What Do You Need to Know about Oklahoma’s New Education Lottery?
By Armand Paliotta and Susan B. Shields

In April 2003, the Oklahoma legislature passed House Bill 1278, which created the Oklahoma Education Lottery Act and ordered a legislative referendum pursuant to the Oklahoma constitution. The act, which was State Question 705 on the Nov. 2, 2004 general election ballot, was approved 928,303 to 507,021.1

Even though the act became effective when it was approved at the November 2004 election,2 one would expect a period of approximately 12 to 18 months until the first lottery tickets are sold in Oklahoma, as time will be needed to create the Oklahoma Lottery Commission and the extensive infrastructure needed to sell lottery tickets and administer lottery winnings. This article will summarize the act and offer some guidelines for assisting clients who will be impacted by the act.

OKLAHOMA LOTTERY COMMISSION

The act creates an Oklahoma Lottery Commission to oversee all aspects of the lottery process in Oklahoma.3 The commission will be governed by a board of trustees composed of seven members to be appointed by the governor with the advice and consent of the Senate.4 No more than two members of the board may be appointed from any single congressional district.5 At least one member of the board must be engaged in the practice of law, at least one member must be engaged in the practice of accounting, and at least one member must have experience in marketing.6 The board is required to appoint and provide for the compensation of an executive director who will direct the day-to-day operations of management of the commission.7

The board is also required to 1) approve, disapprove, amend or modify the budget recommended by the executive director for the operation of the commission; 2) approve, disapprove, amend, or modify the terms of certain lottery procurements recommended by the executive director; 3) hear appeals of hearings required by the act; 4) promulgate rules relating to the conduct of “lottery games;” and 5) perform such other functions as specified by the act.8 Meetings of the board will be subject to the Oklahoma Open Meeting Act.9

“Lottery games” are defined in the act as activities through which prizes are awarded or distributed by chance including, but not limited to, instant tickets and on-line games (i.e., games where tickets are purchased on a computer at a retail outlet).10 The definition of “lottery games” specifically excludes certain activities from the definition (meaning, these games would not be permitted by the act), such as charity bingo, poker, blackjack, slot machines, pulltab machines, card games, dice, dominos, roulette wheels or other similar forms of gambling, as well as electronic or video forms of those gambling activities.11 Interestingly, an earlier version of House Bill 1278 would have permitted “lottery games” through on-line, video, electronic or mechanical means. The version of House Bill 1278 that was ultimately passed by the Legislature, however, was revised to make it clear that those types of electric and video forms of the lottery are
prohibited.

The board is also required to promulgate rules regulating the conduct of these lottery games.12 Obviously, those rules have not yet been adopted, but the act dictates what some of those rules must be. For instance, the rules must specify the type of lottery games to be conducted and must provide that lottery tickets be sold for cash, with payment by checks, credit cards, charge cards or other forms of deferred payments being expressly prohibited.13 The rules are also to set forth the manner and time of payment for prizes, which prizes may be lump-sum payments or installments over a period of years, and the methods to be used in selling lottery tickets.14 Unlike prior versions of House Bill 1278, the act specifically provides that the board may not permit the operation of any lottery game using a video lottery machine.15 The term “video lottery machine” is defined as any electronic video game machine that is available to play a video game, such as poker, blackjack, slot machines and dice.16

Litigation in other states that have lotteries could prove helpful in fashioning these rules. For instance, in a recent case from Connecticut, the holders of one of two winning lottery tickets sued the Connecticut Lottery Commission when the holder of the other winning ticket did not come forward to claim his winnings within one year of the lottery drawing, which was required by applicable lottery rules.17 The Lottery Commission’s position was that the plaintiffs were entitled to only one of the two shares of the lottery prize (i.e., 50 percent) and should only receive 50 percent of the total lottery (which was approximately $2.8 million). The plaintiffs’ position was that the plaintiffs should be considered the sole winners of the lottery when the holder of the second winning ticket did not timely come forward, and thus, the plaintiffs should receive 100 percent of the approximately $5.6 million lottery prize. The Connecticut Supreme Court ultimately held in favor of the Lottery Commission basing its decision in large part on the definitions and other provisions of the rules and regulations governing the Connecticut lottery.18

