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Updated on Thursday, December 13, 2018
So you have a big tax bill to pay this April. Maybe you had too little withheld from your paychecks throughout the year or made more money as an independent contractor than you anticipated. Regardless of your circumstances, that outstanding debt can feel overwhelming — especially if you weren’t expecting it. Some borrowers may look into personal loans — generally used to consolidate debt, pay for home repairs or cover other big, planned-for expenses — as a way to pay back the IRS. But before you commit, learn more about whether these loans are the right choice for paying taxes.
Should you take out a personal loan to pay taxes?
The short answer: probably not.
“I can’t think of a time when it would be appropriate to take out a personal loan to pay income taxes,” Adam Funk, a CFP at Savings Coach in Troy, Mich., told MagnifyMoney.
Financial experts agree that, in general, personal loans shouldn’t be the go-to solution for unpaid taxes. One reason? It may cost more to take out a personal loan than to work directly with the IRS via one of their payment, installment or compromise plans. Interest rates for most personal loans range from around 6% to nearly 36% — and you’ll only qualify for the lowest rates if you have excellent credit.
By comparison, interest rates on outstanding taxes are the same for all borrowers and lower than most personal loans. The IRS updates interest rates on a quarterly basis. For underpayments, the rate is equal to the federal short-term rate plus 3 percentage points. As of Jan. 1, 2019, that rate is 6%.
Another benefit of working with the IRS, Funk told MagnifyMoney, is that you have more leverage to negotiate — and even have some or all of your debt forgiven — than you do once you pay off your bill and transfer the balance to a third-party lender.
In addition to interest, unpaid taxes will also incur monthly penalties — even if you have an agreement with the IRS. The IRS does note that paying via debit, credit or third-party loan may be less expensive than accruing these penalties on your outstanding bill, so you may want to explore all your options.
But before you use one of these alternatives, determine how much you’ll owe if you fail to pay off a credit card or loan balance in a timely manner. If your interest rate is high or you can’t tackle the total, you may be better off working directly with the IRS. Of course, simply failing to pay is the most expensive option.
Where to find a personal loan (if you need one)
If you do need to take out a personal loan, check with your bank first. A lender with whom you already have a relationship may be more flexible and open to working with you, especially if you have less-than-stellar credit. A local credit union may also be a good place to start — while you generally have to be a member to access personal loans and other financial products, credit unions often have lower interest rates and less strict qualification requirements for loans than traditional banks.
Online lenders may also have lower rates on personal loans than brick-and-mortar banks. With minimal overhead costs, these lenders are able to pass on savings to customers — though the lowest rates are reserved for borrowers with better credit.
Regardless of which type of lender you choose, make sure you shop around for your best rate. Start your research with MagnifyMoney’s personal loan marketplace, where you’ll find information about rates, terms, fees and requirements from a variety of lenders. You can also check your rates and offers directly — and see which lenders require a hard pull on your credit upfront.
LendingTree, which owns MagnifyMoney, also has a personal loan tool that may match you with lenders and loan offers. You do have to enter some personal information, including your address, employment status, and estimated income and credit score, before you receive any offers. Keep in mind: There’s no guarantee of offers using this tool.
As low as 2.49%
Minimum 500 FICO®
24 to 60
LendingTree is not a lender. LendingTree is unique in that you may be able to compare up to five personal loan offers within minutes. Everything is done online and you may be pre-qualified by lenders without impacting your credit score. Terms Apply. NMLS #1136.
As of 17-May-19, LendingTree Personal Loan consumers were seeing match rates as low as 2.49% (2.49% APR) on a $20,000 loan amount for a term of three (3) years. Rates and APRs were based on a self-identified credit score of 700 or higher, zero down payment, origination fees of $0 to $100 (depending on loan amount and term selected). Terms Apply. NMLS #1136
Can’t afford your taxes? Consider these 4 alternatives
If you’re faced with a huge tax bill that you can’t afford outright, you do have options, including a number of payment plans and agreements you can negotiate directly with the IRS. Your specific tax situation will determine which alternative you qualify for.
1. Pay what you can, even if you request a filing extension
Tax returns and payments are generally due on April 15 (unless April 15 falls on a weekend or observed holiday). You can request a six-month filing extension directly with the IRS, which will push the deadline for your return to mid-October.
However, this extension does not apply to payments. If you don’t pay your estimated tax bill in April, you’ll owe penalties and interest on your balance. The IRS recommends paying what you can by the deadline to minimize these additional charges — from there, you can make a plan to pay the rest.
2. Apply for an installment agreement
If you can pay off your balance in 120 days or less, you can apply for a short-term payment plan. There’s no additional setup fee, but you will be responsible for any interests and penalties that accrue in addition to your outstanding taxes.
The IRS also offers a long-term payment plan, also called an installment agreement, which allows you to pay over 120 days or more. If you allow automatic withdrawals from your checking account, you’ll pay a fee of $31 for an online application or $107 to apply in person, by mail or over the phone. For other methods of payment (debit, credit, check or money order), the setup fees jump to $149 and $225, respectively. Interest and penalties apply.
3. Request an “Offer in Compromise”
If you can’t pay your taxes in full or via an installment agreement, you can apply for an Offer in Compromise. The IRS will look at your financial situation and may agree to settle your debt for less than what you owe. You may be eligible if your tax debt is inaccurate, you have insufficient assets to cover your bill or paying would cause economic hardship.
4. Request a collections delay
If paying any part of your tax bill would prevent you from meeting your basic needs, you can request that the IRS delay collections of your outstanding debt. You will have to provide information about your financial circumstances. Keep in mind: Delaying collections does not exempt you from your meeting your tax obligation, including interest and penalties. These will still accrue until you pay your full bill, and the IRS may still file a tax lien notice, which lets creditors know about your debt.
What happens if you don’t pay your tax bill
If you don’t pay your tax bill by the filing deadline in April — and don’t take any additional action — you’ll likely get hit with interest on your outstanding balance and a monthly fee for late payments. The late payment penalty is generally 0.5% of your unpaid taxes per month and can add up to 25% of what you owe.
There’s also a penalty for not filing your return. For 2016 tax returns, the minimum penalty for filing 60 days or more after the deadline was the lesser of $205 or 100% of the tax owed. According to the IRS, this penalty can be as much as 5% of your unpaid bill each month, up to a maximum of 25%.
If you don’t file or pay, the IRS will levy a combined penalty of up to 5% per month. There are exceptions to late payment penalties, however: If you’ve requested a filing extension and have paid 90% of your outstanding balance, you’ll only owe interest until your bill is paid off. Similarly, the IRS may waive penalties if taxpayers can show reasonable cause for failing to file or pay on time.
The IRS will send you at least two bills for outstanding taxes. If you don’t pay after your final bill, the agency will begin collections actions. The IRS can apply your unpaid balance to future refunds or seize your property — including everything from wages and retirement savings to your home — to cover your tax debt.
The bottom line: File your tax return and pay your balance by the due date. If you can’t afford to pay in full, at least pay what you can and actively explore options to minimize fees and penalties.