How are prediction markets taxed? The IRS hasn’t provided guidance yet
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As prediction markets grow in popularity, traders are facing a key question: The Internal Revenue Service hasn’t shared any details on how their winnings are to be taxed.
The year is more than halfway over, but the IRS has yet to share any guidance on the federal tax treatment for prediction market winnings and losses.
“I think it’s extremely confusing for the users of prediction markets because they’re getting a lot of [conflicting] guidance,” said Ryan Schutz, a former IRS special agent and founder of First There Tax.
Winnings from prediction markets could fit into several categories, tax experts said: gambling income, capital gains or treatment under a Section 1256 contract.
FanDuel, DraftKings and other online gambling apps are displayed on a phone in San Francisco on Sept. 26, 2022.
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President Donald Trump’s “One Big Beautiful Bill Act” has a provision that applies a 90% cap on gambling loss deductions. Previously, if someone won $100 and lost $100, they wouldn’t pay any taxes. Under the new framework, however, a taxpayer would only be able to deduct $90 and still wind up with $10 of taxable winnings.
“Sports gambling is actually in very bad tax treatment right now,” said Nathan Goldman, a professor of accounting at North Carolina State University.
Under capital gains treatment, taxpayers who have losses that exceed gains can use up to $3,000 in realized losses to offset ordinary income.
Finally, futures contracts can be deemed Section 1256 contracts. In this case, 60% of the capital gain is taxed at the lower long-term rate, while 40% is subject to the higher short-term rate. Long-term capital gains are taxed at either 0%, 15% or 20%, while short-term gains are taxed as ordinary income, which can have a rate as high as 37%. That 60/40 split is consistent regardless of how long an asset was held.
Those guidelines are much more attractive to taxpayers than those categorizing their income as gambling.
“For the vast majority of people, the 1256 treatment or capital gain treatment would result in the least amount of tax,” said Schutz.
Unique event contracts may face different treatment
In May, prediction market platform Kalshi introduced perpetual futures, or “perps,” which have no expiration dates. Because perps do not follow the same structure as a traditional event contract, Schutz said different guidelines may apply.
“I could definitely see an argument of someone saying that event contracts could have a different categorization than perpetuals,” he said. “When I first found out about the perpetuals, they felt more like a real financial contract because they don’t have a specific end date and that kind of tracks with the mechanics of 1256.”
Without guidance from the IRS, tax experts say it’s tricky to determine the tax treatment that may apply to prediction market contracts, such as which team will win the World Cup final on Sunday.
“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. “That range makes it harder to create one simple tax framework that applies cleanly across every type of contract.”
Event contracts related to sports continue to dominate on leading prediction market platforms and face high scrutiny from states and critics, who argue such contracts are identical to what sports betting sites offer.
While both Kalshi and Polymarket declined to comment on what role prediction market platforms can play in ensuring their users have a better understanding of their tax obligations, both platforms do provide users with a Form 1099 to report activity. Taxpayers still need to report their earnings even if they don’t receive a 1099.
Neither the IRS or the Department of Treasury responded to CNBC’s request for comment.
States say it’s gambling
Prediction markets may generate tax revenue for states if its contracts would be considered gambling.
“Treating [contracts] as gambling income is more beneficial to [states], because that’s a revenue driver,” Schutz said.
After a 2018 Supreme Court decision, which gave states the power to regulate sports gambling, states like Oregon, New York and New Hampshire have implemented at least a 50% tax on online sports betting sites.
The Commodity Futures Trading Commission asserts its jurisdiction over prediction markets, saying that the platforms’ event contracts are structured as swaps.
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Unlike other states, North Carolina recognized prediction markets as operating under the CFTC. The state imposed a 6% tax on prediction market operators and a 23% tax on sports betting sites. That move helps North Carolina possibly avoid getting sued by prediction market platforms, said Goldman.
“I think North Carolina is pretty much saying, ‘Maybe if we go in with a lower number, we won’t have as big of a fight in the courtroom over whether we’re allowed to impose this,'” Goldman said.
Jurisdiction battle
Earlier this month, a New York federal judge rejected Kalshi’s request to stop New York from implementing its state gambling laws on the platform’s sports-related event contracts.
The legal action has also made the tax picture complicated from a federal point of view.
“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.
While there is no clear roadmap on how prediction markets are levied, tax experts told CNBC they are eager for clarity.
“I would love to see IRS guidance. I think that would be the most definitive solution,” Schutz said.” I think the IRS might be hesitant to come out with guidance that conflicts with the CFTC position.”
Disclosure: CNBC and Kalshi have a commercial relationship that includes customer acquisition and a minority investment.