Another important rule to be adopted by the board will be whether and when lottery participants will be entitled to choose a payment option for their lottery winnings. Under the tax principle of constructive receipt, the winner of a lottery who has the option of receiving either a lump-sum payment or an annuity is generally required, because such an option was available, to include the entire value of the award in gross income in the winning year, even if the annuity option is exercised.19 However, some state lotteries avoid this constructive relief problem by permitting contestants to choose, when a lottery ticket is purchased, a payment option in advance. By choosing an installment payment option in advance, the winner can avoid this constructive receipt issue.

The real problem lies with winners who, quite often, do not fully consider the tax implications of winning the lottery when they purchase their lottery ticket, and thus do not select, when the lottery ticket is purchased, the installment payment option. Fortunately, all is not lost for those winners, assuming they are individual, cash basis taxpayers. Under Section 451(h) of the Internal Revenue Code, the winner of a lottery who is given the option to choose either cash or an annuity not later than 60 days after becoming entitled to the lottery prize, and who chooses the annuity (even after the lottery is won), is not required to immediately include the entire lottery amount in income merely by reason of having had the option to choose cash.20 In order for this to be available, however, the option must be exercised no later than 60 days after the individual becomes entitled to the prize, the annuity must be payable over at least ten years, and the recipient cannot be required to perform any substantial future service in exchange for the payments.21 (Appearing in commercials, for instance, promoting the lottery should not be considered a substantial service.)

Thus, under Section 451(h) of the Internal Revenue Code, a lottery winner who is offered a choice between an annuity and a lump-sum will not be compelled by tax considerations to choose a lump-sum. Absent this provision of the Internal Revenue Code, a lottery winner choosing an annuity would be taxed on income not actually received (i.e., the lump-sum amount) and might not have enough cash to pay the tax on that income.

A recent decision of the United States Tax Court illustrates one taxpayer’s unsuccessful attempt to define lottery payments as annuities to benefit him for other tax planning reasons.22 In Abeid, an Israeli citizen won the lottery while residing in California. Under the US-Israeli Income Tax Treaty, “annuities” paid to Israeli residents are exempt from U.S. taxation. The treaty defines “annuities” as sums paid periodically “in return for adequate and full consideration.”23 In a decision unfavorable to the taxpayer, the Tax Court concluded that the lottery payments that the Israeli citizen was to receive were not received in return for adequate and full consideration, because the $1 purchase price for the winning ticket was not money or money’s worth equivalent to the $722,000 annual payments being received.24 As a result, the Tax Court held that the lottery payments received by the Israeli citizen were subject to U.S. taxation, because the payments did not qualify as “annuities” under the US-Israeli income tax treaty.25

LOTTERY PROCEEDS

The act requires that the “gross proceeds” (which is defined as all revenue derived from the sale of lottery tickets and all other monies derived from the lottery) become property of the commission, from which the commission will pay its operating expenses.26 The act also requires that at least 45 percent of the gross proceeds be made available for prize money.27 Furthermore, for each fiscal year, “net proceeds” of the lottery (which is defined as revenue derived from the sale of lottery tickets and all other monies derived from the lottery, less operating expenses) is required by the act to equal at least 35 percent of the gross proceeds.28 However, for the first two full fiscal years (and any partial first fiscal year of the commission), net proceeds need only equal at least 30 percent of gross proceeds.29 According to the act, the reason for the difference between the 35 percent and 30 percent is to repay bond indebtedness that may be up to $10,000,000 and issued for the payment of initial expenses of startup, administration and operation of the commission and the lottery.30

