NOTE: Due to the COVID-19 coronavirus pandemic, the IRS has extended the federal tax filing and payment deadline to July 15, 2020. The recent relief package passed by Congress may have additional tax implications. Please contact a tax adviser for information you may need to complete your taxes this year. Learn more.
Taxes in and of themselves don’t impact your personal credit score. The Internal Revenue Service doesn’t report state or federal taxes or your on-time payments to the credit bureaus. However, failing to pay your taxes and the actions you take to pay taxes you owe could lead to negative changes to your credit history and score.
How Taxes Affect Credit Score
Owing the IRS a big tax bill come April 15 doesn’t automatically affect your credit score. But how you choose to pay your taxes can—as can any unpaid taxes.
If you take out a loan or use a credit card to pay your tax bill, you incur debt that does show up on your credit report. It could increase your credit utilization, which could drive down your credit score. And if you don’t pay these bills in a timely manner, the creditors can report missed payments or defaults. That’s bad news for your score.
〉 Learn more: What Affects Your Credit Score
The same is true if you don’t pay your taxes. Eventually, the IRS will take actions to collect on the debt. These actions may be reported on your credit history. And since the IRS can garnish your wages and put levies on your property, it could make it harder to pay other debts, creating a slippery slope that leads to a drastic drop in your credit score.
Keep Taxes from Derailing Your Credit
If you owe taxes, making arrangements to pay them is critical. Here are some options for paying your taxes and how these payment options might impact your credit.
Payment Option 1: Installment Agreements
Despite its negative reputation, the IRS understands consumer hardships and offers debt settlement and tax relief options. Agreeing to pay a tax bill via an installment agreement with the IRS doesn’t affect your credit. IRS installment agreements are not reported to the credit reporting agencies. The IRS offers a few payment options for taxpayers who can’t pay their taxes all at once, including online payment agreements.
Payment Option 2: Credit Cards
Charging a big tax bill is an option for consumers who have credit cards with a high enough limit. But there can be consequences for your credit score if you’re already using a large amount of your available credit. Charging a credit card near its limit can hurt your credit utilization ratio. That could keep you from qualifying for additional credit such as a mortgage or auto loan. Any late payments will also affect your credit score—though on-time payments may be helpful if you’re building your credit history.
Payment Option 3: Personal Loans
If you apply for a personal loan to cover a larger-than-anticipated tax bill, the loan amount and your monthly payment record is noted on your credit reports. The loan application will also count as a hard inquiry into your credit. This will lower your credit score slightly, though the drop is temporary.
Use Credit.com’s free Credit Report Card to find out what your credit score is. Then minimize your loan applications and hard inquiry hits by finding out a lender’s minimum credit score requirements in advance. Choose a lender with credit requirements that match your credit score.
If You Don’t Pay: A Tax Lien or Bankruptcy
Failing to pay your tax bill could affect your credit. This is especially true if your unpaid taxes are $10,000 or more, which is the threshold at which the IRS generally issues a tax lien against citizens. Tax liens are no longer added to consumer credit reports as of 2018, but potential lenders may be able to search public records to discover tax liens.
In 2011, the IRS made some changes to its tax lien policies as well. These changes make it easier for taxpayers to get lien withdrawals after paying their tax bills. In many cases, the IRS will withdraw tax liens when a taxpayer enters into a Direct Debit Installment Agreement.
If you’re simply unable to pay your taxes through any of the methods mentioned above, there is the option of filing for bankruptcy. However, that would be a significant setback for your credit. Bankruptcies would remain on your credit report for seven to thirteen years.
Still, if you are struggling under a staggering amount of debt, be it taxes or personal, filing bankruptcy can be a helpful last resort. IRS debt can be included in a bankruptcy settlement, but you should talk to a lawyer about your options in this regard.
Make Smart, Educated Decisions about Tax Debt
Whether you’re facing an upcoming tax bill or you already owe the IRS, don’t panic. Take a minute to gather your wits, resources and information. Start by signing up for your free credit report card so you know exactly where you stand. By knowing what your credit is, you can better decide if a loan or other step is the right way to manage your tax debt.