Kalshi and prediction markets in Arizona: taxes and legal status

Arizona taxes all income at a flat 2.5% for tax year 2025, for every filing status. The flat rate has applied since tax year 2023.

Arizona taxes short-term gains like other income at 2.5%. The state subtracts part of net long-term gains on assets bought after 2011 (A.R.S. 43-1022), but nothing for short-term gains.

Arizona allows gambling losses only as an itemized deduction. A.R.S. 43-1042 lets you itemize what the federal code allows, so the federal cap at your winnings applies. If you subtract Arizona lottery winnings and also deduct losses, Arizona Schedule A has an adjustment for that.

• Arizona taxes gambling winnings because it starts from federal adjusted gross income. Arizona lottery winnings have their own subtraction.
• A.R.S. 43-1042 says you may elect itemized deductions instead of the standard deduction. Arizona instructions say to complete a federal Schedule A first. The statute does not say your choice must match your federal return.
• Arizona follows the federal 90% limit from 2026, because A.R.S. 43-105 adopts the Internal Revenue Code as of January 1, 2026 and Arizona itemized deductions follow federal law.

As of October 27, 2026, a federal court order bars Arizona from enforcing its gambling laws against event contracts listed on CFTC-regulated exchanges, which covers Kalshi, Crypto.com and similar platforms. Arizona's attorney general filed 20 criminal misdemeanor counts against Kalshi in March 2026, but the federal order stops that enforcement while the case continues. The state has appealed to the Ninth Circuit, so the order could change.

States say prediction market sports contracts are bets that their gambling laws cover, while Kalshi and the CFTC say they are swaps, a kind of derivative that only the federal Commodity Exchange Act and the CFTC regulate. The Third Circuit appeals court sided with Kalshi against New Jersey in April 2026, while the Ninth Circuit (Nevada, August 2026) and the Sixth Circuit (Ohio and Tennessee, September 2026) ruled for the states, all at the preliminary stage. The Fourth Circuit (Maryland) heard argument in May 2026 and had not ruled as of October 27. New Jersey's petition to the Supreme Court, Flaherty v. KalshiEX (No. 26-299), is waiting on Kalshi's response due November 9, 2026, and the Court has not yet said whether it will hear the case. On October 9, 2026 the CFTC proposed a rule defining event contracts as swaps.

The IRS hasn’t said how prediction market trades are taxed, so you pick one of four federal methods: capital gains, ordinary income, gambling or Section 1256. Arizona starts from your federal figures, so the method you choose federally generally carries onto your state return. If you report as gambling, the loss rules above apply. The four methods, compared.

The court cases are about whether Arizona can license or stop the platforms. None of them decides how your trades are taxed. Trades you already made, including positions an order made you close, still count in your tax year.