings vary state-by-state: as of the date of this article, DraftKings and FanDuel both offer DFS in 41 of the 50 states. But DFS law is far from settled and remains in a state of flux; for example, in New York, DFS was authorized by the state legislature, but a lawsuit challenging the constitutionality of the law is pending on appeal. Texas is another example – in 2016, the Texas attorney general issued an opinion that DFS is illegal gambling, but both FanDuel and DraftKings continue to offer DFS in Texas pending the final outcome of various lawsuits.
On the other hand, games that are head-to-head contests of pure skill are legal in most states because they fall outside the state’s definition of “gambling.” These games – whether online or in person – allow participants to pay an entry fee and compete for a prize (monetary or otherwise). Even if the game is played on a smartphone, it is no different than paying a fee to play in a money tennis or golf tournament. Or paying an entry fee to participate in an arm wrestling contest at the state fair. In fact, certain states expressly exclude so-called “bona fide contests of strength, skill, or speed” from the definition of gambling, provided that the only persons making the wagers are the participants themselves. But although the analysis seems straightforward, providers of pure-skill contests disagree about where exactly real money games are legal. Various platforms have different lists of “restricted jurisdictions,” demonstrating their different tolerance for risk, and that the law remains unsettled in this area.
The second difference between fantasy and pure skill is tax treatment. Under the Internal Revenue Code, gambling winnings are taxable income, but may be offset by gambling losses. In 2020, the IRS decided that wagers made on DFS constituted a “wagering transaction” (i.e. gambling) under Section 165(d) of the Internal Revenue Code and the Tax Court agreed. This ruling was consistent with another 2020 internal IRS memo that concluded DFS wagers were subject to an excise tax, which is normally applied to wagers made at sportsbooks. The IRS’s analysis and conclusion that DFS is essentially the same as sports gambling has significant legal implications. Not only does it potentially expose DFS providers to millions of dollars in unpaid excise tax liability, but it is also an indicator of how the nature of the game may determine the outcome of “is it gambling” analysis. A game could very well be “gambling” for tax purposes, but at the same time “not gambling” under a state’s definition of “gambling.”
The skill-based gaming market is an attractive, fast-growing industry in the United States. However, it is also plagued by an uncertain legal landscape and inconsistent treatment at the federal and state level. Tax implications are also something to consider when designing your game. Whether you are a start-up or a well-established company looking to introduce a new game product, Artaev at Law can provide you with consulting and legal analysis required to do it right.
Have more questions? Do you need help getting your app through the Apple, Google, or Facebook review process? Contact Dan Artaev today by emailing dan@artaevatlaw.com or by phone or text at (269) 930-0254.
Disclaimer: This guide is not intended to be and does not constitute legal advice. It is for informative and promotional purposes only. Do not take any action or refrain from taking any action based on this guide, and always consult with a qualified professional about the circumstances of your particular case. Each set of facts is unique and different circumstances apply to each individual business.
Important: The information in this article applies to individual investors and LLCs that are taxed as pass-through entities. The rules are different for corporations and LLCs electing to be taxed as a corporation and are not addressed here.This article is for informational and promotional purposes only and, as always, you should consult with a professional about your specific tax situation before taking any action.
2021 is the year of cryptocurrency. Bitcoin and its kin have attracted many institutional investors, smaller individual portfolios, and even some sophisticated self-directed retirement accounts. The accessibility, decentralization, and unlimited upside certainly make cryptocurrency (or crypto) an attractive investment. Or simply a fun way to try to make some extra fun money. Or lose it – the crypto market is extremely volatile and quickly reacts to government action (i.e. China’s ban) and Elon Musk’s tweets or SNL appearances.
Government regulators are watching the crypto markets. The Securities and Exchange Commission (“SEC”) has already applied securities laws to police initial coin offerings and to prosecute Ponzi schemes posing as crypto investments. As early as 2014, the IRS issued guidance (supplemented by a more recent FAQ) classifying cryptocurrency as property for tax purposes. More recently, the Department of Treasury and the IRS have zeroed in on cryptocurrency as a tax revenue source ripe for enforcement. As part of its tax reform plan, the Biden administration announced mandatory reporting of any crypto transaction of $10,000 or more starting in 2023. On May 20, 2021, the Treasury also released a report detailing the plan to close the so-called tax gap, which is the difference between taxed owed and taxes actually paid. In 2019, the gap was $600 million or 15% of all taxes, and is projected to grow to $7 billion in 10 years if left unaddressed. The biggest contributor is unreported income and Treasury and the IRS will be looking very closely at anyone who is trading cryptocurrency in the next few years for any signs of unreported or underreported taxable income.
