Illegal Gambling News

Published: October 15, 2023

How the Wire Act Bars Blockchain-Based Sports Gambling

Holland and Knight’s Samir Patel explains how the Federal Wire Act and Unlawful Internet Gaming Enforcement Act could impact the legality of blockchain-based sports betting.

Blockchain-based sports betting is rapidly growing into a multi-billion-dollar global industry. Online global sports gambling is projected to reach $180 billion by 2030, so it’s no coincidence that blockchain-based startups have entered and disrupted the space.

Even the founder and former CEO of FanDuel started a new blockchain-based sports betting platform that recently became licensed in Ireland, a country steeped in sports gambling tradition and a leading innovator in the industry.

The US made sports gambling legal in 2018. Yet, the 1961 Federal Wire Act, also known as the Wire Act, and the 2006 Unlawful Internet Gaming Enforcement Act remain in effect, albeit having done little to inhibit online sports betting. But as blockchain-based sports gambling booms globally, the acts may preclude its entry into the US market.

Sports betting platforms that accept cryptocurrencies are distinct from blockchain-based sports betting platforms. When a sportsbook accepts cryptocurrency, customers can fund their accounts using assets such as bitcoin or ether. These operators immediately convert cryptocurrency deposits into fiat currencies and convert fiat currencies back into cryptocurrency for withdrawals.

In the US, tax implications make this process impractical.

For a blockchain-based sportsbook, the entire deposit, wager, settlement, and withdrawal takes place on the blockchain (“on-chain sportsbook”). This means when a customer places a wager on a game, the wager is sent to a smart contract and logged on its applicable blockchain, such as ethereum (“on-chain wager”). When a game ends, the outcome and other match data are queried by the smart contract to settle the bet and distribute the winnings.

The Wire Act

Potential US on-chain sportsbooks can’t rely on the same narratives the current US sports gambling industry uses to defend their ability to offer sports gambling on the internet. The Wire Act prohibits businesses from using interstate communication technology to handle sports wagers. It states, “whoever being engaged in the business of betting or wagering knowingly uses a wire communication facility for the transmission in interstate or foreign commerce of bets or wagers” may be fined and/or sent to prison.

Although the Wire Act was written three decades before the invention of the internet, courts have held that it applies to internet communications. As such, legal online sportsbooks spend considerable resources to ensure that they only accept bets from the state in which they’re licensed.

For an on-chain sportsbook to operate legally under the Wire Act, it would need to ensure that it doesn’t take bets from bettors outside the state it’s licensed. This requires more than geo-fencing the front-end website. If the sportsbook is truly on-chain, it would author its own smart contracts and deploy them on a blockchain.

Yet, a smart contract can be accessed directly from a cryptocurrency wallet without the need of the sportsbook’s front-end website. By deploying the smart contract, the sportsbook knows that bettors in other states can use interstate wires—the internet—to interact with its smart contracts and place bets.

One example illustrates the legal risks of creating and deploying smart contracts that violate federal law. The Department of Justice recently charged the blockchain developers behind Tornado Cash for creating and deploying smart contracts that allow OFAC-sanctioned persons or regions to use the popular cryptocurrency mixer, even though the developers geo-fenced the website from such users.

Also, the internet is designed to seek the most efficient means of delivering the “data packets” (the wager) without regard to state borders. Consequently, electronic communication between a bettor and a state-licensed sportsbook can travel across state boundaries at some point, even if neither the bettor nor the computer servers do.

The UIGEA

The online sports gambling industry has argued that the UIGEA sufficiently articulates the intent of Congress to accommodate online intrastate gaming by defining “intermediate routing.” Even though the UIGEA prohibits a business engaged in betting or wagering from knowingly accepting payments in connection with the participation of another person in unlawful internet gambling, it states, “[t]he intermediate routing of electronic data shall not determine the location or locations in which a bet or wager is initiated, received, or otherwise made.”

In other words, intermediate routing is a term used for transmissions that travel between points in the same state but are routed intermediately out of the state. If both points are within a state where online sports gambling is legal, then arguably it’s not unlawful internet gambling.

On-chain sportsbooks shouldn’t rely on the UIGEA defense. On-chain wagers aren’t temporarily routed by the internet in the same sense as a data packet. A smart contract on a public blockchain such as ethereum exists on nodes dispersed throughout the world. An on-chain wager made with an on-chain sportsbooks doesn’t just temporarily route through the blockchain, but rather is stored on all the nodes of a blockchain, and the blockchain is hosted on computer servers throughout the world.

Even before a game, the on-chain wager must be recorded on the blockchain. When the game is over, a mining node will execute the smart contract and settle the bet. No guarantee can be made that the node that recorded the initial on-chain wager and the node that settles the bet are in the same state the on-chain sportsbook is licensed.

There may be ways an on-chain sportsbook can legally operate within the US. For example, soulbound NFTs can potentially be used as certificates of state residency to prevent interstate wagering or the use of layer 2 blockchains operating on top of a public blockchain may be able to confine on-chain wagers within a state.

Alternatively, on-chain sportsbooks can create their own private/permissioned

blockchains in collaboration with state gaming commissions and compliance departments. Maybe the first iteration of a legal US on-chain sportsbook is a P2P sports betting exchange.

The sheer size of the global blockchain-based sports wagering industry is too big for US sportsbooks and state governments to ignore. If nothing is done, untapped revenue and tax dollars will flow to illicit markets and the Wire Act will continue to hinder the US sports gambling industry.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

https://news.bloomberglaw.com/us-law-week/how-the-wire-act-bars-blockchain-based-sports-gambling