LOTTERY RETAILERS

The act creates extensive rules and regulations for lottery retailers; that is, for those persons who will sell lottery tickets.31 A certificate of authority will be issued by the commission to every person with whom the commission approves as a retailer, and that retailer must post and keep that certificate of authority conspicuously displayed in a location on the premises accessible to the public.32 Certificates of authority are not assignable or transferable.33 These lottery retailers will be entitled to compensation in the form of commissions in an amount of not less than 2 percent of their gross lottery sales.34

How will those lottery retailers be selected? The commission is required to develop a list of objective criteria upon which the qualification of a lottery retailer shall be based.35 In developing that criteria, the board is required to consider such factors as the financial responsibility of the applicant retailer, security of the place of business or the activity of the applicant, and the applicant’s accessibility to the public, integrity and reputation.36 In selecting lottery retailers, the board is not entitled to consider political affiliation or monetary contributions to political organizations or candidates for any public office.37 These criteria are also required to include that the applicant be current in the filing of all its applicable tax returns in Oklahoma and in the payment of all taxes, interest and penalties owed, excluding those items under formal appeal.38 The act requires that, notwithstanding the provisions of 68 O.S. § 205 (which generally requires that records and files of the Oklahoma Tax Commission remain confidential), the Oklahoma Tax Commission is required to provide this type of information to the lottery commission.39 The act contains additional criteria that will be considered by the lottery commission, which obviously should be reviewed prior to representing an applicant who intends to be a retailer.40

A lottery retailer must obtain the approval of the commission before that retailer contracts with any person for lottery goods or services.41 Lottery retail contracts will not be assignable or transferable.42

Proceeds from the sale of lottery tickets must be safeguarded and will constitute trust funds.43 If a lottery retailer becomes insolvent or dies insolvent, and if that lottery retailer has proceeds from the sale of lottery tickets, the proceeds due to the commission from the person or the estate of the person will have a preference over all other debts or demands.44 In general, this means that the commission will have first priority to get paid in a bankruptcy proceeding, probate proceeding or other proceeding involving a lottery retailer before any other creditors are paid.

The act also contains provisions applicable to leases entered into by lottery retailers. Specifically, if the rental payments for the business premises of a lottery retailer are contractually computed on the basis of a percentage of retail sales (and such computation of retail sales is not explicitly defined to include sales of lottery tickets), only the compensation received by the lottery retailer from the commission may be considered the amount of the lottery retail sales for purposes of computing the rental payment.45 This means that the lottery retailer’s gross lottery tickets sales will not be considered unless there is an agreement to the contrary.

What liability would a lottery retailer have, for instance, if a clerk processed a lottery player’s ticket incorrectly? This issue was addressed in a Florida case in which a lottery player purchased 50 lottery tickets at a convenience store. After standing in line for over an hour, the player submitted 10 play slips, each containing five selections of six numbers each. When the clerk processed the tickets, the online terminal went off-line for several minutes, refusing to accept any play slips. When the terminal went back online, the player was issued 50 lottery tickets. On one of the play slips, the player selected the winning numbers. But, when the player returned home and learned that her six numbers had been selected in the lottery, she inspected her lottery tickets only to discover that none of the winning six numbers on her play slips were the lottery tickets issued by the terminal at the convenience store. Instead, two of her play slips (which did not contain the winning numbers) had been duplicated resulting in the duplication of several lottery tickets. The player sued, among others, the retailer and the lottery commission because, quite simply, she could not produce a winning ticket. The lottery player lost on all counts.46 Until Oklahoma lottery case law develops, decisions like this will be helpful in adjudicating claims in Oklahoma.

