What to Do When You Can't Pay Your Federal Income Taxes on Time

A woman sits at her dining room table with laptop and paperwork doing her taxes

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You might be on the verge of panic if Tax Day is fast approaching and you know you can't come up with the money to pay your federal income tax by that date. But you have options if you're not able to pay the Internal Revenue Service (IRS) on time.

Understanding what those options are and the penalties for paying or filing late can help you decide which path to take to handle a looming tax bill.

Late Payment and Late Filing Penalties

The IRS assesses two separate penalties for filing your tax return late and for paying your taxes late.

The failure-to-file penalty is assessed at a higher percentage rate than the failure-to-pay penalty, so try to file your return even if you don't have the money to pay the tax you owe right away.

The failure-to-file penalty is 5% of the tax owed for each month or partial month that your return is late, up to a maximum of 25% of what you owe. You'll also have to pay a penalty of the lesser of $435 or 100% of the tax owed if your return is more than 60 days late.

The failure-to-pay penalty is 0.5% of the tax owed for each month or partial month, up to a maximum of 25%, until the tax is paid in full. That rate increases to 1% if the tax remains unpaid 10 days after the IRS issues a notice of intent to levy property.

The IRS can seize any state income tax refund that you have coming to you after it sends you the notice of intent to levy. You then have the right to a hearing before the IRS Office of Appeals. The IRS can seize your wages or other income, your bank accounts, business or personal assets, and/or Social Security benefits if you lose your appeal.

Any penalty amount stated on your bill from the IRS is typically the amount that was calculated as of the date of the notice. It doesn't reflect the amount you'll be charged beyond that date.

Interest Payments

You'll be charged interest on the amount of tax you owe until the tax debt is paid in full, in addition to penalties. The interest rate is set quarterly and it's equal to the federal short-term rate plus 3%, The interest rate is 3% as of the fourth quarter of 2021. Interest compounds daily.

Installment Plan Payments

The interest rate on the owed amount is 0.25% for every month in which an installment agreement is in effect if you file your return on time and you receive approval from the IRS to pay your tax in installments.

You can request an installment plan online, by telephone, or by mail if you've already filed your tax return. Attach a written request for a payment plan to the front of your return when you file if you haven't yet filed your return.

The IRS applies your payments to the tax owed first, then to any penalty, then to interest.

Credit Card Payments

You can use a major credit card (Visa, Mastercard, American Express, or Discover) to pay your tax bill if you don't have the cash on hand to pay it when you file. You must do so through one of three service providers approved by the IRS: PayUSAtax, Pay1040, or ACI Payments, Inc. You'll be charged a fee of 1.96% to 1.99% of the amount you're paying, with a minimum fee of $2.69, $2.58, or $2.50, respectively.

Keep in mind that your credit card provider will charge you interest on your card balance every month as well. The average annual percentage rate on credit cards as of August 2021 was 20.25%.

An Offer in Compromise

The IRS may accept less than the full amount you owe through an offer in compromise (OIC) if you owe so much that there's no way you'll ever be able to pay it. This is essentially a settlement agreement in which the IRS permits you to pay the most money it could expect you to be able to pay in a reasonable amount of time.

The IRS considers your unique situation when evaluating an OIC, including your ability to pay, your income, your monthly expenses, and your assets.

The IRS considers an OIC to be a solution of last resort. It encourages you to first consider all other payment options.

The Form 656-B Booklet explains how to request an offer in compromise. You'll have to complete Form 433-A, the Collection Information Statement for Wage Earners and Self-Employed Individuals, as well, and possibly Form 656, the request for an OIC. The IRS states that Form 656 is "intended for tax professional use only," however.

You'll also have to submit a non-refundable application fee of $205, and a non-refundable initial payment unless you meet the IRS's Low Income Certification guidelines. Your fee and payment will be applied toward the amount you'll owe if your OIC is accepted. You can file an appeal within 30 days if it's not.