Why Lottery Winners Go Bankrupt

CALLIE ROGERS blew a 2003 U.K. lottery jackpot of $3 million on shopping, cocaine, friends and breast augmentation and told reporters two years ago she was working as a maid. William "Bud" Post squandered his 1988 Pennsylvania prize of more than $16 million on houses, vehicles and bad businesses before going bankrupt and serving time for firing a shotgun at a bill collector before his death in 2006.
Are these outcomes rare? A recent study of Florida lottery winners suggests no.

Economists at the University of Kentucky, University of Pittsburgh and Vanderbilt University wanted to answer a public policy question: What happens when individuals in financial trouble are given large lump sums? So they collected data from nearly 35,000 winners of up to $150,000 in Florida's Fantasy 5 lottery from 1993 to 2002, and cross-referenced this information with state bankruptcy records.

Their findings, published last fall in The Review of Economics and Statistics, show that a big lottery score does little to reduce the likelihood of bankruptcy.

More than 1,900 winners went bankrupt within five years. That number implies that 1% of Florida lottery players (winners and losers) go bankrupt in any given year, about double the rate for the broader population during the study period.

Big lottery winners, defined by the researchers as those awarded between $50,000 and $150,000, were half as likely as small lottery winners to go bankrupt within two years of their score but just as likely to go bankrupt three to five years after. "The results show that giving $50,000 to $150,000 to people only postpones bankruptcy," the authors concluded.

Perhaps most shocking, the typical big winner in the sample was awarded a prize of $65,000, while the most financially distressed ones had unsecured debt of $49,000. In other words, the cash was more than enough to pay off everything most winners owed.

The researchers offer a few theories on why so many winners went bust. Prior research has shown that lottery players have below-average incomes and education; it's no great leap to assume they tend to have limited financial literacy (even compared with a general population that has been shown to sorely lack it). Winners might also engage in something behavioral economists call mental accounting by treating their winnings less cautiously than they would their earnings. Of course, winners might simply "develop a taste for luxury goods that outlasts their money," the researchers write.

There's a more cynical explanation. Florida bankruptcy law allows for an unlimited homestead exemption. That means lottery winners there who are deep in credit card debt have an incentive to put their windfalls toward their home equity. If they file for bankruptcy later, collectors can't touch the cash.