Why are there taxes on trading crypto and how is crypto even taxed? Despite its name, cryptocurrency is not really currency for tax purposes. It is taxed like property and is subject to capital gains tax. When you purchase crypto with fiat currency (i.e. U.S. Dollars) you do not pay tax on the transaction. Note: States do not consider crypto purchases subject to sales tax – yet. But when you sell crypto, you are taxed on the gain (if any) just like you would be if you sold a stock or investment real estate. The tax rate depends on the length of time you held the asset and other factors related to your income status. Importantly, when you exchange one cryptocurrency for another (for example, you trade Bitcoin for Ethereum) the exchange is taxable. The IRS considers an exchange to be a sale of one asset for cash – income – regardless of what you do with the proceeds. Accordingly, it is critical to keep accurate and clear records of every transaction involving cryptocurrency, regardless of gain or loss. Interestingly, while the IRS considers cryptocurrency “property,” it does not consider it “securities” and therefore investors can take advantage of certain tax benefits. Specifically, crypto investors can do something called “loss harvesting” to offset taxable income from other sources.
How does the IRS verify income from crypto trading? In 2020, the IRS asked taxpayers about their participation in any cryptocurrency transactions as part of their 1040 filing. In large part, the tax system is based on self-reporting, but with third party verification checks. Bigger exchanges like Coinbase report your transaction history to the IRS and you should have received a copy of the 1099-MISC for tax year 2020. The IRS will then flag any returns that do not match the information received from the exchange and what the taxpayer puts on their return. Off-brand or off-shore exchanges may not report to the IRS, but you still have to report those transactions yourself and pay tax on any gains. As mentioned above, the Biden administration is cracking down on underreporting of taxable crypto income. This means expect to see significant and highly-publicized enforcement actions, including penalties, interest, and even jail time for tax evaders. If you do use an off-shore crypto exchange, you should also be aware of your tax obligations in the host country. The United States has tax treaties with many (but not all) countries – for example, while there is a treaty with mainland China, the treaty does not apply to Hong Kong and there is no separate treaty with Hong Kong. International tax law will also come into play if buy and sell crypto abroad or exchange it for goods or services in other countries.
What about NFTs? Non-fungible tokens or NFTs are unique digital-only objects or unique digital versions of real-world objects. This is basically computer code. Mostly associated with collectibles and art, NFTs use blockchain technology like cryptocurrency but can represent almost anything, including virtual real estate and personalized avatars. The IRS has not issued definitive guidance on how NFTs will be taxed, but most commentators agree that they will probably be considered property like cryptocurrency and be subject to capital gains tax. If you buy an NFT for U.S. Dollars, you do not pay tax on that transaction. If you sell an NFT for a profit, you just incurred capital gains tax liability, even if you are exchanging an NFT for another NFT or trading it for cryptocurrency. If you are buying an NFT with cryptocurrency, the purchase will also be subject to capital gains tax, as the IRS treats the transaction as a sale of an asset (cryptocurrency), income, and then use of that income to purchase the NFT. Currently, there are no tax exemptions or safe-harbor periods that allow traders avoid capital gains tax on exchange type transactions.
An additional question with NFTs is whether the tax rate will change based on what the NFTs represents. Is it a collectible piece of art? Then there is a special collectibles tax rate. Is it real estate? Something else? There are a lot of unanswered questions about NFT taxes at this time. But like with cryptocurrency trading, make sure to keep meticulous records of all transactions, including any gains or losses on sales.
A final item of note – estimated quarterly tax payments. The IRS (and state tax authorities) require the payment of estimated quarterly taxes from self-employed individuals or independent contractors. If you buy and sell crypto (and NFTs) make sure you are reporting and paying expected capital gains tax before the due date for payments that apply to the quarter of the sale. If you wait until the end of the year to pay taxes, you may be subject to penalties and interest for failing to pay quarterly. Additionally, you may have to liquidate other investments to pay taxes, instead of simply setting aside the capital gains estimate at the time of the original sale.
In short, if you are investing and trading crypto or NFTs, keep good records. Pay attention to any new guidance issued by the IRS. Beware false or misleading information on the internet. And above all, retain a trusted advisor to answer your questions and guide you through your tax obligations in this evolving field.
Contact Dan Artaev by email or call or text to set up your initial consultation.
Disclaimer: This guide is for general informational and promotional purposes only. Nothing herein constitutes legal, investment, or tax advice. Every situation is different and faces its own unique set of challenges. Do not take any action or sign any contract until you have obtained specific guidance from a qualified professional.
Artaev at Law advises companies looking to launch new technologies and tap into the skill-based real-money game market in the United States. In keeping up with the latest legal and regulatory trends, we do a lot of research, and we have seen a lot of misleading and downright false information on the internet. Do not be deceived and get the facts backed up by legal analysis – Artaev at Law is the trusted, experienced, and accurate source to answer your questions and dispel the most common myths about real-money skill gaming.
