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Sep 27 2011

Online Poker Bust: The Government’s Fault

The legal complaint against Full Tilt Poker is worth reading. It’s pretty obvious that the company was guilty of bank fraud and money laundering, as all the online sites doing business in the United States were, and that was obvious years ago. The Unlawful Internet Gambling Enforcement Act forced them to set up hundreds and hundreds of dummy companies to get around the limitations on transferring money to online gambling sites, despite the fact that online poker is not actually illegal in this country.

But the far worse crime is what Full Tilt Did but the other sites apparently did not, which was use player deposits for operating expenses instead of holding them in accounts. As the complaint says:

According to a balance sheet prepared by Full Tilt Poker, as of March 31, 2011, Full Tilt Poker owed players from around the world over approximately $390,695,788 but had only approximately $59,579,413 in its bank accounts. Full Tilt Poker relied on new deposits from players to ensure its ability to fund withdrawals to players’ accounts.

Rather than protect player funds as promised, Full Tilt Poker distributed hundreds of millions of dollars to its owners…

That’s the same thing that got Dutch Boyd and Poker Spot in trouble long ago, but this one has cost poker players more than $300 million. But as Felix Salmon rightly points out, this is all the government’s fault:

In a weird way, strict anti-gambling regulations in the US are responsible for this fiasco. If poker sites were legal and regulated, we could trust the regulator — an arm of the US government — to protect gamblers’ funds. Casinos are strictly regulated; online poker sites should be as well. Instead, they became international fugitives, going to great lengths to make it possible for US gamblers to skirt regulations and use their sites.

No one worries that if they transfer money into the cage at the Bellagio or the Venetian, they won’t get the money back when they’re done. And they shouldn’t worry about that because the Nevada Gaming Commission has strict regulations and monitors the situation to make sure that those companies have the funds on hand to pay for every chip in the casino. If the federal government would stop pandering to the moral busybodies who object to gambling on religious grounds and legalize and regulate online poker, none of that money would ever have been lost.

The online poker sites have all but begged the government go regulate and tax them, but the government instead created a black market and paved the way for poker players to get more than $300 million stolen from them.

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  1. 1
    slc1

    According to a balance sheet prepared by Full Tilt Poker, as of March 31, 2011, Full Tilt Poker owed players from around the world over approximately $390,695,788 but had only approximately $59,579,413 in its bank accounts. Full Tilt Poker relied on new deposits from players to ensure its ability to fund withdrawals to players’ accounts.

    Shorter, the whole scam is what is known as a Ponzi scheme.

  2. 2
    Ben P

    Shorter, the whole scam is what is known as a Ponzi scheme.

    I disagree, although only for the sake of being pedantic. Ponzi scheme has become an overused term.

    This is not a ponzi scheme, this is much closer to a poorly managed and or fraudulent bank that is now suffering a bank run. To the extent it’s because they paid out to their owners, it’s simply theft.

    A ponzi scheme is a fraud scam where the scammer solicits investment from the marks promising a return on the investment. The investment however is a fake and the investor generates positive returns for early marks by using investment funds from later marks. At some point the scammer can no longer find new customers to sustain the appearance of returns and the scam breaks down. The scammer either disappears with the remaining funds, or gets caught.

    That is not what happened here. There is no “investment” and no “returns” alleged. Rather, Full Tilt Poker was operating like a bank.

    There’s a common perception that when you deposit funds into a bank, the bank effectively has your money locked up in a box somewhere. That’s simply not true. From the financial perspective of a bank, when you “deposit” money, your account becomes a liability. It’s a debt the bank owes to you. They’re free to use your money for any legal purpose so long as they can honor the debt they owe to you.

    Federal regulations require banks to maintain a certain ratio of liquid assets to the funds people have on deposit. For a regulated bank this is typically 7-10%. IN the past it was more commonly 20-30%

    Full Tilt accepted the “deposits” of players for their player accounts. Roughly $390 million of deposits. The players don’t get interest on these accounts, but they use them to play, and they can cash out.

    The problem is the company paid out big chunks of this money to its owners, and used it for operating expenses, and now it owes $390 million, but has far less than this in assets if all the players were to want to cash out at once. (A bank run).

  3. 3
    harold

    It is the government’s fault that there are absurd laws against online poker. Although these laws were associated with one of the weakest “horror stories” ever (some affluent, whiny college student lost a something like 20K playing poker – as a progressive I support the idea of social programs to help obsessive degenerate gamblers who go bankrupt get therapy and find jobs, for full disclosure), there was never any real public desire to shut down online poker, and the casino industry was the real driver.

