Tax season is a stressful time for most people, but it’s especially difficult for those of us with doubts about our ability to pay the IRS. The good news is that there are a number of ways anyone can make an unmanageable tax obligation easier to deal with without drastically driving up costs.
Below you will find a general discussion of the options at your disposal as well as a more detailed look at the pros & cons of paying your taxes with plastic.
What to Do if You Can’t Pay
- Don’t try to hide: You’re simply not going to slip through the cracks, and the IRS has proven far more willing to work with people when they’re straightforward about their ability, or lack thereof, to meet tax obligations. So, submit your return by the April 15 deadline and establish an open dialogue with the tax collection agency.
- Leverage free advice: There’s no shortage of reliable tax information on the Internet, and reading up on your options is a great first step in formulating a plan. You can also seek more personalized feedback from a variety of human sources, including third-year law students at the free “tax clinics” that many schools offer and more experienced accountants and lawyers who offer free consultations.
- Just wait for a bill: If a temporary cash-flow interruption is at the heart of your inability to pay, you may want to submit your tax return and simply wait to receive a bill from the IRS. The tax collection agency notifies people who have existing tax obligations of what they owe, plus any interest and late fees, a few weeks after the April 15 filing deadline has passed and it’s had the chance to process returns submitted by then. The IRS currently charges 3% interest on underpayments as well as a monthly late fee equal to 0.5% of what you owe, which is a fairly palatable price to pay for buying yourself a bit of extra time. You should only use this strategy if you literally need 2-3 extra weeks to pay. After all, it will take the IRS 10 days to process requests for an extension or payment plan anyway, but you still want to make sure not to get on the agency’s bad side.
- Get a 120-day extension: You can apply for a 120-day payment extension from the IRS. There is no application fee for this short-term extension, but you will be charged a late-payment fee and 3% interest on your outstanding payment. Qualifying individuals may be able to get fees and interest waived through the IRS Fresh Start initiative.
- Set up an installment agreement with the IRS: You can apply for the ability to pay off your tax obligation over time by filling out Form 9465 if you owe less than $50,000 (principal, plus interest and fees) as well as Form 433-F if you owe more than that. Keep in mind that you will have to pay a fee for setting up a payment plan: $52 if you sign up to have payments automatically debited from a checking account every month, $105 if you want to mail a check or have a portion of your paycheck garnished, or $43 if your income is below a certain level. The IRS doesn’t usually attempt collections while an installment agreement application is being considered, when such an agreement is in effect, or for 30 days after an application has been rejected.
- Make an offer in compromise: You can negotiate a type of settlement with the IRS, known as an offer in compromise, which allows you to satisfy your obligation via a lump-sum payment or a payment plan for less than the total amount you owe. The IRS is likely to accept such a deal if the amount offered is around what they can reasonably expect to collect from you in the foreseeable future, considering your income, expenses, asset equity, and overall ability to pay. There is a $150 application fee for an offer in compromise.
- Use a credit card: In certain situations, it’s financially beneficial to pay off your tax obligation using a credit card and thereby shift your debt away from the IRS to your card’s issuer.
“People often act as if you have to go into hiding if you can’t pay your full tax obligation right away, but that’s actually the worst thing to do. The IRS is much more likely to work with you if you’re upfront about your situation, and there are indeed a number of ways that you can buy yourself some extra time without doing too much damage to your bank account,” says Card Hub CEO Odysseas Papadimitriou, a personal finance veteran. “The exact route you ultimately choose to take depends on just how long you need. For example, if your next paycheck will bring the requisite cash, you might as well just hold tight because it will take the IRS about 10 days to process an extension or payment plan request anyway. Now, if you need more than a couple of weeks but will be good to go within four months, you can request a 120-day extension from the IRS. You won’t have to pay a fee for the request itself, but you’ll incur interest at a rate of 3% and a late fee equal to 0.5% of what you owe each month. If four months won’t cut it, you can apply for a payment plan, make an offer in compromise, or leverage a loan or line of credit. Which you choose depends on both your eligibility and the related costs.”
Pros & Cons of Using a Credit Card
- Long 0% intro terms available: Credit cards now offer 0% introductory interest rates for up to 18 months, which means you can prevent your tax obligation from growing while you find the cash to pay it by simply using the right card. Such attractive intro terms aren’t always available, however, so make sure you’ll be able to pay off your balance before high regular rates take effect and eat away at your savings.
- Ability to earn rewards: Credit card companies are offering initial rewards bonuses worth up to $500 and as much as 2% cash back on new purchases. So, even if you are able to pay what you owe Uncle Sam, the price might be right to use a credit card in order to snag valuable rewards.
“Strategically using a credit card to pay your taxes is an appealing option regardless of whether or not you actually need extra time to come up with cash,” according to Papadimitriou. “The current environment is one in which people with above-average credit can obtain 0% financing for well over a year or initial rewards bonuses worth hundreds of dollars simply by opening the right new credit card. So, whether you pay with a credit card in order to gain some breathing room or to meet the spending threshold required to earn an initial rewards bonus, you’ll win out as long as the ultimate payoff exceeds the costs you’ll incur via processing fees, late fees, and interest. Just make sure to crunch the numbers beforehand in order to make sure your proposed approach is the most cost-effective option available to you.”
- Processing fees: The IRS gives you the option of submitting a credit card payment through one of five processing companies. These companies charge between 1.88% and 2.35% for credit card payments, so the value of paying with plastic depends on the amount you owe and the alternatives at your disposal.
- High regular interest rates: Even the best 0% credit cards have regular rates ranging from 9.99% to 24.99%, which can make any balance leftover at the end of the 0% intro term grow fast.
“Preparation is the key to ensuring that paying your taxes with a credit card pays off in the long run. It’s therefore critical that you use a payment calculator to determine how long it will take to get rid of your balance, which will include up-front processing fees. In doing so, make sure to give yourself some breathing room because preparing for only the best-case scenario is a recipe for trouble,” warns Papadimitriou. “If you’ll be able to comfortably pay off what you owe fast enough to prevent fees and interest from exceeding the costs of other repayment options or your expected rewards earnings, then you’re on the right track. However, before you finalize your plans, you’ll need to make sure that you can actually get approved for a card with a long enough 0% introductory term or lucrative enough initial bonus to make the process worthwhile. It can take up to a couple of weeks to process a credit card application, so it’s especially important to start your tax planning well in advance if you’re considering paying with plastic.”