Last Updated on May 16, 2026 by Patrick Camuso, CPA
Quick answer (read this first):
What this article addresses: Can prediction market activity qualify as a trade or business, and what changes if it does. The answer depends on the nature of the activity, how it is conducted, and how the underlying contracts are characterized. There is no single correct answer.
Why it matters: The applicable framework determines loss treatment, reporting form, estimated tax obligations, and access to elections with long-term consequences, not just rate. The consequences differ materially depending on whether contracts are characterized as capital assets, wagering transactions, or ordinary income instruments.
What is unsettled: The IRS has issued no guidance on when prediction market trading constitutes a trade or business. Courts have not addressed prediction market contracts specifically. Reasonable practitioners may reach different conclusions on the same facts. This article explains the frameworks and the relevant factors. It does not assert that any particular participant qualifies.
Who this applies to: The determination depends on specific facts: frequency, continuity, regularity, infrastructure, and profit motive, and requires individual analysis. The applicable framework depends on how the underlying contracts are characterized. Participants with mixed portfolios may face parallel analyses rather than a single unified determination.
Why This Question Matters Now
Whether prediction market activity constitutes a trade or business is a separate analytical question from the characterization question that most prediction market tax analysis addresses. Characterization determines what kind of income is produced, wagering income, capital gain, ordinary income. The trade or business question determines what statutory framework governs how that income is reported, what losses are deductible, and what elections may be available. The two questions are sequential but distinct, and the trade or business analysis produces materially different results depending on which characterization framework applies to the underlying contracts and what the participant’s actual activity looks like. For a detailed breakdown of how characterization affects loss treatment across all frameworks, see our prediction market loss deductions analysis.
The Three Characterization Contexts Under One General Standard
One general test applies across all prediction market activity which is continuity, regularity, and a primary purpose of income or profit constituting a livelihood rather than personal wealth management. Under Higgins v. Commissioner, personal investment management never qualifies regardless of scale or volume. Groetzinger reaffirmed the same test applies to gambling. That threshold applies to all three characterization contexts.
What differs is not the test but the instrument-specific analysis layered on top. Capital asset contracts require the additional determination that the taxpayer seeks profit from short-term price movements rather than outcome prediction for the investor/trader distinction developed in the securities context. Wagering contracts apply the general test directly, as Groetzinger confirmed gambling can satisfy it without requiring the taxpayer to offer goods or services to others. Ordinary income contracts also apply the general test directly, with no instrument-specific overlay, because no case law addresses this scenario.
Path 1: Wagering contracts, professional gambler framework.
Where contracts are characterized as wagering transactions under Section 165(d), the professional gambler test under Groetzinger applies. This path requires no analogy to securities law and no instrument classification beyond the wagering determination itself. Groetzinger was designed for this fact pattern. A professional gambler’s gambling winnings constitute net earnings from self-employment under Revenue Ruling 54-219, meaning self employment tax applies on top of regular income tax. The OBBBA 90 percent loss cap also applies. If the Groetzinger standard is not satisfied, the participant is a recreational gambler meaning Schedule A losses only, OBBBA cap still applies, zero expense deduction.
This framework applies only where the contracts at issue are characterized as wagering transactions under Section 165(d). It does not apply to contracts characterized as capital assets or ordinary income instruments. The general Higgins facts-and-circumstances test applies, and Groetzinger confirmed it applies to gambling without a goods-or-services requirement. A full-time gambler whose activity is regular, continuous, and pursued with a primary purpose of generating income or profit satisfies the general standard.
The Groetzinger standard is a facts-and-circumstances determination with no bright-line test. The Supreme Court explicitly declined to establish a specific rule, noting that resolution requires examination of the facts in each case. The central factors are regularity, continuity, and profit motive, not the type of instrument traded, the amount wagered, or the platform used. Applying Groetzinger to prediction market activity requires a complete review of the individual taxpayer’s specific facts and cannot be resolved by reference to any general profile of prediction market traders. A prediction market participant who devotes substantial time to event contract trading, maintains detailed position records, implements systematic strategies, and derives a primary or significant portion of income from that activity may satisfy the Groetzinger activity-level criteria.