    However, it is most certainly not the government’s fault that the management at FTP, which I estimate was generating from 100M to several billion annually from rake/tournament fees, looted players’ accounts. Poker Stars notably did not do this.

  4. 4
    Artor

    If I recall from the story of the original bust, the feds had seized all the money held in account. What has happened to all that cash? Have the players gotten any refunds? Even cent on the dollar? Or are the feds keeping it all? If so, that would compound the theft and make the feds complicit in the crime.

  5. 5
    slc1

    Re Ben P @ #2

    A ponzi scheme is a fraud scam where the scammer solicits investment from the marks promising a return on the investment. The investment however is a fake and the investor generates positive returns for early marks by using investment funds from later marks

    But wasn’t that what actually happened here? The fact that this, perhaps, wasn’t the original intent of the scammers, nor the fact that this wasn’t an “investment” would not seem to be particularly relevant.

  6. 6
    Ed Brayton

    Artor-

    The government seized the website, but the accounts were mostly overseas. As the article notes, they simply didn’t have the money in the accounts. Full Tilt has not refunded the player deposits because they only have about 15% of what they’re supposed to have. I suspect there are some offshore accounts with huge money in them and that’s what the government is after now.

  7. 7
    Ben P

    But wasn’t that what actually happened here? The fact that this, perhaps, wasn’t the original intent of the scammers, nor the fact that this wasn’t an “investment” would not seem to be particularly relevant.

    No, it’s specifically not what happened here. Let’s take away the website and pretend it’s a physical poker game.

    There’s a buy-in of $1000, and 10 people give me $1000 and I hand them poker chips with a value of $1000. I have $10,000.

    One guy shows up late and buys in, I have $11,000. Another guy has to leave early and cashes out, he’s up by a little with $1500 in chips, I pay him $1500, and I have $9500.

    Then, in the middle of the game I grab the cash box and run out the door, dropping $300 in the process.

    I owe 10 people a total of $9500, maybe I owe one guy $4000 and the other 9 $5500.

    Either way, this is straight up theft. Not a ponzi scheme.

    For a closer scenario, imagine the same thing.

    Except, all during the night I’ve been slipping $100 bills one by oneto the owner of the club to pay a personal debt. Of my original $10,000 I have maybe $5500 left. Then one guy who’s up by a good bit cashes out, and I pay him $4000.

    Then the game ends, and the players collectively want to be paid their shares of the remaining $6000. I bolt out the door leaving $1500 in the cash box.

    Still just theft and not a ponzi scheme.

  8. 8
    slc1

    Re Ben @ #7

    From the article: Full Tilt Poker relied on new deposits from players to ensure its ability to fund withdrawals to players’ accounts.

    How does this differ in any way, shape, form, or regard from a scheme in which new investments are used to pay off older investors? In effect, that was what was happening here and that’s a Ponzi scheme.

  9. 9
    LightningRose

    This is neither a Ponzi scheme nor the fault of the US Government.

    It’s not an investment scheme and the Government did nothing to prevent the proprietors of Full Tilt Poker from acting in an honest manner.

    It’s theft, pure and simple.

  10. 10
    Darron

    Strangely enough, some of the biggest proponents of expanding gambling in my home state of Minnesota are self-styled “conservatives” who usually pander to “moral busybodies” that regularly get the vapors because somebody somewhere might be having fun doing something they find icky even though it doesn’t directly affect them. Why? Because the state either will run the games and derive the profit or exact large licensing fees so the state’s budget can be balanced without undoing the ill-advised tax cuts enacted in the late 90s. The conservatives hate “sin,” but hate taxes even more. They also like the idea of breaking the monopoly that the Indian tribes in Minnesota presently have on casino gambling – they get to appeal to racial resentment over “special privileges” for Native Americans and simultaneously strike a blow to a major source of campaign money for Democrats in this state.

  11. 11
    freemage

    Lightning Rose: The bit about it being the “government’s fault” stems from the fact that the ban on online gambling created a black market, with money being hidden and secreted about to evade the regulators.

    As a result, the players had no one to turn to who was watching those funds, and making certain the poker folks could pay all their liabilities. In such an environment, it’s only a matter of time before someone takes advantage of the opportunity to skim the accounts.

