What Happened on February 28, 2026

U.S. and Israeli forces conducted joint strikes on Iran on February 28, 2026 (Operation Epic Fury), killing Supreme Leader Ayatollah Ali Khamenei. Prediction markets reacted immediately.

Polymarket set a daily volume record of $425 million. Over $529 million was wagered on "US strikes Iran" contracts since December 2025, and $58 million specifically on Khamenei-related markets. Kalshi hosted $54 million on its "Ali Khamenei out as Supreme Leader?" market, with $21.7 million traded on February 28 alone.

The markets moved. The money moved. And now the IRS expects you to report it.

The Kalshi Death Carveout and $2.2 Million Refund

Kalshi's contract rules contained a "death carveout": if Khamenei's departure was "solely because they have died," the market would resolve at the last traded price before death confirmation, not the full $1.00 payout. After Khamenei's death was confirmed, Kalshi invoked this clause.

The backlash was immediate. One Discord user wrote to Kalshi: "What you're doing is stealing." After sustained pressure, Kalshi reimbursed all fees and net losses, at a cost of approximately $2.2 million. No trader ended net-negative. On March 2, 2026, Kalshi filed a rulebook amendment with the CFTC formally codifying a "Death Rule" settlement hierarchy.

A class-action lawsuit was filed on March 5: Risch v. KalshiEX LLC, Case No. 2:26-cv-02390 (C.D. Cal.), alleging breach of contract and California consumer protection violations over the death carveout.

Tax treatment of Kalshi refunds: Refunded contracts generally produce no gain or loss. You received back what you paid. If Kalshi reimbursed your fees, those reimbursements may reduce your deductible expenses for the year. Keep records of both the original transaction and the refund.

Suspected Insider Trading on Polymarket

Blockchain analytics firm Bubblemaps identified six new Polymarket accounts that collectively netted $1.2 million in profits. All six accounts were created and funded within 24 hours of the strikes. The account "Magamyman" alone made $553,000 betting on Iran-related outcomes hours before news broke.

Six Democratic senators led by Adam Schiff wrote to CFTC Chairman Selig urging a ban on death-adjacent contracts, with a March 9, 2026 deadline for response. Rep. Ritchie Torres introduced the "Public Integrity in Financial Prediction Markets Act of 2026" (H.R. 7004). The End Prediction Market Corruption Act was introduced March 5, banning government officials from trading event contracts.

Whether the suspected insider trading was actually illegal depends on whether event contracts are securities (SEC jurisdiction), commodities (CFTC jurisdiction), or gambling (state jurisdiction). This classification question remains unresolved.

How to Report Your Iran Prediction Market Gains

Polymarket Gains (Offshore)

All worldwide income is taxable under IRC Section 61. This applies whether or not Polymarket operates legally in the U.S., whether or not you used a VPN, and whether or not the platform sends you any tax forms. Moral controversy does not create a tax exemption.

Polymarket trades settle in USDC on the Polygon blockchain. The tax treatment of each step:

  • Purchasing USDC with fiat: Not taxable (IRS FAQ A5, stablecoins pegged at $1).
  • Converting other crypto (BTC, ETH) to USDC: Taxable disposition. You owe tax on any gain from the conversion.
  • Trading USDC for outcome tokens on Polymarket: Technically a disposition of USDC, but the gain on USDC is effectively zero due to the dollar peg.
  • Receiving payout when a contract resolves in your favor: The difference between your cost and payout is your taxable gain.

If you held funds on Polymarket International (operated from the Bahamas through Polo Digital Assets, Ltd.), you may also have FBAR obligations if the aggregate value of your foreign financial accounts exceeded $10,000 at any point during the year. FATCA (Form 8938) may apply if foreign assets exceeded $50,000.

Kalshi Gains (Domestic)

If you traded the Kalshi Khamenei market and received a refund, you likely have no net gain or loss on that specific contract. However, gains from other Iran-related markets on Kalshi are taxable. The classification question (Section 1256, gambling, or ordinary income) applies to these gains the same way it applies to all Kalshi trades. See our prediction market tax services page for the full analysis of all three approaches.