SALES OF LOTTERY TICKETS

The act prohibits the sale of lottery tickets at prices other than those established by the commission, unless authorized in writing by the executive director.47 Thus, there can be no “sale price” or “marked down price” lottery tickets. In addition, no one other than duly certified lottery retailers will be entitled to sell lottery tickets.48 However, lottery tickets may be given away by merchants as a means of promoting goods or services to customers or prospective customers 18 years of age or older if approved in advance by the commission.49 Furthermore, no lottery retailer may sell lottery tickets except from locations listed in the certificate of authority issued by the commission, unless the commission authorizes in writing another temporary location.50

Finally, lottery tickets may not be sold to persons under 18 years of age, and prizes may not be paid upon tickets that were purchased by persons under 18 years of age.51 Interestingly, a prior version of House Bill 1278 stated that the prohibition on selling tickets to persons under 18 years of age would not be deemed to prohibit the purchase of a lottery ticket by a person 18 years of age or older for the purpose of making gifts to a younger person. Such exception does not appear in the final version of the act.

LOTTERY PRIZES

It is well established that a lottery winner will be required to include in his or her gross income the amount of the lottery prize. The wide reach of Section 61(a) of the Internal Revenue Code forces a taxpayer to include in his or her gross income all accessions to wealth, and an accession to wealth as a result of gambling winnings such as lottery prizes is no exception.52 The act also specifically provides that lottery winnings will be subject to Oklahoma state income taxes.53

A lottery winner is not likely to receive 100 percent of the lottery prize. First, lottery winnings will be subject to federal withholding. Section 3402(q)(1) of the Internal Revenue Code requires that every person, including the United States Government, a state or a political subdivision thereof, or any instrumentalities of the foregoing, making any payment of winnings which are subject to withholding deduct and withhold from such payment a tax in an amount equal to 25 percent of such payment.54 Section 3402(q)(3)(B) of the Internal Revenue Code provides that, generally, proceeds exceeding $5,000 are subject to the withholding requirement.55

Second, attachments, garnishments or executions are generally entitled to be withheld from lottery winnings if they are timely served on the commission.56 This does not apply, however, to payments or prizes made directly by retailers.57 That is, the act may permit lottery prizes of $600 or less to be paid directly by lottery retailers (as opposed to being paid by the commission),58 and those payments would not be subject to attachment, garnishment or execution.

One of the more interesting provisions of the act is that it will prohibit the assignment of prizes, or portions of prizes, or any rights of any persons to any prize.59 This is different from some state lotteries, such as California, which permit lottery proceeds to be voluntarily assigned upon court approval.60 The ability to assign lottery proceeds would permit lottery winners to sell those proceeds at a discounted amount to, for example, a finance company. Courts have generally upheld anti-assignment provisions, with the thought being such provisions are designed to protect winners and avoid burdening the government with endless paperwork.61

Those types of transactions generate tax concerns, with the question being whether the sale of future lottery payments generates capital gain or ordinary income. A recent decision of the United States Tax Court held that a lottery winner who sold his right to receive some of his future winning payments for a lump-sum realized ordinary income (rather than capital gain) on the sale proceeds.62 In that case, the IRS acknowledged that the taxpayer’s lottery prize (which was the right to receive future lottery payments) constituted property, but the Tax Court refused to take the next step and agree that the property was a capital asset the sale of which could generate a capital loss.63 The Tax Court, siding with the IRS, concluded that the assignee’s payment to the taxpayer/lottery winner was ordinary income and not capital gain, since the taxpayer received it in exchange for the future right to receive ordinary income.64 The Tax Court, in a recent memorandum decision, reiterated that holding.65

A careful distinction should be made here between assigning lottery winnings under state law (i.e., under the act) and assigning those winnings for tax purposes. Query whether an assignment of Oklahoma lottery winnings, even if unenforceable under the act, would be respected for tax purposes. If so, there are interesting tax implications. For instance, if lottery winnings are assigned after the lottery drawing, then the winner/assignor would clearly not be entitled to shift the taxability of those winnings to the assignee and avoid receipt of those winnings for himself. However, if the winner/assignor can establish that the assignment occurred prior to the lottery drawing (obviously, a tough burden), then the question is whether that assignment will be respected for tax purposes. If so, the assignor/winner will have successfully shifted taxability for some of the winnings to the assignee. This exact issue was addressed in a 1926 case in which a court found that a group of taxpayers who entered into an agreement to purchase lottery tickets and to share in the winnings were required to include only their share of the prize in income, even though the lottery was unenforceable under applicable Wisconsin law.66 Contrast that with the holding of another court that if the person who collects the prize fails to honor an unenforceable agreement, then the amount retained by that person is included in that person’s income.67

