The Lottery's First Year

Family North Carolina Magazine—Nov/Dec 2007

by David N. Bass

The North Carolina lottery marked the end of its first fiscal year of operation on June 30, 2007, closing out a roller coaster 12-month period of state-sponsored gambling. The lottery may be up and running, but the debate over whether it is a good idea for the Tar Heel State continues. The lottery has been plagued by scandal, raising serious ethical questions about the revenue-raising scheme. Policymakers and citizens alike continue to ask questions about lower than projected lottery revenues, whether lottery proceeds are supplementing or supplanting funds already devoted to education, what types of games are allowed, what forms of advertising are being employed, and a host of other issues. All the while, a lawsuit challenging the constitutionality of the legislation that established the lottery is still pending in North Carolina’s appellate court.

This article will examine some key issues that have arisen during the lottery’s first fiscal year and take a look at how the numbers game has affected our state.

Scandal
Ethical controversies have plagued the lottery since its inception. In addition to questions over the legality of how the General Assembly passed the lottery bill in 2005, several individuals connected with the lottery have been convicted of criminal charges during the past year.

Former Speaker of the North Carolina House Jim Black served as the focal point of state and federal investigations into political corruption. Much of these investigations centered around the lottery, the video poker industry, political activities of an association of chiropractors, and Black’s own efforts to stay in power. Black served four terms as Speaker before resigning from the House in February 2007 and pleading guilty to a federal bribery charge involving campaign contributions from chiropractors. Black, who was instrumental in gaining passage of lottery legislation, was fined $50,000 and sentenced to five years and three months in prison under the federal charges. In August, a Wake County Superior Court Judge fined Black $1 million on state charges of bribing former House Representative Michael Decker to switch his party affiliation from Republican to Democrat and support Black for Speaker in 2003. Decker was sentenced to four years in prison, two years probation, and a $50,000 fine for his role in the scandal.

Shortly after the lottery passed in 2005, Black appointed Kevin Geddings, a political and public relations consultant from Charlotte, as one of the original members of the State Lottery Commission. Geddings resigned from the Commission in November 2005 after facing criticism for his relationship with Scientific Games, one of two corporations that vied for the contract to operate North Carolina’s lottery. Subsequently, a federal grand jury indicted Geddings for failing to include on his state ethics disclosure form payments from Scientific Games totaling over $225,000 that he received over a five-year period. Geddings was convicted on five counts of mail fraud and sentenced in May 2007 to four years in prison and two years probation, plus a $25,000 fine.

In October 2006, Alan Middleton, a former vice president of Scientific Games, was found guilty of violating state lobbying laws. In a similar determination two months earlier, Meredith Norris, former political advisor to Black, also was convicted of a misdemeanor charge for failing to register as a lobbyist while on the payroll of Scientific Games. Both were banned from lobbying for two years.

The Games
Lottery tickets went on sale in North Carolina on March 30, 2006. Four instant scratch-off games were initially offered, with prizes as high as $100,000.1 Since then, the lottery has introduced over 75 scratch-off games, many of them designed after typical gambling themes like bingo, blackjack, and roulette, while others are associated with sports teams and organizations, including NASCAR and the Carolina Hurricanes. Still others are themed after holidays like Christmas and Valentine’s Day. The cost of scratch-off tickets varies from $1 to $10, and prizes now range from $500 to $250,000.2

On May 30, 2006, North Carolina joined the multi-state Powerball lottery game, which is a pari-mutuel wagering game in which players attempt to match five numbers (each ranging from 1 through 55) in any order, plus one red Powerball number (ranging from 1 through 42) in order to win the jackpot. If no one claims the jackpot, the pot continues to grow until a player or players match the six numbers. The odds of hitting the jackpot are 1 in 146 million.3

In October 2006, lottery officials introduced two new game formats—Carolina Pick 3 and Carolina Cash 5.4 In Carolina Pick 3, players participate in a drawing by choosing (or having a computer randomly select) a three-digit number between 000 and 999. Prizes range from $40 to $500, and the odds of winning the jackpot are 1 in 1,000.5 Carolina Cash 5, like Powerball, is a pari-mutuel numbers game where players select (or have a computer randomly select) five numbers each ranging from 1 to 39. A player beating the odds of 1 in 575,757 and winning the jackpot will claim approximately 55 percent of the overall pot, which continues to grow until won.6

