December 18, 2019 | Last Updated on: July 12, 2023
Tax season is already one of the most stressful times of the year for small business owners. Knowing that you can’t handle the year’s income tax bill can make it exponentially worse. But don’t despair, there are a few ways you can finance your tax bill. When the IRS comes knocking, ignoring them can be incredibly costly. Unpaid taxes, late federal tax returns, and no communication is a bad move. In the short-term, you may face steep penalties, and in the long-term, the IRS has the authority to garnish your wages, put a tax lien on you or your business, freeze your bank accounts, and can even seize your assets. Not paying your taxes comes with significant consequences, not the least of which is a massive hit to you and your business’s credit report. Luckily, there are options available to finance your tax bill that you couldn’t handle yourself. We’ve put together a guide to walk you through how to prepare for situations like this and how to secure financing to keep the IRS happy and your business in good shape.
Having a good plan in place to track your expected tax bills and prepare for the cash shortfalls is an important part of running a business. The idea is to avoid having to finance your tax bill in the first place. First and foremost, excellent accounting practices will help you to keep track of your revenues and expenses and will keep you apprised of your expected tax bill. With this information, you’ll be prepared come tax season, no matter the situation. If you run a large business and haven’t done so already, it may be wise to hire an accountant or retain the services of a tax professional for just this purpose. It’s also a good idea to keep and build up cash reserves to use when you have a cash crunch. Putting a portion of net income away regularly into a rainy day fund could pay huge dividends down the road, most pertinent to this article being avoiding tax debt.
Tax delinquency is not something that you want to have on your financials. If you want to be able to secure business loans in the future to help fuel growth, you should make sure that you stay in good standing with the IRS.
Your first step is to communicate with the IRS to see if you can set up an arrangement with the IRS. Most of the time, this will be in the form of an IRS payment plan or installment agreement. If your outstanding tax bill is low enough, you might even be able to sign-up for one online with minimal hassle. If the outstanding tax bill is very high, you might need to start negotiating with the help of a tax professional. Sometime the IRS will take a lower lump sum payment if they think that it’s their best option for recovering at least part of the tax bill. Setting up an installment plan is the most common way to arrange to pay your taxes. When setting up an installment plan, the IRS will look at how much you owe, any cash on hand that you have, and your regular income and from there will determine the loan terms. You may have to pay an initial fee to initiate the set-up process for longer-term loan arrangements. IRS loan, like any other financing, come with monthly payments and interest rates. Arrangements with the IRS often come with relatively low-interest rates compared with private lenders, and you can usually seek repayment terms customized to your situation. Before looking into other financing options, talking to the IRS to set-up installment payments or other arrangements should be your first move.
Though financing through the IRS is often the most cost-effective option, you may be able to find loans through private lenders that have lower interest rates and fees. The first option you should look into is taking out a business loan. Business loans often come with higher borrowing limits given the total income generated by the entity borrowing and can be sourced at competitive rates. You may also be able to write off the interest paid on the loan as a tax deduction classified as a business expense on the next tax year. If you aren’t able to secure a business loan, look into personal loans or using a home equity line of credit (HELOC)/home equity loan. For a qualified homeowner, HELOCs can often be secured at very low rates. Personal loans can be a great option too if you have the great credit history necessary to borrow enough at low rates. Both personal loans and business loans can also be manipulated into having lower interest rates if you’re willing to pay a larger downpayment, which may apply depending on your situation. Look into all of these options to see if taking out a loan is more cost-effective than financing through the IRS. The name of the game here is keeping the IRS happy while making the smallest amount of total loan payments and interest charges possible.
There are other options outside of getting a loan to finance your tax bill. Depending on your situation, they could help you save a lot on high-interest rates and save money in the long run. However, alternative options certainly have their associated negatives.
The IRS will usually let you pay your tax bill using a credit card. Remember, though, that interest rates on credit cards are enormous, and there’s a very good chance that financing your tax liabilities through business or personal credit cards will cause your credit score to take a significant hit. The IRS and other servicers often charge credit card processing fees up to 2.25% on top of the balance of the payment, which can add a lot to the total bill. On a $10,000 tax bill, that’s up to $225 in extra fees. If you’re thinking that you could make up for the losses through credit card rewards like miles and cashback bonuses, understand that even credit card pros wouldn’t be able to make up the losses associated with this strategy. There are, however, a few ways to make this option less painful. One of the best ways is to open a credit card with a 0% APR promotion. While putting a large balance on this card will still hurt your credit score due to the large level of credit utilization, you’ll be safe from massive interest payments until the introductory 0% interest rate ends.
Borrowing against your retirement account is technically an option to finance your tax bill, but it is the least effective option. This should be considered a last resort option. Withdrawing money early from retirement accounts either in the form of a taxable distribution or a loan can be costly, not only to your business but also to your personal finances. Pulling money out of retirement accounts can be incredibly costly. You will end up facing early withdrawal penalties of up to 10%. Early withdrawal penalties can be avoided via something like a 401(k) loan, but it’s still a loan. The benefit comes from knowing that you don’t owe anyone else any money as a result, but you are hurting your long-term savings plans.
