Key Takeaways
- Back taxes do not appear on your credit report and don’t directly affect your credit score.
- Tax liens used to affect credit, but credit bureaus removed them from scoring models in 2018.
- The IRS does not report audits, payment plans, or tax debt to credit bureaus.
- However, missed payments on other debts, increased credit utilization, or using high-interest credit to pay taxes can hurt your score indirectly.
- Always address tax debt promptly to avoid legal action, public liens, or financial strain that could lead to credit mistakes.
When managing personal finances, understanding the impact of back taxes on your credit score is crucial. Many people may wonder whether owing money to the IRS or a state tax agency could damage their credit. After all, credit scores play a pivotal role in securing loans, renting an apartment, buying a home, or even landing a job. In this guide, we’ll break down what back taxes are, how they interact with credit scoring models today, and the indirect ways they can still influence your financial standing. We’ll also explore what steps you can take to minimize any negative effects on your credit profile.
What Are Back Taxes?
Back taxes are taxes that haven’t been paid in full by their due date. These can stem from unpaid income taxes, underreported earnings, late tax return filings, or outstanding tax bills that weren’t settled in full. You can owe back taxes to the federal government (IRS) or to state and local tax authorities.
Over time, back taxes accrue penalties and daily compounding interest, increasing the total amount owed. If left unresolved, the IRS or other tax authorities may take further collection actions, such as sending notices, garnishing wages, or placing liens against your property.
When Can Back Taxes Indirectly Affect Your Credit?
Although back taxes themselves don’t show up on your credit report, they can still affect your credit health indirectly, especially if they lead to financial strain or legal action.
Tax Liens (and How They’ve Changed)
Before 2018, if you owed back taxes and didn’t resolve them, the IRS could file a Notice of Federal Tax Lien, a public claim against your assets. These liens did appear on credit reports and could significantly damage your score.
However, in 2018, the three major credit bureaus, Equifax, Experian, and TransUnion, removed all tax liens from credit reports and stopped including them in credit scoring models. That means:
- New tax liens no longer show up on credit reports
- Existing tax liens no longer impact your score, even if unpaid
However, the tax lien may still exist as a public record, which can be seen during employment background checks, loan underwriting, or real estate transactions. It may not hurt your score, but it can still influence financial decisions behind the scenes.
Debt-to-Income Ratio
Having back taxes can increase your overall debt load. While the debt-to-income ratio is not a direct factor in credit scoring models, it matters to lenders. If you take on additional debt to pay back taxes, like using a credit card or personal loan, it could increase your total monthly obligations and hurt your borrowing profile.
Increased financial pressure may also cause you to miss payments on other credit accounts, which does directly lower your credit score. So, even though tax debt itself is invisible to credit scoring, its ripple effect can still be damaging.
Missed or Late Payments on Other Accounts
One of the biggest indirect dangers of owing taxes is that the burden might throw off your overall financial balance. If paying the IRS causes you to delay payments on your mortgage, credit card, or auto loan, your payment history (the biggest factor in your credit score) will suffer. Lenders and creditors weigh late payments very heavily, and just one 30-day delinquency can drop your score by 60–110 points, depending on your credit profile.
Do IRS Payment Plans Affect Credit?
The good news is that IRS payment plans, also known as installment agreements, do not affect your credit. The IRS doesn’t report these plans to the credit bureaus, so entering one won’t help or hurt your score directly. This is true whether you’re on a short-term 120-day plan or a long-term 72-month installment agreement. Still, it’s important to make every payment on time because missing a scheduled tax payment could escalate to enforcement or lien filing.
Using Credit to Pay Back Taxes: Risks and Rewards
If you can’t pay your tax bill in full, you might consider using a credit card, personal loan, or even a home equity loan to cover the cost. This could resolve the IRS debt quickly and avoid further penalties. However, it shifts the liability to your credit profile.
Here’s how it plays out:
- Using a credit card may increase your credit utilization ratio, which can hurt your score if balances exceed 30% of your available limit.
- Taking a personal loan adds to your overall debt load and impacts your length and mix of credit.
- Missed payments on those new credit accounts will harm your score far more than a quiet IRS bill would.
Before transferring tax debt to your credit profile, weigh the pros and cons. A 0% APR balance transfer card or low-interest personal loan may be worth it if you can repay the debt quickly and stay current.
What If a Tax Lien Still Appears on My Credit Report?
Despite credit bureaus no longer including tax liens, errors can happen. If a tax lien appears on your credit report:
- Dispute it immediately with the credit bureau reporting it (Experian, Equifax, or TransUnion).
- Provide documentation proving that tax liens are no longer included.
- Follow up with the IRS to request a lien withdrawal using Form 12277, especially if the debt is resolved or the lien was filed incorrectly.
Removing inaccurate public records can improve your chances of qualifying for credit, even if it doesn’t change your score.
Steps to Take If You Owe Back Taxes
Even if the impact on your credit score is indirect, unpaid taxes are serious business. Here’s how to stay in control:
- Contact the IRS or Your State Tax Authority: Don’t ignore the debt. The sooner you reach out, the more options you’ll have, including payment plans, temporary hardship status, or even offers in compromise.
- Set Up a Payment Plan: Establishing a payment plan can help you avoid additional penalties and interest. As long as you stay current, the IRS won’t escalate the situation to liens or garnishments.
- Prioritize Payments: Make timely payments on all your financial obligations, including taxes and other debts. This can help maintain a good credit history and avoid late payment penalties.
- Seek Professional Help: Consider consulting a tax professional or financial advisor. They can provide personalized advice and help you navigate your tax debt.
Frequently Asked Questions
Does back tax affect your credit score?
Back taxes don’t directly affect your credit score because tax debt isn’t reported to credit bureaus. However, if unpaid taxes lead to financial strain or missed payments on loans or credit cards, your score could suffer indirectly.
Does the IRS forgive tax debt after 10 years?
Yes, under the IRS statute of limitations, tax debt may be forgiven after 10 years if certain conditions are met and no legal action extends the deadline. This is often referred to as the IRS 10-year rule.
Does owing state taxes affect your credit score?
Like federal tax debt, owing state taxes typically doesn’t appear on your credit report. However, if a state tax lien is filed and shared with credit bureaus through public records or court actions, it could impact your score.
Does back tax affect mortgage approval?
Yes, owing back taxes can affect your ability to get approved for a mortgage. Lenders may view unpaid tax debt as a risk, especially if there’s a lien or no payment plan in place.
What is tax evasion?
Tax evasion is the illegal act of intentionally avoiding paying taxes owed by underreporting income, inflating deductions, or hiding money. It’s considered a serious federal offense.
How much do you have to owe the IRS before they put a lien?
The IRS may file a Notice of Federal Tax Lien once you owe $10,000 or more, but they can initiate action at lower amounts. The lien protects the government’s interest in your property.
Who is eligible for IRS Fresh Start?
The IRS Fresh Start Program is available to taxpayers who owe less than $50,000 and meet income or hardship criteria. It offers options like streamlined installment agreements or offers in compromise.
Tax Help for Those with Back Taxes
While back taxes do not directly affect your credit score, they can have indirect effects that might harm your financial health. By understanding the relationship between taxes and credit scores, and by taking proactive steps to manage your tax obligations, you can maintain better control over your financial situation and protect your credit score. Remember, staying informed and seeking professional assistance when needed can make a significant difference in your financial well-being. Optima Tax Relief is the nation’s leading tax resolution firm with over $3 billion in resolved tax liabilities.
If You Need Tax Help, Contact Us Today for a Free Consultation