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Prediction markets offer events based on sports, and while they resemble conventional sports betting, they are taxed more like investments. Bettors have taken notice, hoping these markets can provide a legal or financial edge by allowing sports-related activity to be taxed as investing rather than gambling.
Trading sports-event contracts on prediction markets is relatively new, and uncertainty remains over whether the current tax code will hold. The rules could create a de facto tax advantage, but the Internal Revenue Service (IRS) has the final say and could treat “sports trades” on prediction markets the same as traditional gambling. Here’s a breakdown of how prediction markets might create a tax loophole for sports bettors.
Trump’s tax overhaul changed sports betting deductions
Before then-President Donald Trump’s 2017 tax overhaul, bettors could deduct 100% of their losses against winnings if they kept detailed records. A few lucky wins could wipe out the tax bill for a losing year.
Trump’s tax package, known as the Tax Cuts and Jobs Act, increased the standard deduction. As a result, fewer bettors now itemize deductions, making it difficult for casual bettors to offset losses. The IRS requires bettors to report wins and losses separately, not as net amounts. Casual bettors “who are not in the trade or business of gambling” must report certain payouts. Losses are still deductible if properly itemized, but only up to the amount of winnings.
Prediction markets and investing versus betting
Many prediction markets operate under broad derivatives rules. Instead of placing wagers, traders buy and sell contracts based on the outcomes of future events, including politics, economics, elections, and sports. Probabilities fluctuate as prices change, and contracts are structured as binary yes/no bets, meaning traders lose their entire stake if the outcome is wrong.
These contracts are treated as financial products rather than traditional sports bets. Many bettors and tax professionals argue that profits from these trades should be treated as ordinary investment income or capital gains instead of gambling winnings.
Prediction markets are regulated by financial authorities like the Commodity Futures Trading Commission (CFTC), while online sportsbooks and casinos are overseen by state gaming commissions. The IRS has not issued explicit guidance on how prediction markets should be categorized, creating a regulatory gap. This gap can produce a perceived tax advantage: losses may be netted against other gains in a brokerage account, and the timing of recognition can be more flexible compared with traditional gambling’s strict year-by-year reporting rules.
Are prediction markets a legal tax loophole?
Under Trump’s tax law, bettors can still deduct losses up to the level of winnings, but fewer players itemize, limiting practical use. Reports, including one from Yahoo, have cited prediction markets as potential tax loopholes. Platforms associated with Coinbase consider these markets a more tax-efficient alternative to a weekend in Las Vegas. Traders using cryptocurrency can treat these contracts as part of a broader investment portfolio rather than isolated bets.
This challenges the traditional gambling industry, which has accepted its classification as taxable entertainment. Coinbase’s involvement signals that crypto platforms are already exploring opportunities in how the tax code treats speculative activity. Crypto firms’ experience navigating gray areas of securities and commodities law may give them an edge.
IRS risks: How safe is the tax advantage?
The loophole’s reliability depends on IRS interpretation. While prediction contracts are structured as financial instruments, regulators could argue they resemble conventional sports bets. The IRS could classify them as gambling, taxing them accordingly.
James Creech, a principal at Baker Tilly’s specialty tax practice, notes that the IRS can define gambling as it chooses. Labels may matter less than the economic substance of the activity, which carries inherent risk.
For now, the perceived loophole may give prediction markets an edge, but bettors should not rely heavily on it. The IRS can change classifications and enforce compliance at any time. A large-scale migration of sports bettors to prediction markets could even prompt stricter oversight.
The future of sports trading and prediction market taxes
High-volume sports bettors could benefit financially by shifting from traditional sportsbooks to prediction markets. Users can create a portfolio of contracts covering sports, politics, and economics, netting gains and losses across events. This could lead to substantial tax savings.
However, prediction markets are not a guaranteed haven. Many states already restrict sports contracts on these platforms—for instance, New York allows prediction markets but bars sports-related contracts. Traditional sportsbooks continue operating under gambling regulations, while prediction markets exploit gaps in securities and commodities law, leaving the regulatory landscape uneven.