Path 2: Ordinary income contracts, general Section 162 business.
Ordinary income contracts already produce ordinary losses by default. A participant who satisfies the general trade or business test gets Schedule C expenses, ordinary loss treatment without considering Section 475(f) election, OBBBA cap, or securities trader analogy or commodity classification threshold to overcome. The general Higgins facts-and-circumstances test applies directly which considers continuity, regularity, and primary profit motive constituting a livelihood evaluated on the operational facts alone. The self employment tax treatment of ordinary income from a prediction market trade or business has not been addressed in published guidance. If the general test is not satisfied, ordinary income on gains is still taxable and losses may be nondeductible entirely under the extinguishment doctrine.
Where the general Higgins test is satisfied, the activity constitutes a Section 162 trade or business and expenses are deductible on Schedule C. Losses are ordinary and deductible against all income. The OBBBA gambling loss cap does not apply.
Path 3: Capital asset contracts, investor/trader distinction.
This path exists and may produce favorable outcomes, but it is not the default for event contracts and should not be the starting point for analysis. It requires establishing capital asset treatment first, which is uncertain for event contracts that simply resolve at maturity since the extinguishment doctrine may apply where there is no underlying property. Only where capital treatment is affirmatively established does the investor/trader distinction apply, and that case law was developed for securities with no direct authority for event contracts. A Section 475(f) election then requires a further unresolved threshold which is the commodity classification under Section 475(e)(2).
None of these contexts has been addressed by the IRS or a court for prediction market contracts specifically. The analysis applies established legal standards to a novel instrument class and requires contract-level and participant-level analysis in each case. For participants with mixed portfolios, different classifications may apply simultaneously to different contract categories within the same account. A participant whose book contains multiple contract categories may need to run separate analyses for each and report the results accordingly.
What Trade or Business Status Actually Changes
Where prediction market contracts are wagering transactions and the Groetzinger standard is satisfied, the professional gambler reports gambling income and losses on Schedule C rather than as gross income with an itemized deduction on Schedule A. That shift removes the itemization requirement that applies to recreational gamblers under Section 165(d), which is relevant for taxpayers whose standard deduction exceeds their itemized deductions.
Professional gambler status carries both a different reporting structure and significant additional obligations. The OBBBA 90 percent loss cap applies equally to professional gamblers. It is not limited to recreational participants. A professional gambler with equal gross winnings and losses still recognizes phantom income on 10 percent of gross winnings. That phantom income is included in the Schedule C net earnings from self-employment and is subject to self-employment tax at the applicable rate.
This is a significant consequence that the professional gambler pathway carries that the investor/trader pathway does not. Under Revenue Ruling 54-219, a professional gambler’s net earnings from self-employment, meaning net gambling income after allowable Section 165(d) losses are deducted on Schedule C, are subject to self-employment tax. SE tax applies to the Schedule C net, not to gross gambling winnings.
The Section 461(l) excess business loss limitation adds another layer of complexity. Under current law, Section 461(l) caps the amount of business losses that can offset non-business income in a given year, with the excess treated as a net operating loss carryforward. For a professional gambler, gambling losses are already limited by Section 165(d) before Section 461(l) is reached. How these two limitations interact, whether Section 461(l) applies to the Schedule C net after the Section 165(d) cap, and how the stacking of both limitations affects the calculation, has not been addressed in published guidance. The practical consequence is that the deductibility of gambling losses for a professional gambler involves at least two limitation layers, the analysis of which requires a multi-year projection that simple rate comparisons do not capture.
The Fact Profile That Supports Trade or Business Status
Trade or business status for prediction market activity is not self-evident from the volume of activity alone. The analysis is fact-specific and depends on the same factors courts have applied to securities and commodities traders.
