What Should You Do If You Can’t Pay Your Taxes?

If you can’t pay your taxes, you have options to help manage the situation and avoid serious penalties. From setting up a payment plan to exploring relief programs, there are several ways to tackle tax debt without added stress. 

In this guide, we’ll cover 12 effective strategies to help you find a solution that fits your financial needs and keeps you in good standing with the IRS.

What if I can’t pay my taxes? 12 strategies

In general, it’s best to stick with the government programs if you can because they tend to offer more favorable terms. But at times, other options might make more sense. We’ll cover government options and alternatives below. 

If my clients can’t pay their taxes by the deadline, I start by looking at their balance sheet for other ways we can find to pay them, such as other debt consolidation or methods to borrow from other assets. Then I help develop a plan to prevent this from happening in future years: specifically, WHY did this happen, and how do we prevent it?

Michael Menninger, CFP®

Partial payments  

Most people find out they owe a tax bill after they prepare and file their tax return. If you can’t pay it in full, the IRS recommends paying as much as you can when you file. 

You’ll still owe a penalty and interest on the unpaid taxes while you sort out your next steps. But because you’ve made a partial payment, those extra charges will be lower.

Pros

• No specific amount or setup required

• Limits potential penalties and interest

Cons

• Not a long-term solution

• Penalties and interest still accrue on the remaining debt

Best for

• Limiting penalties and interest while you figure out your next steps

Short-term payment extension  

If you can’t pay your tax bill right now but can do so within the next 180 days, you can apply for a short-term payment plan. Although it’s called a payment “plan,” it’s essentially an extension, giving you a few extra months to settle your bill. 

You can pay off your tax debt in 120 days or less if the total amount owed, including tax, penalties, and interest, is under $100,000. This plan doesn’t require a formal agreement or setup fee, and it provides a manageable option for those who can pay the full balance within four months, helping avoid further penalties or interest accrual.

Pros

• No setup fee

• Easy to request

• No set monthly payment 

Cons

• Can’t owe more than $100,000

• Interest and penalties still accrue 

Best for

• If you’ll receive a windfall soon
• If you need a little bit more time to pay off the balance

Installment agreement

A monthly payment plan lets you pay off the debt, similar to other installment loans. Everyone gets the same interest rate, which you can check on the IRS website. It changes quarterly; during the final quarter of 2024, the interest rate on unpaid taxes is 8%.

Pros

• Easy to set up and change online

• No credit or income requirements

• Prevents the IRS from seizing your property

• Some ability to choose your payment amount

Cons

• 6 – 10 year maximum term length

• Interest and penalties still accrue

• Must have filed all your tax returns

• Tax lien may still be filed on your property

• Future tax refunds are used to pay down your debt

• $22 – $178 setup fee (low-income fee waivers available)

Best for

• Choosing your own payment
• Taking longer to pay back your debt
• If you’re unable to get approved for another loan charging less than 8% interest

Offer in Compromise  

If paying your taxes would create a “financial hardship,” you can negotiate a settlement with the IRS. Pay what you can, and if your offer is approved, the remaining amount will be forgiven. The IRS offers a handy pre-screening tool you can use to see whether you might qualify.

Pros

• Erases tax debt that you can’t pay

Cons

• Few people qualify

• Takes up two years to complete

• $205 nonrefundable application fee

• May be forced to sell some of your assets

• Collection efforts continue while you negotiate

• Must meet strict filing and eligibility requirements

• Initial payment is applied to debt even if your offer is denied

Best for

• If you truly can’t pay the full amount you owe
• If you can commit to a long and complicated process

Personal loans

You don’t necessarily need to use the IRS’s payment options. Many people use personal loans to pay off tax debt.

Pros

• Fixed interest rate

• Can help build credit

• Quick and easy application

Cons

• Less choice over your payment amount

• Requires good credit and income for the best rates

• Loans for longer terms and large amounts may not be available

Best for

• If you have good credit and can qualify for a low rate
• If you can’t (or don’t want to) use home equity financing

Credit card

You can use a credit card you already have to pay your tax bill. Another option is to open a new 0% intro rate card and pay down the balance before the interest-free period ends.