In the summer of 2007, the North Carolina lottery conducted the “Sizzlin’ Millionaire Raffle.” In contrast to other types of lottery games, the raffle consisted of printing and selling a limited number of tickets, costing $20 each. A drawing was held on July 4, and prizes ranged from $1,000 (odds of 1 in 1,000) to $1 million (odds of 1 in 125,000).7

In addition to constantly launching new tickets and game formats in an effort to boost lagging ticket sales, the North Carolina lottery introduced in early April 2007 lottery ticket vending machines. A total of 500 machines were distributed to retail outlets across the state, mostly in grocery stores, offering scratch-off tickets for 24 different games ranging in price from $1 to $10. The machines reportedly come equipped with a remote control that enables store employees to shut down the machine if they believe a minor is attempting to illegally purchase tickets. The Raleigh News & Observer reported in January 2007 that North Carolina had around 5,800 outlets selling lottery tickets.8

Revenue Shortfall
Despite continued efforts to keep lottery games “fresh” and to make them appeal to a larger audience by offering a growing diversity of games and prizes, the most heavily reported aspect of the lottery over the last few months has been its revenue shortfall. During the state’s 2006-07 fiscal year, the numbers game generated $313 million in net revenue for education out of $889.3 million in total gross sales. These numbers fell 25 percent below the General Assembly’s budgeted estimate of $1.2 billion in total sales and $425 million in net revenues for 2006-07.9 State lawmakers responded in the 2007-2008 budget by downgrading the amount of projected net revenue to $350 million.10

Earlier in the year, Governor Mike Easley proposed a plan to curb lottery revenue shortfalls by increasing prize payouts and reducing the overall percentage earmarked for education programs. Easley argued that his plan would inevitably result in more net funds for public schools because the higher prize payouts would entice more people to participate in the lottery and thus boost overall ticket sales.11 Lawmakers rejected this idea but did insert a provision into the 2007-08 budget that allows the State Lottery Commission to alter the lottery’s payout structure.12

Education Funding
The on-going debate over lottery revenue brings up another point of contention—where the lottery revenue earmarked for education actually goes. Current law requires that 50 percent of gross lottery revenue is returned as prizes, 35 percent is earmarked for educational programs, and the remaining 15 percent is used to cover administrative costs. Of the 35 percent devoted to education, 50 percent goes to fund the More at Four pre-kindergarten program for at-risk four-year-olds and reducing class size in public schools, 40 percent is sent to local school systems for school construction, and 10 percent funds college scholarships for eligible low income students.

Of the net revenues dedicated to school construction, 65 percent is distributed on an “average daily membership” (ADM) basis, determined by the average number of students in a given school system, and the remaining 35 percent is allocated among the counties in the state that have an effective tax rate that is higher than the state average. Some lawmakers have argued that the school construction funding formula is unfair, because all 100 counties share in the 65 percent distributed by ADM, but only half divide the remaining 35 percent. Several bills were filed in 2007 to change the formula, but none were approved.13

Supplanting
Concerns have also been raised over lottery funds supplanting rather than supplementing monies already included in the education budget. In February 2006, before the first lottery ticket was even sold, Governor Easley announced plans to use lottery dollars to completely replace existing funding in the budget for More at Four and reducing class size.14 This is exactly what the General Assembly did in the budget that year, but it is unclear where the funds previously allocated from the general fund budget for these programs went.

Taxing the Poor
Research indicates that poorer players are more likely to participate in government-run lotteries and spend a higher percentage of their income than wealthier players, and that observation appears to hold true for North Carolina. An analysis by the Fayetteville Observer released two weeks after tickets first went on sale concluded that residents in 12 of the poorest counties in the state were among the highest per capita spenders on the lottery.15

A similar analysis by the John Locke Foundation found that economically depressed counties with high property tax rates are spending more on the lottery. Using county-by-county lottery sales from March 2006 through February 2007, the report found that the ten counties that spent the most on the lottery had an average unemployment rate in 2006 of 6.2 percent, average property tax rates of 79 cents per hundred dollars of property value, and a poverty rate of 17.7 percent in 2004. That’s compared to the state average of 5.1 percent unemployment, property tax rate of 66 cents per hundred dollars of property value, and 13.8 percent poverty rate.16

Advertising
At least somewhat concerned that the lottery would increase the number of compulsive gamblers in the state, lawmakers placed several restrictions in the Lottery Act on the forms of advertising the Lottery Commission could authorize, including prohibiting advertising that has as its main purpose the aim of “inducing” persons to play.17 The Act also requires the Commission to spend no more than one percent of annual revenues on advertising and dedicates $1 million a year for services to gambling addicts.

