gambling taxes prediction markets Jun 11, 2026

Kalshi & Polymarket Tax Warning: The 90% Loss Trap Explained

By Clinton Donnelly, LLM, EA | CEO & Founder, CryptoTaxAudit

Prediction markets are exploding in popularity. Kalshi and Polymarket now draw millions of users betting on elections, sports outcomes, and financial events. Most of those users have no idea how their activity will be taxed.

The IRS has issued no specific guidance on prediction markets yet. That gap creates real risk. How your trades are classified, gambling versus capital gains, determines not just your tax rate, but whether your losses count at all.

Key Takeaways:

The IRS has not issued specific guidance on prediction markets. Tax treatment is determined by analogy to existing rules, and the wrong classification can cost you significantly.

Event-driven bets are treated as gambling. Wagering on elections, sports, or similar outcomes falls under gambling rules, not capital gains rules.

The 90% loss rule applies to gambling. You can only deduct 90% of gambling losses, and only up to the amount of your winnings.

Gambling losses are itemized deductions. With the 2027 standard deduction at $16,100, single, or $32,200, married, most traders will need to itemize their deductions to get a benefit.

Financial market predictions may qualify as capital gains. If your prediction market activity involves financial instruments such as commodities or indexes, different rules may apply.

What Are Prediction Markets?

Prediction markets allow users to bet on the outcomes of future events. Platforms like Kalshi and Polymarket operate as exchanges where traders buy and sell contracts tied to specific outcomes.

Some contracts are tied to elections, sports results, or cultural events. Others are tied to financial market performance, commodity prices, or economic indicators. That distinction matters a great deal to the IRS.

Regulated exchanges that operate through entities like Coinbase will issue a 1099 at year-end. That document will classify the transactions. But the underlying tax rules still apply, and understanding them before you trade is worth your time.

How the IRS Categorizes Prediction Market Activity

The IRS has not published specific guidance on prediction markets as of 2025. Without that guidance, tax practitioners apply existing rules by analogy.

The key question is: what are you betting on?

If you are wagering on event-driven outcomes (who wins an election, which team wins a game, whether aliens exist), the IRS treats that as gambling or wagering activity.

If you are wagering on financial market outcomes (the price of corn in December, where the Dow Jones Industrial Average will close, whether interest rates will rise), that activity is more likely treated as a capital asset transaction.

The line between the two is not always clear, and the IRS may not draw it the same way you do.

The Gambling Tax Rules: What They Actually Cost You

When prediction market activity is classified as gambling, a specific set of tax rules applies. These rules are significantly less favorable than capital gains treatment.

Gambling income is treated as ordinary income and taxed at your marginal rate. If you are in the 32% bracket, your winnings are taxed at 32%.

Losses are deductible only as itemized deductions. They cannot offset wages, investment income, or other sources of income directly.

If you take the standard deduction, your gambling losses provide zero tax benefit. For most traders, that is exactly what happens.

The 90% Loss Trap Explained

This is the rule that surprises most prediction market traders.

Under gambling rules, you can reduce your gambling income by deducting 90% of your losses. In other words, your deductible losses are capped at the amount of your winnings. If you lost $50,000 but only won $10,000, your deductible losses are limited to $10,000. The remaining $40,000 loss provides no tax relief.

Here is the trap in plain terms: you could lose far more than you won, still owe income tax on your winnings, and get no deduction for the bulk of your losses. It is possible to owe taxes in a year where you lost money overall.

The Standard Deduction Trap

Even when losses are technically deductible under gambling rules, most traders never see the benefit.

Gambling losses are itemized deductions. To claim them, your total itemized deductions must exceed your standard deduction.

For 2027, the standard deduction is $16,100 for single filers and $32,200 for married filers filing jointly.

If your total itemized deductions, mortgage interest, state and local taxes, charitable contributions, and gambling losses combined, do not exceed those thresholds, you take the standard deduction and your gambling losses are worth nothing.

