How are prediction markets taxed? IRS has not yet provided guidance

As prediction markets grow in popularity, traders are faced with important questions. That said, the Internal Revenue Service hasn’t released any details on how winnings will be taxed.

More than halfway through this year, the IRS has yet to share guidance on the federal tax treatment of prediction market wins and losses.

“I think it’s very confusing for prediction market users because there’s so much (conflicting) guidance out there,” said Ryan Schutz, a former IRS special agent and founder of First There Tax.

Tax experts say winnings from prediction markets could fall into several categories, including gambling income, capital gains or treatment under Section 1256 contracts.

President Donald Trump’s One Big Beautiful Bill Act includes a provision that would apply a 90% cap to gambling loss deductions. Previously, if someone won $100 and lost $100, no taxes were paid. However, under the new framework, taxpayers would only be able to deduct $90, which would still result in a final taxable award of $10.

“Sports betting actually has very bad tax treatment right now,” said Nathan Goldman, an accounting professor at North Carolina State University.

Capital gain treatment allows taxpayers with losses in excess of profits to offset up to $3,000 of realized losses against ordinary income.

Finally, futures contracts can be considered Section 1256 contracts. In this case, 60% of the capital gain would be taxed at the lower long-term tax rate and 40% would be taxed at the higher short-term tax rate. Long-term capital gains are taxed at either 0%, 15%, or 20%, while short-term gains are taxed as ordinary income and can be as high as 37%. This 60/40 split is consistent regardless of how long you hold the asset.

These guidelines are much more attractive to taxpayers than those that classify income as gambling.

“For the vast majority of people, either the 1256 treatment or the capital gains treatment will be the least tax-heavy,” Schutz said.

In May, prediction market platform Kalsi introduced perpetual futures, or “purps,” with no expiration date. Because criminals do not follow the same structure as traditional event contracts, different guidelines may apply, Schutz said.

“I could see someone making an argument that event contracts might fall into a different category than permanent contracts,” he says. “When I first learned about perpetual contracts, they felt like real financial contracts because they had no specific end date and followed the 1256 system.”

Without guidance from the IRS, tax experts say it will be difficult to determine the potential tax treatment of prediction market contracts, such as which team will win Sunday’s World Cup final.

“Some contracts may be similar to sports betting, while others may be similar to financial or economic forecasting,” said George Sallis, chief economist and senior tax policy director at Vertex. “That scope makes it difficult to create a single, simple tax framework that applies cleanly to all types of contracts.”

Sports-related event contracts continue to dominate major prediction market platforms, and have come under intense scrutiny from states and commentators who argue that such contracts are identical to those offered by sports betting sites.

Both Calci and Polymarket declined to comment on what role their prediction market platforms can play in helping users better understand their tax obligations, but both platforms offer users a Form 1099 to report activity. Taxpayers must report income even if they do not receive a 1099.

Neither the IRS nor the Treasury Department responded to CNBC’s requests for comment.

Prediction markets could generate tax revenue for states if the contracts are considered gambling.

“It’s more beneficial for (the state) to treat (the contracts) as gambling revenue because that’s what drives the revenue,” Schutz said.

Following a 2018 Supreme Court ruling that gave states the power to regulate sports betting, states such as Oregon, New York and New Hampshire have implemented at least a 50% tax on online sports betting sites.

The Commodity Futures Trading Commission asserts jurisdiction over prediction markets, saying the platform’s event contracts are structured as swaps.

Unlike other states, North Carolina recognized prediction markets as operating under the CFTC. The state imposed a 6% tax on betting market operators and a 23% tax on sports betting sites. The move could allow North Carolina to avoid lawsuits from prediction market platforms, Goldman said.

“I think North Carolina is probably saying, ‘If we go with a lower number, we won’t have as much of a fight in court over whether we’re allowed to impose this,'” Goldman said.

Several states are involved in lawsuits over prediction market platforms, accusing them of operating illegal sports betting operations. The CFTC has joined the fray, filing suit to defend its claims of exclusive jurisdiction over event contracts.

Earlier this month, a federal judge in New York rejected Mr. Carsi’s request to block New York from enforcing state gambling laws on the platform’s sports-related event contracts.

The case also complicated the tax situation from a federal perspective.

“If states come in and start passing their own laws, you’re going to end up with a convergence of laws like this all over the place, which ultimately makes it harder for Washington to do what it does,” Goldman said.

There is no clear roadmap for how prediction markets will be taxed, but tax experts told CNBC they would like to see some clarity.

“I’d love to see the IRS guidance. I think that would be the most definitive solution,” Schutz said. “I think the IRS would be reluctant to issue guidance that contradicts the CFTC’s position.”

Disclosure: CNBC and Kalsi have a commercial relationship that includes customer acquisition and minority ownership.