One might question what would happen if the Oklahoma Legislature amended the act to permit the voluntary assignment of the right to receive future lottery prizes. The question in that situation would be whether that amendment would affect the federal income treatment of lottery winners who did not assign their winnings under Section 451(h) of the Internal Revenue Code, as discussed above. In other words, if the act were amended to permit voluntary assignments of future winnings, would a person who did not assign his winnings, but did elect, using the procedure in Section 451(h) of the Internal Revenue Code, to receive the winnings in annuities, be required to realize the entire amount of the winnings? The answer seems to be “no” based upon a private letter ruling issued by the Internal Revenue Service in August 2000.68

If a lottery winner decides to gift all or a portion of the winnings to another person, the transfer will be subject to federal gift tax and a federal gift tax return may be required to be filed. Oklahoma does not have a state gift tax. The federal gift tax applies whether the gift is direct or indirect, and whether the transfer is outright or in trust.69 There are certain exclusions and credits that may apply to shelter a portion or all of a gift from current gift tax. Thus, lottery winners should seek the advice of a knowledgeable lawyer or accountant before making any gifts in order to take advantage of available tax-planning opportunities.

If a lottery prize remains unpaid at the death of the prize winner, that prize will be paid to the estate of the deceased prize winner or to the trustee of a trust established by the deceased prize winner as settlor, but only if a copy of the trust document or instrument has been filed with the commission along with a notarized letter of direction from the settlor and no written notice of revocation has been received by the commission prior to the death.70 The remaining unpaid amount of the lottery prize will be an asset of a lottery winner’s estate subject to state and federal estate tax at his or her death.

The Internal Revenue Code requires the use of the IRS valuation tables to value lottery winnings for estate tax purposes.71 However, several cases have held that where the IRS tables do not produce a value that reasonably approximates the fair market value, departure from the tables is allowed. For example, in Shackleford v. U.S., the district court and later the Ninth Circuit approved divergence from the IRS tables and determined a substantially discounted value for lottery winnings based on lack of marketability.72 Other recent cases have also addressed this issue with varied results for the taxpayers.73

Following the death of a lottery winner who is a settlor of a trust and prior to any payment to a successor trustee, the commission is required to obtain from the trustee a written agreement to indemnify and hold the commission harmless with respect to any claims that may be asserted against the commission arising from payment to or through the trust.74 However, notwithstanding these provisions, a court may enter an order requiring the prize to which a winner is entitled to be paid to any person,75 although the act does not specify the exact nature of such a court proceeding. In the event there is a dispute as to the determination as to which and how many winners are entitled to a particular prize, the sole remedy of the claimants is the award to each of them in an equal share in the prize.76

The act establishes time periods for collecting cash prizes. For instance, a holder of a winning cash ticket is required to claim the cash prize within 180 days after the drawing.77 However, in games in which the player may determine instantly if the player has won, the player is required to claim the cash prize within 90 days after the end of the lottery game.78

These time periods permit the use of tax planning in connection with recovering prizes, because at least one court has held that lottery winnings are taxed in the year the claim is paid, not in the year of the lottery drawing.79 In Thomas v. United States, the taxpayer presented his winning $8.8 million ticket to the appropriate lottery employee on Dec. 14, 1992. On the same day, the lottery commission issued a news release declaring the taxpayer/plaintiff as the lottery winner. However, it took the lottery commission approximately six weeks to verify and process the claim. Plaintiff received his funds on Jan. 28, 1993. The Sixth Circuit held that the economic benefit doctrine did not cause the lottery winnings to be included in income in the year of the drawing and selection of the winning ticket (1992), but rather in the subsequent year when the winning ticket was verified and paid (1993).80 This holding forecloses some creative tax planning, as was attempted here, as the taxpayer in Thomas sought to have the income recognition accelerated in order to avoid a top tax-rate increase from 31 percent in 1992 to 39.6 percent in 1993.