Pros

• Some offer credit card rewards

• Interest-free payoff with a new 0% intro rate card

• No need to apply for more debt if you use a card you already have

Cons

• High interest rate

• Easy to slide into long-term credit card debt

• Extra processing fee for credit card payments

Best for

• If you want to earn credit card rewards
• If you can’t get help from the IRS and can’t get approved for a new loan

Home equity loan or HELOC

If you own a home and have excellent creditworthiness, you may be able to get a lower interest rate on a home equity line of credit (HELOC) or home equity loan compared to the interest rates you’ll pay on an IRS installment plan. 

Pros

• Potentially lower interest rate

• Long term length and large potential loan amount

• HELOCs offer added borrowing flexibility and low initial payments

• Home equity loans offer fixed interest and steady payment amount

Cons

• Closing costs could be expensive

• Weeks-long underwriting process

• Can lose your home if you default

• Generally need at least 15% equity in your home

• HELOCs can be expensive if you keep an outstanding balance

Best for

• Homeowners with secure and stable income

Friend or family loan

Many people are lucky enough to have friends and family willing to support them financially. Consider drafting up a formal agreement if you borrow from a loved one, similar to how you would with another lender. 

Pros

• Better odds of more favorable loan terms

Cons

• Doesn’t help build credit

• Strained family relationships if you default

Best for

• If you can’t get a loan anywhere else
• If you’re sure you can repay the debt
• If you have a generous friend or family member

Bankruptcy

Some—not all—types of tax debts can be discharged in bankruptcy. If there’s no way you can pay, this may be one option, but it’s essential to speak with an advisor first.
 

Pros

• Immediately pauses any collection efforts

• Permanently discharge many types of tax debts

Cons

• Must meet specific requirements

• May need to hire a bankruptcy lawyer

• Causes serious credit damage lasting up to 10 years

• Only discharges income tax debt—not other types, such as estate tax

Best for

• If you can hire an attorney to represent you
• If you can’t afford to repay your debt within a reasonable period

Dispute the tax bill

There are a few ways you can formally challenge whether you owe the tax at all, in part, or in full. Some spouses (or ex-spouses) may qualify to have their tax obligation canceled in certain cases, for example. You can also file an appeal against certain decisions the IRS makes.

Pros

• Free help from taxpayer advocates and clinics available

Cons

• Can’t help with legitimate taxes you owe

• Can’t file an appeal unless IRS says you’re eligible

Best for

• If your current or former spouse was responsible for the debt
• If you disagree with decisions the IRS makes while handling your case

Currently not collectible status

If you’re facing a long-term financial hardship and can’t pay anything toward your debt, you can call the IRS and ask to delay collection. You’ll be required to provide detailed financial information, which the IRS will periodically review to see whether you’re eligible to begin paying again.

Pros

• Stops tax debt collection activities

• IRS writes off tax debt after 10 years

Cons

• Not everyone will qualify

• IRS may file a lien on your property

• Interest and fees continue to accumulate

• Larger balance to repay if your income increases later

Best for

• If you can’t repay your tax debt within 10 years

Legal advice and debt relief

If you’re unsure of your options, you have many options to get help. You might be eligible for free tax and legal clinics or paid help from a tax lawyer. If you’re not sure where to start looking, try visiting 211.org.

Pros

• More support available for low-income taxpayers

• Personalized one-on-one help for complex issues

Cons

• Must be watchful for tax relief scams

• Need to sort through available options

Best for

• If you have a more complex situation
• If you need help making sense of your options

How to handle federal vs. state tax debt

Once you’ve identified the strategy that best fits your situation, it’s important to understand the differences in handling federal and state tax debt. 

Each requires a different approach and involves interacting with different agencies. Here’s how you can proceed:

What if I owe the IRS and can’t pay?

