If you end up owing taxes, and don’t have the cash to pay the entire balance, you could just charge what you owe. But is that the smartest thing to do? It depends on a host of factors.
The IRS does accept credit card payments for taxes owed, and you can decide whether you want to pay the entire balance or set up an installment agreement with the IRS to make smaller payments over the course of a few months—or even several years.
In an ideal situation, you would have had enough money withheld in taxes (or made quarterly tax payments if you’re self-employed) so that you don’t end up owing taxes at the end of the year.
If things didn’t turn out that way, you’ll have to now calculate how many months it would take to pay off your taxes under a formal installment agreement with the IRS—and then figure the amount of interest you’d pay over that time.
Your next step would be to consider how much interest you’d pay by using a credit card, and then compare that figure to the interest you’d have to fork over directly to Uncle Sam under an installment agreement. (Check out my advice on AskTheMoneyCoach.com on getting an installment agreement with the IRS.)
When you’ve worked out the interest charges in different scenarios, paying your taxes with a credit card can sometimes be your best option.
Consider these pros and cons of paying taxes with a credit card.
Benefits of Paying Taxes with a Credit Card
Some of the top reasons to go ahead and pay your taxes with a credit card include:
• Avoiding IRS penalties.
When you pay your tax balance in full, you avoid a failure-to-pay penalty that the IRS imposes on late payers. The failure-to-pay penalty is one half of 1% of your outstanding tax balance for each month, or part of a month, that you owe taxes. The maximum penalty charged is 25%.
So under some scenarios, especially if you have a low interest rate card, or a special 0% deal from a credit card company, paying with a major credit card can help you avoid those hefty IRS penalties.
• Paying on your own time frame.
Adding this new charge to your credit card balance will give you some time to pay it off as you can afford it. As long as you are making at least the minimum payment, the outstanding IRS has been taken care of and you won’t owe them a single dollar more.
This allows you to avoid entering into a formal agreement with the IRS, such as an installment plan. Under such an agreement, those who owe less than $50,000 can pay off their tax debt over a period of 72 months, or 6 years.
• Deducting convenience fees on next year’s tax return.
Any convenience fees you incur—typically around 3% of the balance owed—are tax-deductible on next year’s return.
• Earning rewards points.
You could pay with a credit card that gives you cash-back rewards, frequent flier miles, and points for other perks, so that you get something back for taking on this new debt. Just make sure you’re aware of when any promotional rates expire, and make your payments on time to avoid late payment fees or higher interest charges.
Drawbacks of Paying Taxes with a Credit Card
Some of the cons of paying taxes with a credit card include:
• You will have to pay fees in order to use your credit card when you make a tax payment. The IRS outsources tax payment services to four companies: File Your Taxes, Link2Gov Corp., Official Payments Corp. and WorldPay US. They all charge different fees, mostly in the 2% to 3% range. But sometimes, convenience fees to use your credit card to pay a tax bill can run as high as 3.93% of your payment.
• You may pay higher interest rates, as well as a fee of 1% to 4% when you pay with a cash advance check through your credit card company.
• Interest rates from the IRS can sometimes be less than interest charges imposed by your credit card issuer. If you enter into an installment agreement with the IRS, as opposed to using your credit card, the interest rate charged on an installment plan is currently about 3%, with that rate changing each quarter.
• You might not have much available credit left on your account, which can affect your credit score.
Overall, if you have the cash to pay your taxes, it’s best to use those hard-earned dollars rather than credit.
But in a pinch, if credit is your only option and you want to pay in full on time—in order to avoid IRS penalties and stay away from an installment agreement—then the best way to pay when using a credit card is to use one with a 0% offer, which lasts at least one year.
The next best choice is a credit card with a very low interest rate. Either way, you’ll want to pay off the balance as quickly as possible.
This article originally appeared on AskTheMoneyCoach.com.
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