Representing lottery winners is potentially risky, as illustrated by a 1998 private letter ruling issued by the Internal Revenue Service.81 In that situation, a lottery winner consulted a tax attorney for tax preparation after he won the lottery. He ended up paying more than he should have, because his attorneys failed to properly advise him to maximize his deduction by making state income tax payments. The lottery winner negotiated with the attorney’s malpractice insurer for an indemnification payment.

Attorneys representing lottery winners will be faced with many more questions and concerns. For instance, what should you advise the winner to do with his or her ticket pending presentation to the commission; what if two people come to you and claim to own the rights to the ticket; and who should accept the lottery prize (the individual winner, his trust, etc.)?

A question often arises as to whether lottery winnings are considered gains from wagering transactions. Generally, they are, which means that a lottery winner may claim a deduction against those gains for gambling losses, but only to the extent of the gains. Specifically, the rule is that losses sustained during a taxable year on wagering transactions are allowed as deductions but only to the extent of the gains during that taxable year from those transactions.82 Furthermore, the IRS has held that annual payments that lottery winners receive in the years following the year in which they won the lottery can be considered gains from wagering transactions during those later years for purposes of deducting gambling losses.83 However, there are limitations on what are considered deductible gambling losses. For instance, transportation, travel, meals, lodging and legal expenses incurred by taxpayers in pursuit of gambling are personal expenses that are not deductible, and taxpayers generally cannot claim they are in the trade or business of gambling.84

The act restricts persons who may purchase tickets and who may be awarded prizes. For instance, lottery tickets may not be purchased by and prizes may not be awarded to members of the board, officers or employees of the commission and spouses, children, brothers, sisters or parents residing as a member of the same household in the principal place of residence of any such person.85

What about disputes between lottery players as to whom is entitled to the winning prize? Usually decided based on whether a partnership or joint venture has been formed or a valid gift made, these cases are often driven by greed and show how even the best relationships can be affected when someone holds a winning lottery ticket.86 In one particularly nasty case, a woman sued her mother when the mother won a $1.9 million jackpot.87 To prove that the lottery ticket actually belonged to the daughter, the daughter elicited testimony from her two children who lied in court against their grandmother.88 Despite that, the jury returned a verdict for the daughter, but the mother eventually was able to have the jury verdict set aside when she presented evidence that she had been playing the winning number for months.89

Penalties

A person who sells a lottery ticket to a person less than 18 years of age (or permits a person less than 18 years of age to play a lottery game) could be charged with a misdemeanor and fined up to $1,000 and imprisoned for up to one year.90 Furthermore, persons who, with the intent to defraud, pass or counterfeit state lottery tickets, or who influence or attempt to influence the winning of a prize through the use of coercion, fraud, deception, or tampering with lottery equipment or materials, may be punished by a fine not to exceed $50,000 and by imprisonment for no longer than five years, or by both such fine and imprisonment.91 Finally, a person who knowingly or intentionally makes a material false statement in the application for a license or proposal to conduct lottery activities may be fined an amount not to exceed $25,000 or the dollar amount of the false statement, whichever is greater, or by imprisonment for no longer than five years, or by both such fine and imprisonment.92

INDIAN GAMING

The act provides that the enactment of a lottery in Oklahoma is game-specific and is not to be construed to allow the operation of any Class III gaming as defined in the Indian Gaming Regulatory Act, 25 U.S.C. § 2703.93 However, if either the Oklahoma Supreme Court holds in a final public opinion, or a federal court rules in a final unappealable decision, that operation of a lottery under the act permits the operation of other Class III games under the Indian Gaming Regulatory Act, then the lottery act will cease to have the force and effect of law.94

CONCLUSION

The act will provide for an array of interesting and challenging issues for attorneys engaged to represent those people who are fortunate enough to claim winning lottery tickets.