A bill introduced in 2007 proposed to ban lottery advertising at high school and collegiate sporting events, but the “collegiate” portion was removed before it passed the House, and the Senate did not take up the measure for consideration.18 The issue, however, came to the attention of University of North Carolina President Erskine Bowles, who issued a memo to the chancellors of North Carolina’s 16 public universities on May 24, 2007, calling for an end to lottery advertising at UNC collegiate athletic events.19

Lottery Lawsuit
In the backdrop of all this activity looms a lawsuit filed on behalf of nine plaintiffs, including the North Carolina Family Policy Council, seeking to have the bill that authorized the lottery declared unconstitutional. The plaintiffs argue that the manner in which the lottery measure passed the General Assembly violated the State Constitution. The lawsuit was originally filed on December 15, 2005, just over three months after lawmakers approved the Lottery Act. On March 21, 2006, N.C. Superior Court Judge Henry Hight upheld the Lottery Act as constitutional. The plaintiffs then appealed the ruling, and on May 22, 2007, a three-judge panel of the N.C. Court of Appeals heard the case. A ruling has yet to be released, but if the Appeals Court or the State Supreme Court determine the lottery was passed in an unconstitutional manner, the entire Lottery Act should be ruled null and void. If this occurs, the North Carolina General Assembly would have the opportunity to reconsider the enactment of the lottery with firsthand knowledge of its negative impact.

David N. Bass is a research associate with the North Carolina Family Policy Council.

ENDNOTES

1. North Carolina Education Lottery. “Education Lottery Gives Glimpse of First Tickets,” news release, March 9, 2006.

2. North Carolina Education Lottery. “Instant Games.” Available online at:
http://www.nc-educationlottery.org/instant_games.aspx

3. North Carolina Education Lottery. “Powerball.” Available online at:
http://www.nc-educationlottery.org/powerball.aspx

4. North Carolina Education Lottery. “Lottery Transfers $95 Million to Education Lottery Fund,” news release, October 19, 2006.

5. North Carolina Education Lottery. “Carolina Pick 3.” Available online at:
http://www.nc-educationlottery.org/pick3.aspx

6. North Carolina Education Lottery. “Carolina Cash 5.” Available online at:
http://www.nc-educationlottery.org/cash5.aspx

7. North Carolina Education Lottery. “Sizzlin’ Millionaire Raffle Tickets Go On Sale Friday,” news release, May 9, 2007.

8. Raleigh News & Observer. “Tar Heels Don’t Have Lottery Fever.” January 28, 2007. Available online at:
http://www.newsobserver.com/656/story/537180.html

9. Senate Bill 1741—Modify Appropriations Act of 2005. Available online at:
http://www.ncleg.net/gascripts/BillLookUp/BillLookUp.pl?Session=2005&BillID=s1741

10. House Bill 1473—2007 Appropriations Act. Available online at:
http://www.ncleg.net/gascripts/BillLookUp/BillLookUp.pl?Session=2007&BillID=h1473

11. Raleigh News & Observer. “Easley Vows to Perk Up Lottery.” April 8, 2007. Available online at:
http://www.newsobserver.com/656/story/562100.html

12. Op. Cit., House Bill 1473.

13. House Bill 9—School Capital Fund Formula/Lottery Proceeds; House Bill 175—School Capital Fund Formula/Lottery Proceeds; House Bill 342—Lottery School Capital Fund Formula; and Senate Bill 2—Lottery School Capital Fund Formula.

14. Raleigh News & Observer. “Lottery Not Just For Schools.” February 14, 2006. Available online at:
http://www.newsobserver.com/114/story/400008.html

15. Greensboro News & Record. “Lottery Ticket Sales Highest in N.C.’s Poor Counties.” April 11, 2006. Available online at:
http://www.news-record.com/apps/pbcs.dll/article?AID=/20060411/NEWSREC0101/60411016

16. The John Locke Foundation. “Poor Counties Play Lottery More,” March 28, 2007. Available online at:
http://www.johnlocke.org/articles/display_story.html?id=3973

17. House Bill 1023—North Carolina State Lottery Act. Available online at:
http://www.ncleg.net/gascripts/BillLookUp/BillLookUp.pl?Session=2005&BillID=h1023

18. House Bill 461—Lottery Advertising Compliance Act. Available online at:
http://www.ncleg.net/gascripts/BillLookUp/BillLookUp.pl?Session=2007&BillID=h461

19. Bowles, Erskine B. The University of North Carolina. “Memorandum.” May 24, 2007.