    The reasoning here is much the same as when I point out that most “Ecstasy-related” deaths have little to do with some raver ODing on Ecstasy; instead, they almost invariably result from some raver ODing on a drug they THOUGHT was X, but in fact was a random collection of chemicals that were made to look like a tablet of Ecstasy (there are, of course a few legit cases, not of ODing, but of someone high on X either dehydrating or over-hydrating). If it weren’t for the recreational drug prohibition regime, the contents of the tablets would be regulated and monitored like we do with prescription and OTC drugs. So though the government isn’t the one putting out the poisoned tablets, its overly moralistic attitude is what creates the environment for the poison to be sold.

  12. 12
    eric

    Ed:

    If the federal government would stop pandering to the moral busybodies who object to gambling on religious grounds and legalize and regulate online poker, none of that money would ever have been lost.

    Are you sure that’s who they’re pandering to? I wouldn’t be surprised if some of the LV/AC casino companies didn’t throw a few dollars at congresscritters to get them to squelch it because they don’t want the competition. They don’t like local gaming rooms (unless they run them), and online poker is about as “local” as you can get.

  13. 13
    tomp

    So basically what you are saying is that if the local bookie steals money from the people placing bets with him then it’s the government’s fault. I don’t think it works that way.

  14. 14
    LightningRose

    freemage, I understand the argument, but it’s a specious one at best.

    There are umpteen other poker sites on the web, are they all fleecing their customers in the same manner as FTP? I suspect not.

    Even in regulated industries such as banking, embezzlement (and that’s what this is) is a common crime.

  15. 15
    tacitus

    It’s hard for me to believe that Chris Ferguson and Howard Lederer are responsible for pure, unadulterated theft. From what I know of Ferguson in particular, he’s certainly not been acting like the typical fraudster living high on illegal earnings of tens of millions of dollars.

    Certainly there is a huge problem, and if the money is gone, somebody has to be held accountable — especially if that missing money can’t be accounted for by operational expenses. I could be wrong, but I suspect that the likes of Ferguson and Lederer were in it way above their heads and made some ill-advised business decisions and business acquaintances that led to the fraudulent activity.

    I guess we shall see once the cases for the prosecution and defense are laid out.

  16. 16
    Brad

    This was not a ponzi scheme. The depositors were not investors expecting a return on their money (most probably were expecting a return thinking they could beat the games, but then they are creating the return not the “bank”). This is embezzlement and/or fraud. Depositors were expecting a 100% reserve bank but were either getting a fractional reserve or being stolen from (or both). I think it’s most likely straight up theft. PokerStars was able to pay out all depositor balances after the DoJ unfroze their accounts.

    It’s not the US govenment’s fault either. The actual poker site was not a black market operation, only the credit servicers to US customers were. Players from countries where online poker is 100% legal and regulated had their money stolen as well.

  17. 17
    harold

    Rather, Full Tilt Poker was operating like a bank.

    There’s a common perception that when you deposit funds into a bank, the bank effectively has your money locked up in a box somewhere. That’s simply not true.

    1. This is very generous. Fractional reserve banking is supposed to operate by putting out most of reserves into loans or useful investments. Is there evidence that this is what they did? Did a bunch of small business owners and home buyers get loans from Full Tilt Poker? Just because reserves are “fractional” doesn’t make you a fractional reserve bank.

    2. Anyway, it doesn’t matter, because they were supposed to operate, as their rival Poker Stars did (despite also being shut down players got their money back), implicitly, as a casino. An honest casino DOES retain enough cash to allow player to cash out whenever they want. This is actually one of the (many) barriers to entry in that business.

    FTP should have been making their money on the rake. Of course they could have and should have put players’ accounts into money market or other highly liquid interest bearing accounts and collected interest – that’s just rational business – but they should have been able to maintain a very high reserve.

    They have a huge implicit advantage in this sense even over a casino that offers mainly roulette and so on. Poker players play against each other. All they had to do was collect the rake. Any big winner who cashes out should only be getting money that was deposited by losing players anyway. The house can never have a run of bad luck.

    NOTE – Trials are not over yet, and everyone is innocent of everything until proven guilty.

  1. 18
    Online Poker Bust: The Government's Fault | Dispatches from the … | BBGUniverse

    [...] the article: Online Poker Bust: The Government's Fault | Dispatches from the … AKPC_IDS += "13868,";Popularity: unranked [...]

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