Kalshi & Polymarket: Trading Ban Threatens Your Funds? A Deep Dive into the Regulatory Battle
In January 2026, Tennessee’s sports betting regulator sent letters that initially seemed like standard paperwork – the kind most crypto users quickly scroll past. However, the message was direct: cease offering sports-related event contracts to Tennessee residents, void all unsettled positions, and refund customers by January 31st. The recipients – Kalshi, Polymarket, and Crypto.com – operate in the complex space between finance and gambling. A simple “yes/no” trade on a game’s outcome can be legally classified as either a federally regulated derivative or an unlicensed sportsbook. This sparked a swift legal challenge, escalating into a jurisdictional stress test with significant implications for the future of crypto-based prediction markets.
The Immediate Conflict: Tennessee’s Cease-and-Desist Orders
Within days of the letters, Kalshi filed a lawsuit in federal court. A US district judge in Nashville, Aleta Trauger, issued a temporary restraining order (TRO) blocking Tennessee from enforcing its cease-and-desist against Kalshi while the case proceeds. A hearing for a longer-lasting injunction was set for January 26th. Tennessee argues that Kalshi is operating an illegal gambling operation without a state license and potentially allowing underage betting. Kalshi counters that Tennessee is attempting to regulate products that fall under the exclusive jurisdiction of the Commodity Futures Trading Commission (CFTC).
The core issue isn’t just about compliance deadlines; it’s a fundamental question of authority. Can a state sports wagering council effectively restrict contracts that a federally designated exchange claims the right to list nationwide? And, crucially, what happens to the promising new retail funnel crypto has found since memecoins – an interface that transforms current events into tradable contracts?
Understanding the Players: Kalshi, Polymarket, and Crypto.com
These platforms aren’t traditional sportsbooks. They offer event contracts – agreements that pay out based on the outcome of specific events.
- Kalshi: A designated contract market (DCM) regulated by the CFTC, allowing users to trade contracts on future events.
- Polymarket: A decentralized prediction market built on blockchain technology, allowing users to create and trade contracts on a wide range of events.
- Crypto.com: A major cryptocurrency exchange that has expanded into offering event contracts alongside its core trading services.
The key difference lies in their regulatory approach. Kalshi actively seeks and operates within the CFTC framework, while Polymarket historically operated in a more gray area, and Crypto.com is testing the waters with a broader offering.
The Jurisdictional Fight: Federal vs. State Authority
Both sides have a compelling legal argument. From Kalshi’s perspective, it’s not a sportsbook; it’s a DCM, akin to a traditional futures venue regulated under the Commodity Exchange Act. The CFTC has publicly described DCMs as exchanges operating under its oversight, and granted KalshiEX an order of designation in 2020.
Kalshi’s argument relies on a powerful clause in federal commodities law: the CFTC “shall have exclusive jurisdiction” over certain derivatives transactions, including those traded on a DCM. This provision was designed to establish a single national regulator for derivatives, preventing a patchwork of 50 state rulebooks.
Tennessee’s Counterargument: Substance Over Form
Tennessee argues that the *substance* of the product matters more than its legal classification. If the product functions as sports wagering, it falls under the state’s regulatory purview, regardless of how it’s labeled. The Tennessee Sports Wagering Council (SWC) regulates sports betting under state law, covering eligibility requirements, consumer protections, and tax obligations.
The SWC accuses these platforms of offering sports contracts without a license, violating state eligibility rules, and lacking necessary consumer protections. This framing positions event contracts as a consumer and public-interest problem, rather than a financial innovation.
The Collision of Regulations: Derivatives vs. Gambling
This case highlights the inherent conflict in America’s regulatory landscape: derivatives are primarily federal, while gambling is largely state-controlled. Sports betting, in particular, is intensely localized. If a product can be plausibly described as either a derivative or a wager, the question becomes which system gets to define it first.
Tennessee’s case follows Kalshi’s previous loss in Nevada, where a federal judge ruled the platform was subject to state gaming rules. This ruling weakens the argument for “federal preemption” and emboldens states to view sports contracts as a workaround to established licensing regimes.
The CFTC’s Mixed Signals
The CFTC itself has sent mixed signals. While it describes event contracts as derivatives, it also emphasizes Regulation 40.11, which prohibits contracts referencing terrorism, war, gaming, or activities unlawful under state or federal law. The critical point is whether sports outcome contracts are considered “gaming.” If so, they’re prohibited. If framed as “information contracts” with economic utility, they fall under the CFTC’s oversight.
In 2025, the CFTC issued an advisory acknowledging that sports-related event contracts had been listed via self-certification, but stopped short of officially approving them. This language suggests the agency is reserving the right to intervene later.
Compliance Theater: Navigating a Regulatory Gray Area
Compliance in prediction markets is unique due to the jurisdictional overlap. It’s not simply about checking boxes; it’s about signaling which authority a platform acknowledges. A platform that immediately geofences a state and refunds users concedes to the state regulator’s authority. Refusal to comply risks escalation, including fines and legal battles.
Kalshi chose to litigate, arguing Tennessee’s actions unconstitutionally ban contract trading. The TRO suggests the court recognizes the potential validity of Kalshi’s case, but litigation is costly and time-consuming, creating operational uncertainty.
Product Design and Market Fragmentation
Platforms are responding by adding age restrictions, “responsible gambling” tools, and enhanced AML processes. However, these changes can be interpreted in multiple ways – as responsible market operation or as an admission of gambling activity. This highlights the performative aspect of compliance.
A state-by-state enforcement approach creates market fragmentation. Liquidity is divided among permitted jurisdictions, user experience suffers, and the product loses its potential as a nationwide market. This contradicts the core promise of crypto-native distribution.
Information Market or Sports Betting: An Identity Crisis
Financial regulations often judge products by their economic purpose and market structure. Futures and options serve to hedge risk, discover prices, and transfer risk. Gambling laws focus on consumer harm and game integrity.
Event contracts can claim economic utility when the event is economic – for example, a contract settling on a CPI print can be used to hedge inflation exposure. However, the economic risk being hedged by a binary contract on a football game is less clear.
Some argue sports markets aggregate information (injuries, weather, strategy) and serve as prediction tools. Others contend they are simply wagers disguised as financial instruments.
The Future of Prediction Markets: What Happens Next?
If Kalshi wins in Tennessee and similar states, the category gains legitimacy. The pressure then shifts to the CFTC to clarify whether sports contracts align with its public-interest mandate. If states continue to win, platforms will either retreat into geofenced compliance or seek workarounds that regulators can’t easily monitor.
The most likely outcome is a messy middle ground: patchwork availability, periodic enforcement actions, and a constant debate over the definition of “information markets” versus “sports betting.”
Tennessee’s letters are a pivotal moment for the industry. They force a crucial question: In America, is a tradable yes/no contract on a game a financial instrument, or simply gambling with a better user experience?
Mentioned in this article
Kalshi 
Polymarket 
Crypto.com