1. The companion legislation for the Legislation was Senate Joint Resolution No. 22 (the “Resolution”). The Resolution required that the Oklahoma Secretary of State submit to the people of Oklahoma an amendment to the Oklahoma Constitution that would, among other things, (i) create a trust fund for the lottery proceeds, and (ii) limit how those lottery proceeds may be appropriated by the legislature. That constitutional amendment, which was State Question No. 706 on the November 2, 2004 general election ballot, was approved (vote of 970,846 in favor and 458,068 against).
2. Oklahoma Constitution Article V, Section 3.
3. 3A O.S. §704
4. Id. at Section 705A.
5. Id.
6. Id. at Section 705B.
7. Id. at Section 708.
8. Id. at Section 707.
9. Id. at Section 705I.
10. Id. at Section 703(9).
11. Id.
12. Id. at Section 710.
13. Id. at Section 710(2).
14. Id. at Section 710(5).
15. Id. at Section 710.
16. Id.
17. Fullerton v. Department of Revenue Services, Gaming Policy Board, 714 A.2d 1203 (Conn. 1998).
18. Id. at 1208.
19. Conf. Report No. 105-825 (PL 105-277) p. 1594.
20. See Internal Revenue Code Section 451(h).
21. Id. at Section 451(h)(2).
22. Ismat M. Abeid v. Commissioner of Internal Revenue, 122 T.C. 404 (2004).
23. Id. at 407.
24. Id. at 412.
25. Id.
26. 3A O.S. Sections 703(7) and 713A.
27. Id. at Sections 713A.
28. Id. at Sections 703(14) and 713A.
29. Id.
30. Id. at Sections 713A and 732A.
31. Id. at Section 717.
32. Id. at Section 717D.
33. Id.
34. Id. at Section 717C.
35. Id. at Section 717E.
36. Id.
37. Id.
38. Id.
39. Id.
40. See id.
41. Id. at Section 718A.
42. Id.
43. Id. at Sections 721A and 721B.
44. Id. at Section 721C.
45. Id. at Section 722.
46. Haynes v. Department of Lottery, 630 So.2d 1177 (Fla. Dist. Cy. App. 1994).
47. See 3A O.S. Section 723A.
48. Id.
49. Id. at Section 723B.
50. Id. at Section 723C.
51. Id. at Section 723D.
52. Edward D. Hamilton and Yolonda B. Hamilton v. Commissioner, T.C. Memo 2004-161. See also Internal Revenue Code Section 74(a); Treasury Regulations Section 1.74-1(b). The form usually required to be completed by a person presenting a winning lottery ticket is Form 5754, Statement by Person(s) Receiving Gambling Winnings. The information provided by the winner on that Form 5754 will enable the Commission to then prepare a Form W-2G, Certain Gambling Winnings, for each winner to show the winnings taxable to him or her.
53. 3A O.S. Section 724A.
54. Internal Revenue Code Sections 3402(q)(1) and 1(c).
55. Internal Revenue Code Section 3402(q)(3)(B).
56. 3A O.S. Section 724(B)
57. Id.
58. Id. at Section 710(6).
59. Id. at Section 724C(1).
60. Cal. Government Code Section 8880.325.
61. See Robert M. Jarvis, et al., Gaming Law, page 93.
62. See Davis v. Commission, 119 T.C. 1 (2002)
63. Id. at 7.
64. Id.
65. See Watkins v. Commissioner, T.C. Memo 2004-244; Peter U. Boehme, et ux. v. Commissioner, T.C. Memo 2003-81 (holding that a taxpayer/lottery winner who assigned her right to receive future lottery payments in exchange for a $400,000 lump-sum payment constituted ordinary income and not capital gain); George and Angeline Lattera v. Commissioner, T.C. Memo. 2004-216 (holding that a lump-sum payment received in exchange for an assignment to a third party was ordinary income, not capital gain). At least one federal district court has also concluded that a lump-sum payment obtained in consideration of an assignment of a right to receive future lottery payments is ordinary income. See U.S. v. Maginnis, 93 AFTR 2d 2004-660, 1/30/04.
