4 Aug 2015

Understanding the legality of penny auctions- Guest post by Sourya Banerjee

[In this post, Sourya Banerjee, student of Faculty of Law, IFHE Hyderabad discusses the legality of penny auctions and whether they could be considered as gambling under Indian law. He also points out the lack of any regulatory mechanism concerning penny auctions in India.]

Unlike a traditional auction where only the high bidder has to pay, every player in a Penny Auction pays each time they bid on an item. In a Penny Auction there is a set ending time but each time there is a bid addition time is added. The person who places the last bid before time expires is declared the winner. Bidders have no way of knowing when time will expire since more time is added with each new bid. In order to remain the player with the highest bid, they have to keep bidding and paying each time they are out bid. The purveyor of the penny auction charges the final selling price to the winning bidder and collects a fee for every bid placed.

For example, let us consider this scenario, there is a prize with a value of $1,000.Anyone can be a player and to compete for the prize players must simply take turns drawing cards. There is no limit to the number of cards that can be drawn but each time the player draws a card they must pay $0.60. Each time a card is drawn the ultimate winner must pay an additional $0.01 to finally redeem the prize. It should be understood that the Players do not know if and when another player will draw a card. The winner is the last person to draw a card after no additional cards have been drawn for 1 minute. This in essence is a Penny Auction. India currently has Delhibid, BidderBoy and Jeetle as few active Penny Auction sites.

Even though it is referred to as an auction, there are certain key differences between a physical or online auction and penny auctions. In a real auction the winner is the person willing to pay the most of that item. Only the highest bidder has to pay. The auction is over when no other bidder will increase the amount bid. In the penny game the final redemption price has little to do with the value of the item. There are other bidders who are willing to pay more for that item then the winning bidder paid. Each bidder has to pay every time they draw regardless of actually winning the item. Bidders in Penny Auction try to be the last player to place a bid, thus winning the prize.

Since the value of the prize is high relative to the price of a bid, naturally people will be interested in bidding. It is just like a lottery or a raffle. There is a low cost to play and a large reward for the winner. Like a raffle or lottery the total amount charged in the bids may exceeds the value of the prize. Ultimately it is in essence just chance that the player will place the last bid. This is because even if the bidder has set a limit of how much they are willing to spend, they have no way of knowing how much the other bidders are willing to spend or how many bidders are there. Supporters of Penny Auction argue that technically, this issue is the same for a normal auction too.

Critics of Penny Auction, such as Brian Kongszik of the Florida Council on Compulsive Gambling, claims that the sites meets the definition of gambling. The prize is the potential low cost of the product, the chance is that the consumer will be outbid and will be unable to continue the bidding process, and the consideration is the money lost on registration and bid packs. Critics also claim it can be addictive like gambling. It is pertinent to note at this point, that no country has till date held Penny auctions to be illegal per se.

In penny auctions, there are usually many people paying for the “chance” to be the high bidder. If they do not “win” they get nothing for their money. That money is applied towards the profits for the seller (the “house” in a gambling casino) and only one person may get something of value, while others lost money so that the seller and final purchaser receive any value. This is, in essence, the definition of gambling. Some penny auction sites have the option of getting your bids either refunded or the bid amount used to buy some other product. In that case again, a losing bidder technically doesn’t lose anything on the bid.

Generally for an activity to be considered gambling as a matter of law, three elements must be present: consideration, chance and prize. Hence the important question that arises is whether, Penny Auctions have substantial element of ‘chance’. Leaving aside the amount for each bid, penny auctions are exactly like a normal auction. It depends not on chance but on how much money is an individual willing to spend for a product.

But the question which remains is that, if Penny Auction is not gambling but yet addictive, can it be compared to online gaming? Gaming is not defined in the Public Gambling Act of 1867, but is for instance, defined in the West Bengal Gambling & Prize Competition Act, 1957 to include wagering or betting except wagering or betting on horse races. Bombay (now Maharashtra) Prevention of Gambling Act 1887 which defines “gaming” in similar terms as the Bengal Act. Hence to determine whether Penny Auctions are “gaming” or not, it is important that it be determined whether they are wagering contracts is the first place.

