You Can Pay Your Taxes With a Credit Card, But Should You?

You Can Pay Your Taxes With a Credit Card, But Should You? article image.

You can pay your taxes using your credit card, but that doesn't mean it's a good idea. Depending on how you plan to do it and which card and payment service you use, you could come out ahead. If you're not careful, though, it could end up costing you.

What to Consider When Paying Taxes With a Credit Card

Using a credit card to pay your tax bill may give you some more flexibility than what the IRS might offer. But there are some costs to consider.

The IRS partners with three different payment services to process credit card transactions. Using these services isn't free, though. Each charges a percentage of your payment as a convenience fee:

  • 1.87% fee
  • 1.96% fee
  • 1.99% fee

Also, using a credit card to pay taxes without plans to pay off the balance immediately will cost you even more in interest charges over time.

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Why Using a Credit Card Might Not Be the Best Option

There are several factors to consider before deciding to use a credit card to pay your taxes. Here are just a few.

Credit Reporting

Racking up a high balance to pay your tax bill could negatively impact your credit score, especially if you don't pay off the balance immediately. Your credit utilization rate, which is calculated by dividing your balance by your credit limit, is a significant factor in your credit scores.

It can also damage your credit if you ultimately can't afford your credit card bill and fall behind on payments.

Convenience Fees

As mentioned earlier, credit card convenience fees for paying taxes are close to 2%. While there are some credit cards that offer 2% back on all purchases, most credit cards don't.

As an example, let's say you pay $5,000 using a card that offers 1.5% cash back and you pay a 1.87% fee. The convenience fee will amount to $93.50, while your rewards earned on the transaction will total $75. Using the credit card ends up costing you $18.50.

If you happen to have a 2% credit card and earn $100 on the purchase, you effectively make $6.50 on the transaction, especially if you pay off the balance before your next due date. However, that small gain can easily be neutralized by interest if you carry the balance.

Credit Card Interest

The average credit card interest rate is 16.81%. In contrast, the IRS charges a 6% interest rate on underpayments, plus a 0.5% monthly failure-to-pay penalty until you pay your bill in full. That penalty maxes out at 25%, or after 50 months.

That's not all, though. The IRS offers installment plans with set repayment terms, while credit cards have open repayment terms with low minimum payments. So not only are you paying a higher interest rate, but you could end up paying it much longer.

IRS Repayment Plans

If you've completed your tax return but can't pay what you owe, the IRS offers two installment plans:

  • Short-term payment plan: With this plan, you'll pay off your debt within 120 days. It's free to set up, but you'll pay the current interest rate plus the failure-to-pay penalty until your full bill is paid.
  • Long-term payment plan: You can choose this plan if you need more than 120 days to pay off your tax bill. The setup fee can range from $31 to $225, depending on your income level, how you request it, and whether you choose automatic or manual payments. You'll pay the IRS' interest rate and the failure-to-pay penalty until your installment plan is completed.

If you're experiencing financial hardship, you may qualify for another option called an offer in compromise. This feature allows you to potentially settle for less than what you owe. However, the eligibility criteria are strict.

Other Methods of Paying your Taxes

If you're not sure about setting up an installment agreement with the IRS or the repayment term is too short, another option to consider is a personal loan.

If you have good or excellent credit, you may qualify for a personal loan with a lower interest rate than what you'd get with a credit card. In fact, the average rate on a two-year personal loan is 10.70%, according to the Federal Reserve.

Depending on how long it takes you to pay off your debt, a personal loan with that low of a rate could end up saving you money over paying interest and a penalty to the IRS.

You may also consider getting a loan from a family member or friend. You may be able to get money at a low interest rate, or none at all, and decide with them how you'll pay it back. Keep in mind, though, defaulting on a loan from a close friend or relative can sour your relationship.

Find the Cheapest Option Available

If you're thinking of using a credit card to pay your taxes, make sure to find a card with a high enough rewards rate to outpace the convenience fee and pay off the balance before your next due date.

If you'd end up carrying a balance, though, check out other options, including an installment agreement with the IRS or a low interest personal loan. Regardless of which option you choose, make sure you do your research to find the option that will save you the most money.