66. See The Morning After: Tax Planning for Lottery Winners, Journal of Taxation, April 1999.
67. Id. See Tavares v. Commissioner, 275 F.2d 369, 60-1 USTC ¶ 9297, 5 AFTR 2d 886.
68. See Internal Revenue Service Private Letter Ruling 200031031.
69. Internal Revenue Code Section 2511.
70. 3A O.S. Section 724C(1).
71. See Internal Revenue Code Section 7520, which requires that non-commercial annuities, such as lottery payments, must be valued based on the Section 7520 federal annuity tables. The tables use a discount rate that is 120% of the applicable federal midterm rate for the month of the valuation date, a rate determined with reference to the market interest rates on fully marketable securities.
72. See Shackleford v. U.S., 88 AFTR 2d 2001-5658, 262 F.3d 1028 (9th Cir. 2001)(holding that the use of the IRS annuity table produces a substantially unreasonable and unrealistic result because the table does not reflect the discount which must be taken by virtue of the non-liquidity of the prize).
73. See Estate of Gribauskas v. Commissioner, 92 AFTR 2d 2003-5914, 342 F.3d 85 (2d Cir. 2003)(the Second Circuit also approved departing from the use of the valuation tables); but see Cook v. Commissioner, 92 AFTR 2d 2003-7027, 349 F.3d 850 (5th Cir. 2003)(in which the ordinarily taxpayer-friendly Fifth Circuit ruled that the IRS tables must be used to value a lottery prize payable in installments).
74. 3A O.S. Section 724C(1).
75. Id.
76. Id. at Section 724C(3).
77. Id. at Section 724C(4).
78. Id.
79. See Thomas v. United States, 85 AFTR 2d 2000-1886.
80. Id. at 2000-1889.
81. Internal Revenue Service Private Letter Ruling 9833007.
82. See Internal Revenue Service Treasury Regulation Section 1.165-10.
83. See Internal Revenue Service Technical Advice Memorandum 9808002.
84. See id. But see Commissioner v. Groetzinger, 59 AFTR 2d 87-532 (107 S. Ct. 980) (holding that a full-time gambler can be engaged in a trade or business for purposes of Section 162(a) of the Internal Revenue Code).
85. 3A O.S. Section 724F.
86. See Jarvis, at page 109.
87. Id.
88. Id.
89. Id.
90. 3A O.S. Section 726. A prior version of House Bill 1278 imposed this penalty only if the person “knowingly” sold such a ticket (or permitted such a person to play a lottery game). Also, that prior version offered an affirmative defense for a retailer who reasonably and in good faith relied upon representation of proof of age in making the sale. The Act contains no such affirmative defense.
91. Id. at Section 727A.
92. Id. at Section 728.
93. Id. at Section 735.
94. Id.

About the Authors

Armand Paliotta is a partner in the Oklahoma City law firm of Hartzog Conger Cason & Neville. His practice is concentrated in the areas of business transactions, corporate and securities law, and federal and state taxation. He is an adjunct professor at the OCU and OU law schools, and he currently serves on the editorial board of The Business Owner. He graduated Order of the Coif and with highest honors from the OU College of Law.

Susan B. Shields is a partner in the Oklahoma City law firm of Hartzog Conger Cason & Neville. Her practice has emphasis in the areas of estate planning, trusts, probate and estates, guardianships, tax-exempt organizations and business entities. She is an adjunct professor at the OU College of Law and is also chair-elect of the OBA Estate Planning, Probate and Trust Section. Ms. Shields is a graduate of Stanford University and of the UCLA School of Law.