Factors that support trade or business status include sustained, continuous trading activity throughout the year rather than episodic or seasonal participation; frequent transactions across multiple contract types and event categories; short holding periods consistent with profit-seeking from price movements rather than event speculation; documented profit motive with evidence of systematic strategy, position records, and performance tracking; infrastructure consistent with business activity including dedicated accounts, trading technology, data subscriptions, and time devoted to the activity; and for professional gambler status, the activity being a primary or significant source of income.
Factors that cut against trade or business status include infrequent transactions, participation limited to a single platform or contract category, holding contracts through resolution as a primary strategy rather than trading in and out of positions (relevant to the capital asset trader analysis only; not a factor in the professional gambler analysis, where holding to resolution is inherent in the nature of the activity), lack of documented methodology, and activity that is incidental to other professional or investment activity.
The fact profile that supports trade or business status varies depending on which framework applies and which contracts are at issue. A participant with a mixed portfolio may satisfy one framework for some contracts and a different framework for others, or may satisfy neither. Courts applying the trade or business standard have examined whether trading activity was sustained and continuous throughout the year; whether transactions were frequent across multiple contract types; whether holding periods were short and consistent with price-movement strategies; whether profit motive was documented through systematic strategy and performance records; whether the activity reflected dedicated infrastructure and time commitment; and whether the activity was a primary or significant source of income. No single factor controls. The presence of any combination of these characteristics does not establish trade or business status, and the absence of some does not foreclose it.
The determination requires a complete review of the taxpayer’s specific facts and cannot be made without that analysis. A participant who believes their activity may satisfy the trade or business standard should obtain a documented professional analysis before taking that position on a return. An unsupported assertion of trade or business status without a defensible factual and legal basis creates accuracy-related penalty exposure under Section 6662.
Why the Determination Needs to Be Made Before Filing
Trade or business status is not a position that can be adopted retroactively for favorable years and abandoned for unfavorable years. It is also not a position that can be asserted without a documented factual and legal basis. The determination should be consistent across years, supported by contemporaneous documentation, and applied to the full scope of the relevant trading activity. The factors supporting or undermining the determination should be analyzed before the return is prepared, not assembled in response to a notice. Given that neither the IRS nor any court has addressed this question specifically for prediction market contracts, the analytical work required to support a defensible position is more extensive than in a settled area of law.
For professional gamblers, the Schedule C reporting carries self-employment tax obligations that require estimated tax payments throughout the year. A participant whose gambling activity produces net income and who operates as a professional gambler without making estimated tax payments has likely underpaid and may face underpayment penalties independent of the income tax analysis.
The business status determination also has implications for how losses in prior years should be treated, whether amended returns are warranted for years where a defensible business status existed but was not claimed, and how the consistency requirement interacts with IRS guidance when it eventually arrives. For participants with mixed portfolios, the analysis must address each contract category separately. A position that Groetzinger applies to the wagering portion of a book does not resolve the trade or business question for the non-wagering portion, and each requires its own documented factual basis. These are questions that require professional analysis before a position is taken, not after. For a full overview of how Camuso CPA approaches prediction market tax engagements, see our Prediction Market CPA page.
For participants who have not yet begun trading, contemporaneous documentation created before activity starts strengthens the factual record supporting a trade or business position. A written trading strategy, infrastructure documentation, capital allocation plan, and description of the profit mechanism all establish the business-like character of the activity from inception rather than requiring reconstruction from transaction records after the fact. For pre-launch systematic trading operations, the documentation built before the first trade is often more defensible under examination than documentation assembled from historical data. That pre-launch documentation period is also the right time to resolve the trade or business question, the characterization question, and the entity question, before any of them are constrained by activity that has already occurred.