Federal Law on Death and War Contracts

7 U.S.C. Section 7a-2(c)(5)(C) prohibits futures on "terrorism, assassination, or other event of a similar nature." This prohibition applies to U.S. exchanges only. Polymarket International (offshore) is not directly subject to this provision. Kalshi designed its "death carveout" specifically to avoid offering a contract that directly resolves on death.

The prohibition does not change your tax obligation. Even if a contract were later found to violate this provision, gains from that contract remain taxable under IRC Section 61.

The OBBBA 90% Cap and Prediction Markets

If you classify your prediction market gains as gambling income, the OBBBA's amendment to Section 165(d) caps gambling loss deductions at 90% for tax years beginning after December 31, 2025. This means Iran market trading activity in 2026 is subject to the cap. Activity in 2025 (for returns being filed now) is not.

If you classify gains as Section 1256 or ordinary income, the 90% cap does not apply. This classification question is one of the most consequential tax decisions prediction market traders face. Read the full analysis of all three tax treatments.

What to Do Now

  1. Download your trade history from every platform you used (Kalshi, Polymarket, Robinhood). Kalshi provides year-end P&L reports. Polymarket requires you to reconstruct trades from blockchain records.
  2. Separate Iran-specific trades from your overall prediction market activity. Kalshi refunds should be tracked separately.
  3. Evaluate your FBAR and FATCA obligations if you traded on Polymarket International.
  4. Choose a tax treatment (Section 1256, gambling, or ordinary income) and apply it consistently across all your prediction market activity, not just Iran trades.
  5. Consider Form 8275 if you take a non-obvious position (such as Section 1256 treatment). The disclosure reduces penalty exposure if the IRS later disagrees.
  6. File on time. You have a filing obligation regardless of whether the IRS has issued specific guidance. File by the deadline or file an extension. If the IRS later clarifies the treatment differently, you can file an amended return within 3 years.

Learn about our prediction market tax services | Read the full prediction market tax guide | Gambling tax services

Key Takeaway

The Iran prediction market controversy generated hundreds of millions in trading volume across Kalshi and Polymarket. Kalshi's $2.2 million refund, the class-action lawsuit, suspected insider trading, and proposed legislation are all significant developments. But the tax obligation is straightforward: gains are taxable under IRC Section 61, and the classification question (Section 1256, gambling, or ordinary income) determines how much you owe. Download your records, choose a defensible position, and file on time. Get help with prediction market taxes.

Related reading: Prediction Market Tax Services | Full Prediction Market Tax Guide | The 90% Gambling Loss Cap | Gambling Tax Services

Frequently Asked Questions

Are Kalshi refunds taxable?

Generally no. If Kalshi reimbursed your original investment and fees, you received back what you paid, producing no gain or loss. However, if Kalshi reimbursed more than your original investment (such as a goodwill payment), the excess would be taxable income. Keep records of the original transaction amount and the refund amount.

Do I owe taxes on Polymarket gains even if I used a VPN?

Yes. Under IRC Section 61, all income from whatever source derived is taxable. How you accessed the platform does not affect your tax obligation. Accessing a restricted platform may violate Polymarket's terms of service, but that is a separate legal question from taxation.

Do the suspected insider trades affect my taxes?

No. Other traders' conduct does not change your tax obligation. If you made money on the same markets, your gains are taxable regardless of whether others traded on inside information.

Do I need to file an FBAR for my Polymarket account?

Potentially. If you held funds on Polymarket International (the offshore platform based in the Bahamas) and the aggregate value of your foreign financial accounts exceeded $10,000 at any point during the year, FBAR filing (FinCEN 114) may be required. Whether DeFi wallets constitute "foreign financial accounts" under 31 CFR 1010.350 is unresolved. When uncertain, err on the side of filing. Penalties for nonwillful failure are up to $10,000 per report.

Is it illegal to bet on death or war on prediction markets?

Federal law (7 U.S.C. Section 7a-2(c)(5)(C)) prohibits U.S. exchanges from listing futures on terrorism, assassination, or similar events. This applies to Kalshi (a U.S. exchange), which is why Kalshi designed its death carveout clause. The prohibition does not apply to offshore platforms. Regardless of legality, gains are taxable.