1. MYTH: Online gambling games are the same as “real-money games of skill.”
FACT: No. Words matter. “Gambling” is term of art used in state laws across the United States to define heavily-regulated casino-type activities, usually with reference to an element of “chance.” Federal laws like the Unlawful Internet Gambling Enforcement Act (“UIGEA”) also regulate and prohibit banking institutions from facilitating unlawful gambling. But paying an entry fee to a cash-prize tournament or wagering on yourself in a head-to-head contest is not the same thing as “gambling.” These real-money games of skill rely on the relative skill of the players to determine the outcome and do not involve any element of chance, so they cannot be considered “gambling,” which has a specific definition under the law. I have even seen other law firm websites make this mistake and misuse the term “gambling” to refer to anything that involves the wagering of real money. There are also a lot of questionable websites that attempt to equate online casinos to video games or pure-skill games in an attempt to confuse and generate clicks and get people to transfer money to off-shore operations. Do not be deceived – and contact a knowledgeable lawyer if you have questions.
2. MYTH: States only regulate “games of chance” and if the real-money game does not involve “chance,” the game is automatically legal everywhere.
FACT: No. There are 50 states in the United States and each one of them has their own laws that regulate gambling. Each state has its own definition of “gambling” and what exactly is and is not allowed depends on the nature of the game offered, as well as specific regulations. Some states specifically allow participants to wager real money on “bona fide contests of skill.” Others prohibit wagering any real money on any game, even if chance is not involved. Note that wagering on the play of others, even if they are involved in a contest of skill, is prohibited as gambling. After all, that is how sportsbooks work – wagering on the competition of others. This is a constantly evolving regulatory area – the major real-money gaming websites themselves disagree where to offer real-money gaming – some offer cash games in 45 states, others in 41, others in 35, etc. Whether your particular game is legal (and where) is a case-by-case analysis that requires an up-to-date legal opinion.
3. MYTH: Real-money games of skill are those shifty-looking slot machines that you see at truck stops or those internet cafes that offer sweepstake games.
FACT: No. Those slot machine looking things are in fact slot machines (with some extra features added to attempt to claim that they involve “skill”) and internet cafes try to disguise game of chance gambling as sweepstakes. Law enforcement in many states have used existing gambling laws to shut down these establishments. Real-money games of skill are in fact played predominantly on mobile devices or computers at home. They are nothing like slot machines or sweepstakes and allow players to compete head-to-head for real cash prizes. There are card based games (like Solitaire that awards points based on speed to completion), bubble shooter games, Tetris clones, knife throwing games, and many others. The head-to-head (or tournament) contests are more akin to entering a pool tournament for a chance to win a cash prize, rather than any sort of randomized game of chance.
4. MYTH: Skill games or are just a different type of gambling video game that Las Vegas using to try to appeal to Millennials who are not interested in the traditional casino games.
FACT: No. Skill-based real-money gaming is not something that involves or depends on land-based casinos. While the regulatory bodies in states like Nevada and New Jersey did adopt regulations to encourage a new type of slot machine that involves an element of skill, there is no indication that these types of machines enjoy any sort of popularity. Like many other forms of entertainment in 2021, skill-based real-money games are based online. Advanced internet and mobile phone technology and accessibility is making these games an especially lucrative business.
5. MYTH: There are no legal implications for organizing or running a real-money video game tournament (FIFA, Tekken, Magic: The Gathering, etc.) because the outcome depends on the skill of the players.
FACT: No. There are two distinct problems with this assumption. One, is that legality depends on the nature of the game being played. Is there an element of chance? This could be determined by not only the nature of the game, but how the match-making or team selection function works. If chance is present, how much, and does it predominate over the skill element? That will determine whether the particular game passes the state-level “gambling” test. Two, there are intellectual property issues. The game studios own copyright and trademark rights in their games and do not endorse third party websites that enable real-money wagering on their games. Studios like Epic Games have publicly announced their view that these websites are misappropriating their intellectual property, and legal action is likely forthcoming.
Skill-based real-money gaming is an exciting and emerging form of entertainment worldwide. But there is a lot of misinformation online. The regulatory landscape is always changing, and Artaev at Law are the experts on the facts, trends, and the law about real-money skill-based (or pure-skill) gaming.
Contact Dan Artaev by email or call or text to set up your initial consultation.
Disclaimer: This guide is for general informational and promotional purposes only. Nothing herein constitutes legal, investment, or tax advice. Every situation is different and faces its own unique set of challenges. Do not take any action or sign any contract until you have obtained specific guidance from a qualified professional.