One additional risk applies to casual or recreational participants without a documented profit motive. Where the IRS determines that prediction market activity constitutes a hobby under Section 183, rather than an investment or business activity, the tax outcome is more adverse than any of the frameworks discussed above. Gains from hobby activity are included in income as ordinary income. Losses and expenses associated with hobby activity are not deductible at all for individual taxpayers. A participant who generates wins and losses from prediction market activity without a documented profit motive and systematic approach may find that gains are fully taxable while losses produce no tax benefit whatsoever, which is worse than gambling treatment, where at least some loss deductibility remains for itemizing taxpayers. This risk is not relevant to systematic traders with documented profit objectives, but it is a real exposure for casual or recreational participants whose activity does not clearly demonstrate the characteristics of investment or business activity.
Our prediction market tax reporting services include characterization analysis for participants whose activity raises trade or business questions, evaluation of available elections where applicable thresholds may be met, and position documentation designed to accurately reflect and substantiate the factual basis for the reporting position taken. The trade or business analysis is fact-specific and should be completed before the return is filed, not after.
Frequently Asked Questions: Prediction Market Trade or Business Status
Can a prediction market trader qualify as being in a trade or business?
It depends on the facts and on how the underlying contracts are characterized. The analysis starts with two questions. First, are the contracts wagering transactions under Section 165(d)? If yes, the professional gambler analysis applies. If no, go to the second question. Second, does the activity satisfy the general Higgins trade or business test, continuity, regularity, and primary profit motive constituting a livelihood, on the ordinary income path? If yes, Schedule C, ordinary loss treatment, SE tax unresolved. Capital asset trader analysis is a third path that exists for participants who can establish capital treatment and have a reason to prefer it, but it is not the default for event contract traders. A participant with a mixed portfolio may need separate analyses run for each contract category. Each determination is a facts-and-circumstances analysis that requires documented support. For a deeper analysis of the characterization question that precedes this analysis, see Are Prediction Market Profits Gambling Income?
What is the Groetzinger standard and how does it apply to prediction market traders?
Groetzinger applied the general Section 162 facts-and-circumstances test, already established through Higgins and the securities trader cases, to gambling activity and confirmed it applies without requiring the taxpayer to offer goods or services to others. The Court held that a taxpayer involved in an activity with continuity and regularity, with a primary purpose of income or profit, is engaged in a trade or business. The Court declined to establish a more specific test, holding that the facts of each case must be examined. That same general standard governs all three characterization contexts in this analysis. Applying it to prediction market activity has not been addressed by the IRS or any court.
Does professional gambler status eliminate the 2026 OBBBA gambling loss cap?
No. The 90 percent loss cap under the OBBBA applies equally to professional gamblers. A professional gambler with equal gross winnings and losses still recognizes 10 percent of gross winnings as phantom income. That phantom income is reported on Schedule C and is subject to self-employment tax in addition to regular income tax. For high-volume participants, this compounding effect is a material economic consequence of professional gambler status that must be factored into the trade or business analysis.
When should I work with a CPA on the trade or business determination?
Before the return is filed, and before any Section 475(f) election deadline passes. The determination requires documented contemporaneous analysis. It cannot be reconstructed retroactively from trading records alone. For participants considering the Section 475(f) election, the election window may require action before the prior year’s return deadline. Working with a CPA who has analyzed prediction market characterization questions specifically, rather than applying securities trader frameworks to event-based contracts, is essential given the unresolved analytical dimensions of this question. Our Prediction Market Tax Guide covers the full characterization framework in detail.
The trade or business analysis for prediction market activity is unsettled law applied to a novel instrument class. No position in this article constitutes legal or tax advice. The applicable framework depends on the specific contracts, platforms, and facts of each individual taxpayer’s activity and requires a documented professional analysis before any position is taken on a return. For a full analytical framework covering prediction market tax characterization across all platforms and contract types, see our Prediction Market Tax Guide. For professional assistance analyzing trade or business status for your specific prediction market activity, our prediction market tax reporting services are available.
