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- Cash lotteries are administered by state governments to raise revenue for the state.
- Lottery winners can claim their winnings in one lump sum payment or annual payments over time.
- Lottery winnings are treated as regular income and subject to state and federal income taxes.
In the US, most states offer some type of cash lottery like Mega Millions or Powerball. When you play, you purchase a ticket in hopes of winning a cash payout at random.
Although the odds of winning a cash lottery are very low, Americans still spend billions of dollars each year on tickets. But not everyone considers the tax implications or what they would do with their earnings if they did win.
When you play the lottery, you’ll spend a small sum of money to get the chance to win a huge prize. The winners are selected at random. If you pick all the winning numbers, you’ll win the jackpot, or share it with others who have all the correct numbers as well. Most lotteries also include smaller prizes for getting some combination of winning numbers, but not all of them.
According to Professor Michael Collins, a chartered financial analyst and CEO of WinCap Financial, most cash lotteries are administered by the government. “Government-administered lotteries are usually run by state governments in order to raise revenue,” he explains.
The proceeds of lottery funds can go to fund education, provide treatment for gambling addictions, or to protect the environment. However, lottery proceeds account for a small source of any state’s revenue.
“Consumers purchase lottery tickets, and the money they spend goes into the winning pot,” says Joel Ohman, a CFP® professional and CEO of ExpertInsuranceReviews.com. The longer a lottery goes without a winner, the more money accumulates in the pool. When someone wins, the lottery pool starts over again.
Lottery winners are chosen at random via a drawing. For instance, the Mega Millions drawings happen on Tuesday and Fridays at 11 PM EST, and you can watch them on live TV.
During the living drawing, five white balls are selected at random, and the balls are numbered one through 70. Then one gold ball is chosen from a set of balls numbered one through 25. If the six numbers selected match your lottery ticket number, you’re the big winner.
The odds of winning a lottery jackpot are very low, even if you buy tickets on a regular basis. And there’s a lot of variation in the odds depending on the type of lottery you purchase tickets for.
In general, the bigger the lottery, the lower your odds of winning. In the Powerball lottery, for example, players select five numbers from 1 to 69, and then choose one number from 1 to 26 for the Powerball. To win the jackpot, you have to get all six numbers. With so many possible combinations, the odds of winning come out to 1 in 292,201,338.
There are two ways lottery winners can claim their earnings — as a lump sum or annual payments over time. Both options result in a lottery payout, but there are pros and cons to each.
You’ll receive your after-tax winnings immediately if you claim a lump sum payout. Choosing this option lets you start investing and taking advantage of compound interest immediately.
But if you receive payments over time, commonly referred to as a lottery annuity, the total amount you receive will be closer to the advertised winnings. And annuity payments can protect winners who might be tempted to spend the money all at once.
Lotteries and taxes
According to Collins, the tax implications of winning the lottery vary depending on the type of lottery and the jurisdiction in which it’s located.
“For example, in the United States, winnings from government-administered lotteries are subject to federal and state income taxes,” he says.
“Lottery earnings are considered wages by state and federal governments,” Ohman notes. Winning a significant amount of money will probably push you into a higher tax bracket, “so not only will you pay higher taxes on your winnings, but you’ll also pay higher taxes on your regular wages,” he says. “The state tax will depend on where you live.”
You may also benefit from a tax deduction if you regularly buy lottery tickets without winning anything. You can deduct the losses from losing lottery tickets if you itemize your tax returns.
3 steps to take if you do win the lottery
If you regularly buy lottery tickets, have you ever thought about what you would do if you actually won? Assuming you’re lucky enough to win a big jackpot, here are three key things you should do to protect yourself and your winnings:
1. Protect your lottery ticket
According to Collins, the first thing lottery winners should do is sign the back of the ticket to establish ownership. And you should take steps to protect your winning ticket — make digital copies and store them in the cloud.
“Next, you should keep your ticket in a safe place until you claim your prize,” Collins says. If you lose your winning ticket and don’t have any backup copies, you’ll have no way to claim your winnings.
2. Protect your privacy
It’s never a good idea to advertise yourself as a lottery winner. You’ve become an overnight millionaire, and many people will look to take advantage of that. This can include family members, friends, and even strangers.
Seven states allow lottery winners to maintain their anonymity: Kansas, Maryland, North Dakota, Texas, Ohio, and South Carolina. Some states allow lottery winners to form a trust to claim the prize money anonymously.
Others, like California, don’t allow lottery winners to stay anonymous. If you live in one of these states, don’t claim your prize money immediately. Wait at least a week to attract as little media attention as possible.
3. Consult a financial advisor
Finally, both Collins and Ohman recommend consulting with a financial advisor to ensure you’re making good financial decisions. “If you win big in the lottery, one of the best things you can do is find a reputable financial advisor to help you plan how to make your windfall provide for you throughout the rest of your life,” Ohman explains.
According to Ohman, most lottery winners spend all their winnings and end up in a worse financial position than before they won. “It shouldn’t be that way. A lottery win can result in a lifetime of increased comfort and financial freedom with wise investing in a diversified portfolio.”
Jamie Johnson is a Kansas City-based personal finance writer whose work has been featured on several of the top finance and business sites in the country, including Insider, Credit Karma, Bankrate, Rocket Mortgage, Fox Business, Quicken Loans, and The Balance. For the past five years, she’s dedicated more than 10,000 hours of research and writing to more than 2,000 articles about personal finance topics.