If you owe federal taxes to the IRS and can’t pay, here’s how to get started with the appropriate strategy:

1. File your return, even if you can’t pay: You must file your tax return on time to avoid penalties. Even if you owe money and can’t pay it all right now, failing to file will lead to more penalties.
2. Contact the IRS: Reach out to the IRS online or by phone. Explain your financial situation to explore options, including installment agreements, Offer in Compromise, or Currently Not Collectible status.
3. Follow through with documentation: Depending on your strategy, you may need to submit financial documents (such as bank statements or income records) to the IRS. Be prompt and thorough to avoid delays.
4. Stay updated on your plan: Once you’ve set up an arrangement, ensure you’re adhering to it and maintaining communication with the IRS if your financial situation changes.

If you need additional help navigating IRS options, you may want to consider consulting a tax relief company or tax professional for guidance.

What if I owe state taxes and can’t pay?

If you owe state taxes, the process will depend on your state’s specific tax collection agency, but here are the steps you’re likely to take:

1. File your state return: Just like with the IRS, it’s critical to file your state taxes on time to avoid penalties.
2. Contact your state tax agency: Every state has its own tax authority, such as the Department of Revenue or Franchise Tax Board. Contact it to inquire about your payment relief options. Most states offer solutions that might include installment plans, settlement options, and temporary hardship relief.
3. Submit required documents: Based on the option you select, be ready to provide the necessary documents, such as proof of income, expenses, or financial hardship.

By following these steps for federal or state tax debt, you can choose and implement the best strategy for your situation, reducing the risk of further complications.

What if I ignore the tax debt I owe?

Failing to address tax debt can have severe and lasting consequences. Both the IRS and state tax authorities have extensive tools at their disposal to collect unpaid taxes, and the penalties only increase the longer you wait.

• Mounting penalties and interest: Tax agencies impose significant penalties for failing to file and failing to pay. The IRS, for example, charges a failure-to-file penalty of 5% of your unpaid taxes for each month your return is late, up to a maximum of 25%. The IRS and state tax agencies will charge interest on the unpaid balance, which continues to accrue over time.
• Wage garnishment and levies: If you ignore your tax debt, the IRS or your state tax agency can garnish your wages or place levies on your bank accounts. This means they can legally take a portion of your paycheck or seize funds from your account to cover the debt.
• Tax liens: Federal and state authorities can file a tax lien against your property. A lien gives the government a legal claim to your assets, making it difficult to sell or refinance your home or other property.
• Asset seizure: In extreme cases, the IRS or state tax agencies can seize your property, including your home, cars, and other valuable assets, to satisfy the debt.
• Legal action: Ignoring your tax debt could lead to legal action. While rare, criminal charges, such as tax evasion, could result in fines or even imprisonment.

The consequences of ignoring tax debt are severe, but you can avoid these outcomes by acting early and exploring the strategies outlined above. Addressing your tax debt as soon as possible will help you minimize penalties and prevent financial and legal trouble.

How to get help with your tax debt

If managing tax debt feels overwhelming or you’re unsure which strategy to pursue, you may want to work with a tax relief company. These companies specialize in negotiating with the IRS or state agencies and can help you explore options, including installment agreements or Offers in Compromise.

How can a tax relief company help?

A reputable tax relief company can assist by:

• Negotiating settlements: The company can help settle your tax debt for less through an Offer in Compromise.
• Setting up payment plans: A tax relief company can ensure the installment agreement works for your situation.
• Handling paperwork and communication: The company can file forms and manage communication with tax authorities, reducing stress.
• Stopping wage garnishments or levies: Tax relief professionals can help halt aggressive collection actions while negotiating your settlement.

When should you consider a tax relief company?

Consider hiring a tax relief company if:

• You owe a large tax debt, especially over $10,000.
• You’re facing wage garnishments or levies.
• You feel overwhelmed and need help navigating IRS or state procedures.

What to watch out for

Be cautious of tax relief scams, including:

• Promises of instant forgiveness: Avoid companies that guarantee debt relief without reviewing your financials.
• Upfront fees without results: Look for transparent pricing, and avoid large upfront costs.
• Unrealistic claims: No company can erase your tax debt completely, so steer clear of exaggerated promises.

Working with a tax relief company can offer support, but it’s important to choose a reputable company with a proven track record. Check out our guide for the best tax relief companies to find the right one for you.

The post What Should You Do If You Can’t Pay Your Taxes? appeared first on LendEDU.