The result is that most casual prediction market traders get no tax benefit from their losses, while their winnings are taxed at full ordinary income rates.

Capital Gains Treatment: When It Applies

If your prediction market activity involves financial market indicators, such as commodity prices, index levels, or interest rate movements, there is an argument that it should be treated as a capital asset transaction rather than gambling.

Capital gains treatment offers several meaningful advantages.

First, all losses are deductible. There is no 90% haircut.

Second, net capital losses up to $3,000 per year can offset ordinary income. Losses beyond that carry forward to future tax years.

Third, long-term holdings qualify for lower tax rates: 0%, 15%, or 20%, depending on your income level.

Fourth, transaction costs can be included in the cost basis calculation, reducing your taxable gain.

The classification is not automatic. The IRS has not formally ruled on which prediction market contracts qualify for capital gains treatment. The analysis depends on what the contract tracks and how it is structured.

What to Do Before Tax Season

Prediction market taxation is unsettled. That does not mean you can ignore it. It means you need to be intentional before the year ends.

Keep records of every transaction, including the amount wagered, the outcome, and the platform. If your platform issues a 1099, review it carefully. The classification on that document will shape how the IRS expects you to report.

If your activity on platforms like Kalshi or Polymarket was substantial, consult a tax professional before filing. The gap between gambling treatment and capital gains treatment can represent a significant dollar difference in what you owe.

CryptoTaxAudit works with traders across all digital asset platforms, including emerging prediction markets. A free consultation can clarify how your specific activity is likely to be treated.

Frequently Asked Questions About Prediction Market Taxes

Q: Are Kalshi and Polymarket winnings taxable?

A: Yes. All income from prediction markets is taxable. The classification, gambling income versus capital gains, determines the rate and how losses are treated, but the income itself must be reported regardless.

Q: What is the 90% gambling loss rule?

A: Under federal gambling tax rules, only 90% of total gambling losses are deductible. That deduction is also capped at the amount of your winnings. If your losses exceed your winnings, the excess is not deductible.

Q: Can I deduct prediction market losses on my tax return?

A: It depends on how the activity is classified. Gambling losses are deductible only as itemized deductions, up to 90% of total losses, and only to the extent of your winnings. Capital losses are treated more favorably, with up to $3,000 deductible against ordinary income per year and the remainder carrying forward.

Q: How does the IRS classify prediction market activity?

A: The IRS has not published specific guidance on prediction markets. Tax professionals apply existing rules by analogy. Event-driven bets are generally treated as gambling. Bets tied to financial market performance may qualify as capital asset transactions. The classification matters significantly for how losses are treated.

Q: What is the standard deduction trap for gamblers?

A: Gambling losses are itemized deductions. If your total itemized deductions do not exceed the standard deduction, $16,100 for single filers or $32,200 for married filers in 2027, you cannot benefit from your gambling losses at all, even if they were substantial.

Q: Could I owe taxes even if I lost money on prediction markets overall?

A: Yes. Under gambling rules, your winnings are taxed as ordinary income. Your losses are only deductible up to 90% of the loss amount and only to the extent of your winnings. If your deductions are limited by the standard deduction, you could owe tax on winnings even in a year where your net result was a loss.

Q: Will Kalshi or Polymarket send me a tax form?

A: Platforms operating through regulated exchanges may issue a 1099 at year-end. That form will reflect how the platform classifies your transactions. Review it carefully and compare the classification to your actual activity before filing.

Q: I traded actively on Polymarket this year. What should I do?

A: Gather complete records of your transactions, including dates, amounts, and outcomes. Consult a tax professional before filing. The difference between gambling treatment and capital gains treatment can be substantial depending on your volume and the type of contracts you traded.

Q: Need help figuring out how your prediction market activity will be taxed?

A: CryptoTaxAudit offers a free consultation for traders in exactly this situation. Book a call with the team at CryptoTaxAudit.