An essential of wagering Contracts, which are void as per Section 30 of the Indian Contracts Act, 1872, is that the uncertain event is not in the hands of the parties and cannot be controlled by anyone. But in the case of an auction, the ‘event of sale’ is not determined by any uncertainty but by the strategy of the bidders. Also, as per Black’s Law dictionary has defined wager as, “the staking of money or money’s worth on any uncertain event in which the parties do not have any personal interest or consideration.” In case of auctions, there is an element of personal interest in the so called uncertain event, i.e, the sale of the good. Hence it cannot be termed as wagering.

QuiBids, which is one of the most successful Penny Auction website in the world, contends that Penny Auctions cannot be considered as gambling as they depend on the skill of the customers. The auction is 100% customer-driven, which means that the outcomes are determined completely by the users. A variety of factors influence each auction’s outcome, including the popularity of the item up for auction, the number of bidders in the auction, the experience level of the bidders in the auction, and even the time of day. None of these are matters of chance and winning a Penny Auction needs clear strategizing.

Also it should be noted that betting is the act of risking money or money’s worth on an uncertain future event. Bidding on the other hand is offering to pay a particular amount of money for a good put on sale. Hence a Penny Auction can neither be considered betting or gaming to come under the preview of Public Gaming Act.

Section 64 of the Sale of Goods Act, 1930, refers to an auction sale in general and lays down its rules.-

In the case of sale by auction-

  • where goods are put up for sale in lots, each lot is prima facie deemed to be the subject of a separate contract of sale.
  • the sale is complete when the auctioneer announces its completion by the fall of the hammer or in other customary manner, and, until such announcement is made, any bidder may retract his bid.
  • a right to bid may be reserved expressly by or on behalf of the seller and, where such rights is expressly so reserved, but not otherwise, the seller or any one person on his behalf may, subject to the provisions hereinafter contained, bid at the auction,
  • where the sale is not notified to be subject to a right to bid on behalf of the seller, it shall not be lawful for the seller to bid himself or to employ any person to bid at such sale, or for the auctioneer knowingly to take any bid from the seller or any such person, and any such person, and any sale contravening this rule may be treated as fraudulent by the buyer.
  • the sale may be notified to be subject to a reserved or upset price.
  • if the seller makes use of pretended bidding to raise the price, the sale is voidable at the option of the buyer.

Incidently, Penny Auction technically does not violate any of these provisions.

Status of Penny Auction in India:

Though no legislation or Government action expressly prohibits penny auctions in India or restricts them to any industry/sector, the following Acts must be noted:

1. Payment and Settlement Systems Act, 2007

Section 4 (1) of the Act states that, “No person, other than the Reserve Bank, shall commence or operate a payment system except under and in accordance with an authorisation issued by the Reserve Bank under the provisions of this Act.”

The Act goes on to say any payment system or clearing house with less than 51% of the equity held by an Indian bank requires authorization to operate in India. The Act gives RBI all authority over all aspects of payment processing in India, as well as the rights to enter and inspect with or without notice and access to all financial and customer data upon request. The most important factor here is RBI has the right to make policies almost on demand (in consonance with this Act) for all things involving payment processing. So in short, RBI has the full right to instruct banks to decline or refuse and payments or deposits involving any particular payment processor, e-wallet or clearing house. While they seem more concerned with going after businesses and freelancers who might be evading tax, should they in the future decide to go after gambling processors, the legal framework and authority for them to do so already exists.

2. Information Technology (Intermediaries guidelines) Rules, 2011.

These Rules are issued under authority granted in Information Technology Act, 2000. In short this Act instructs Internet Service Providers and Website Hosts, to block access to certain types of websites and content. Rule includes anything “relating or encouraging money laundering or gambling”.

Considering the fact that Penny Auction sites are mostly stated to resemble a hybrid child of lottery and an auction, it should be noted that under Indian Laws, State run lottery is not considered illegal gambling as such, where as general lotteries are. Auction of any kind (online or physical) are completely legal. But due to the vagueness of the laws, in the current scenario Penny Auctions in India can be deemed to be legal and unrestricted regardless of the sector or industry which chooses to utilize it, unless it violates other laws of the land, like Consumer or Competition laws. And it will remain unchanged and vague till the Supreme Court’s decision in the case of Mahalakshmi Cultural Association matter comes out, on whether staking money on games of skill is legal or not.

The author is a final year BBA-LLB (Hons.) student of Faculty of Law, IFHE, Hyderabad. A passionate blogger, he writes for The Indian Economist and is a Guest contributor for LiveLaw. Views expressed are personal.

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