How Not Paying Your Taxes Can Affect Credit Score

Woman needing help with tax bill

With Tax Day approaching on April 15th, you may be thinking about how not paying your taxes can affect your credit score. Perhaps you owe taxes you are worried about paying. Fortunately, we can put your mind to rest.

You may not know that the IRS can no longer report outstanding tax debt to your credit reports. Additionally, they are more likely than any other creditor to work with you on paying down your tax bills. This is all good news for you and your financial health. But you need to face your debt to Uncle Sam head on. Read what you need to know about paying back taxes and how not paying your taxes can affect your credit score.

Tax Liens Removed From Credit Reports

As of 2017, there was a profound change on what the IRS can do as far as reporting to the credit bureaus (Experian, TransUnion and Equifax). Prior to that, if you defaulted on paying your tax debt, the IRS would put a tax lien in place. (A tax lien provides the federal government a legal claim to assets you own such as your home, your car, or other property. ) Liens and other civil judgments and bankruptcies were included on your credit report and could remain up to 10 years. These truly would make your credit score drop and make borrowing money extremely difficult.

Fortunately, the three major credit bureaus made a big change and launched the National Consumer Assistance Plan (NCAP). As of April 2018, all tax liens were removed from all credit reports. Your credit score, which is the calculation based on your credit report data, is no longer bogged down should you have a tax lien.

picture of tax bill

How can tax debt hurt you?

Even though the IRS cannot report tax debt to the credit agencies, your credit can still suffer. Here’s how:

  • Excess tax debt makes it difficult to pay other debts
  • Interest and penalties
  • Lenders can still check public records for liens

When you’ve added substantial debt such as a tax bill, your finances are strained. Even with a payment plan, you may be in a situation where it is difficult to make payments. Debt can snowball. If you fall behind on bills including utility, credit cards, mortgages and loans, your credit score will drop.

Additionally, the IRS will charge you interest on the tax debt you owe. For as long as you have tax debt, you will be charged an interest fee. They also can charge you penalties. The IRS can charge a 0.5% up to a 25% penalty on the total tax debt amount if you fail to pay. This can all add up to significant fees that you will have to pay.

Remember that even though a tax lien is not on your credit report, lenders can still find out if they search public records. Many mortgage lenders run public record searches in addition to credit report searches to determine your creditworthiness.

TIP: Try to anticipate taxes owed so you can put aside money all year to pay your taxes. Also, make arrangements for a payment plan if you cannot pay your taxes in a lump sum.W

Options

Tax debt is only worrisome if you don’t have a plan in place to address it. While we aren’t offering specific advise, here are some options to out there you can consider.

Payment Plan

It is wise to consider a payment plan as soon as you know you owe a tax debt you are having trouble paying. In most cases, the IRS will work with you.

Penalty Reduction or Removal

While you cannot avoid the interest fees, attempt to stop the penalties. Submit a “reasonable cause” for the non-payment. Usually, the IRS will consider things like a natural disaster, divorce, theft, divorce, or death in the family to reduce or stop the penalty fees.

Tax Debt Reduction Settlement

Another option you could consider is a tax settlement. An offer in compromise (OIC) is where the IRS agrees to settle the tax debt for less than the full amount owed. While this sounds appealing, take the time to really know the ins and outs of doing this. Consult with an experienced tax lawyer to determine your best course of action.

No matter what you opt to do, make sure you work to save your credit that you have worked to build. Take all the steps you can to address the problem early. Prepare by saving money to use towards your tax bill. If you anticipate having difficulty paying your taxes, contact the IRS and an experienced tax attorney for advise.