Prediction market traders face considerable uncertainty regarding their tax obligations, as the IRS has yet to issue specific guidance on how winnings and losses should be treated. Tax experts suggest income could fall under less favorable gambling income rules, or more advantageous capital gains or Section 1256 contract classifications.
This regulatory vacuum is further complicated by state-level legal battles that often classify prediction markets as gambling, conflicting with the CFTC’s view of them as regulated swaps.
The lack of a unified federal framework, alongside these jurisdictional disputes, leaves participants and platforms eager for clear direction from the IRS.
The burgeoning world of prediction markets, where participants bet on future events from political outcomes to sports scores, is booming. Yet, a crucial question hangs over traders: How exactly are these winnings taxed? The Internal Revenue Service (IRS) remains conspicuously silent, leaving a significant void in tax guidance.
This lack of clarity makes navigating tax obligations "extremely confusing" for users, as noted by Ryan Schutz, founder of First There Tax and a former IRS special agent. Without official direction, tax professionals are left speculating, grappling with multiple potential classifications for prediction market income.
- The IRS has not yet clarified the federal tax treatment for prediction market gains and losses.
- Tax experts face challenges determining the appropriate categorization for these contracts, whether they involve predicting a World Cup winner or other event outcomes.
- Currently, income from prediction markets could potentially fall under gambling income, capital gains, or be treated as Section 1256 contracts.
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While the year is well underway, official guidance from the IRS on federal tax treatment for prediction market winnings and losses is still pending, creating uncertainty for a rapidly growing user base.
Tax experts currently identify three primary ways income from prediction markets might be classified: as gambling income, capital gains, or under Section 1256 contracts. Each category carries vastly different tax implications.
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For instance, President Donald Trump's "One Big Beautiful Bill Act" introduced a 90% cap on gambling loss deductions. This means if a taxpayer wins $100 and loses $100, they could still owe taxes on $10, a less favorable scenario compared to previous treatments. "Sports gambling is actually in very bad tax treatment right now," explains Nathan Goldman, a professor of accounting at North Carolina State University.
In contrast, capital gains treatment allows taxpayers to offset up to $3,000 of ordinary income with realized losses exceeding gains. Even more attractive is the Section 1256 contract classification, typically applied to futures contracts. Under this rule, 60% of capital gains are taxed at the lower long-term rate (0%, 15%, or 20%), while 40% are subject to the higher short-term rate (up to 37%), regardless of how long the asset was held. For most individuals, "the 1256 treatment or capital gain treatment would result in the least amount of tax," Schutz noted.
Unique Event Contracts May Face Different Treatment
The complexity is further amplified by innovative financial products. Prediction market platform Kalshi, for example, introduced perpetual futures, or "perps," which lack expiration dates. Schutz suggests that such perpetuals, given their resemblance to traditional financial contracts without a specific end date, might warrant a different tax categorization than standard event contracts.
The absence of clear IRS guidance makes it incredibly challenging to apply a consistent tax framework. "Some contracts may look more like sports wagering, while others may resemble financial or economic forecasting," said George Salis, chief economist and senior tax policy director at Vertex. This broad spectrum of contract types complicates a unified tax approach.
Both Kalshi and Polymarket, prominent prediction market platforms, decline to comment on their role in helping users understand tax obligations, but they do provide Form 1099s to report activity. However, taxpayers must still report earnings even if a 1099 isn't received. Neither the IRS nor the Department of Treasury has responded to requests for comment on the matter.
States Assert Gambling Status for Prediction Markets
States, eyeing potential revenue, often argue that prediction market contracts should be categorized as gambling income. "Treating [contracts] as gambling income is more beneficial to [states], because that's a revenue driver," Schutz clarified. Following a 2018 Supreme Court decision empowering states to regulate sports gambling, many have implemented substantial taxes on online sports betting sites, some exceeding 50%.
Conversely, the Commodity Futures Trading Commission (CFTC) asserts jurisdiction over prediction markets, classifying their event contracts as swaps. North Carolina has attempted to navigate this federal-state divide by imposing a lower 6% tax on prediction market operators, distinct from its 23% tax on sports betting, potentially to avoid legal challenges from platforms.
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Jurisdiction Battle Escalates
The legal landscape is further muddled by ongoing disputes between states and prediction market platforms. States contend these platforms run illegal sports betting operations, while the CFTC intervenes to defend its exclusive jurisdiction over event contracts. A New York federal judge recently rejected Kalshi's bid to prevent the state from applying its gambling laws to sports-related contracts.
This converging patchwork of state laws complicates any potential federal tax framework. "If states come in and they start enacting their own laws, we have these converging laws all over the place and that makes what Washington ultimately does a lot more challenging," Goldman said.
Tax experts universally echo the desire for IRS clarity. "I would love to see IRS guidance. I think that would be the most definitive solution," Schutz affirmed, acknowledging that the IRS might be hesitant to issue guidance that contradicts the CFTC's stance. The wait for definitive answers continues for traders navigating this complex and lucrative domain.
Disclosure: CNBC and Kalshi have a commercial relationship that includes customer acquisition and a minority investment.
