How to Pay a Surprise Tax Bill

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There are plenty of ways to generate an unexpected tax bill—income from a side gig, investment gains and unemployment benefits, to name a few examples. And even if your tax bill winds up being bigger than your checking account balance, you have options. You can pay a high tax bill by pulling from savings, using a credit card or setting up installments with the IRS. Here's how to tackle a surprise tax bill, along with some of the pros and cons for each option.

Pay What You Can on Time

Although you can request an automatic extension for filing your tax return, you'll still be on the hook for paying a good faith estimate of the taxes you owe by the April 18 deadline. Unless you actually need extra time to complete your tax return, consider filing on time and paying what you can upfront to minimize the amount you'll have to finance.

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File for a Payment Extension

You can use IRS Form 1127 to request a payment extension of up to six months for a balance due on your tax return if paying your tax bill on time will cause an "undue financial hardship." The IRS emphasizes that undue hardship means more than simple inconvenience: "You must show you will have a substantial financial loss (such as selling property at a sacrifice price) if you pay your tax on the date it is due."

Get an IRS Installment Agreement

Taxpayers who can't pay their entire tax bill when they file their returns can apply for a payment plan with the IRS. You'll pay penalties and interest on your balance each month until your balance is paid. Penalties are 0.25% monthly if you have an installment plan in place. Interest compounds daily and is set at 3% above the federal short-term interest rate.

  • Short-term payment plan: Set up a plan to pay your tax bill in full within 180 days and you won't be charged a setup fee, though you still must pay penalties and interest monthly. Get more information or apply online.
  • Installment agreement: If you've filed all required tax returns with the IRS, a long-term installment agreement gives you up to six years to pay. Setup fees range from $31 to $225. The lowest fees are for online applications with automatic monthly payments. Low-income taxpayers may be able to waive setup fees if they qualify.

Use Your Emergency Fund

If you have money in a savings account or emergency fund, this may be the time to tap it. You'll avoid paying penalties or interest to the IRS as well as the risk of carrying high-interest credit card debt. Be sure to work out a plan to replenish the money you took from your savings as quickly as possible.

Pay With Your Credit Card

Paying your tax bill with a credit card has its pros and cons, many of which depend on how long you'll need to pay off your debt. The first thing to know is that the IRS uses third-party payment processors to handle your credit card payment. These processors charge convenience fees (just under 2.5% at the time of this writing when you pay with your tax return; just under 2% when making a separate payment), which will be added to your tax bill. That said, paying with a credit card may have benefits:

  • You can get an automatic grace period on interest. Even if you don't need to finance your tax payment over the long term, you may benefit from a few weeks' grace to move money around or sell an investment to cover your debt.
  • You may earn rewards. Depending on how your payment is processed, you may earn rewards and avoid high cash advance fees and interest rates.
  • You may find a card with a low or zero introductory interest rate. Bonus: Your tax payment may help you meet your introductory purchase requirement.

Of course, paying with your credit card also has potential pitfalls:

  • Your credit is limited. You can't pay a $15,000 tax bill with a card that has a $10,000 credit limit.
  • Interest can be high. Paying off your balance quickly or leveraging a low introductory rate may help you avoid high interest. But if that's not possible, credit card interest can easily cause your balance to grow. The average credit card interest rate was 16.4% as of November 2021, according to the Federal Reserve.
  • You may over-utilize credit. A high tax bill could eat up most or all of your available credit. High credit utilization could affect your credit score—at least until you can pay down your balance.

Borrow Money From Family or Friends

Borrowing money from your loved ones could save you the trouble of setting up IRS installments or activating your available credit. Just be sure you'll be able to pay them back: Skipping out on a loan from friends or family could decimate your relationship with them.

You might consider formalizing your agreement by writing up a promissory note that outlines the terms of the loan, such as when you'll pay it back and whether you'll be charged interest. Doing this may make it more likely that your friend or family member will lend you money.

Start Preparing for Next Year Now

The sooner you can put your tax bill behind you, the sooner you can begin preparing for next tax season. If your income is likely to stay the same, consider contributing more toward your taxes throughout the year by increasing your paycheck withholding or making estimated tax payments on side income or investment gains. You may also want to work with a tax pro who can help you identify deductions and better prepare for the tax bill to come.

Also, now is a great time to start a sinking fund for next year's taxes—a savings fund you contribute to monthly to use for large tax bills in the future. You'll have ready resources to pay off the next big tax bill without dipping into emergency savings, negotiating with the IRS or using your credit cards next time.