How To Use a Personal Loan To Pay Taxes

When you owe money to the IRS, you want to take care of your debt as soon as possible. Entering an IRS payment plan may seem like the best way to resolve your tax debt, and in certain situations they can be the best option due to their flexibility.

There are loans. But is using a personal loan to pay taxes a smart move? If you don’t qualify for IRS relief and you’re looking to avoid penalties or high credit card interest rates, it could be a worthwhile option. Let’s dive into how it works.

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Can You Use a Personal Loan to Pay Taxes?

If you have a decent credit score, you may be able to take out a personal loan to pay your taxes. Once you qualify for a personal loan, you can use the money for just about any purpose. The IRS doesn’t care where the money you use to pay your taxes comes from. 

If you take out a personal loan, you’ll generally receive the funds in your bank account. From there, you can use the money to pay the IRS via check, direct pay, or credit or debit card. This applies to both federal taxes, which are paid to the IRS, and state taxes, which are paid to your state’s tax agency.

How Using a Personal Loan To Pay Taxes Works

Follow the steps below when taking out a personal installment loan to pay taxes.  

1. Check Your Total Tax Bill and Penalties

Before shopping around for a personal loan, confirm exactly how much you owe in taxes, including both federal and state payments as well as any penalties for late payments.

2. Shop Around and Compare Personal Loan Offers

Next, compare personal loan offers with a focus on interest rates. Some lenders allow you to prequalify to see your rates without doing a hard credit check. You’ll also want to look for personal loans that offer fast funding, especially if you’re cutting it close with the tax due date.

3. Compare Loan APR With IRS Penalties and Interest

Before you commit to a personal loan, check the loan interest rate against the late payment penalties and interest charged by the IRS. If it’s cheaper to go with an IRS payment plan, a personal loan may not be worth it.

4. Gather Documents

Lenders often ask for documents that prove who you are, where you live, and how much money you make each year. Speed up the application process by having documents like your driver’s license, Social Security number and W-2s readily available.  

5. Submit Your Application

Some lenders let you complete and submit your loan application online. You may have to complete a loan application in person at a brick-and-mortar bank.  

6. Pay Your Taxes

The fastest way to settle your tax debt is to make an electronic payment through IRS DirectPay or by setting up an online account with the IRS. You may also mail a check or money order. If you owe $500 or less, you can pay in cash at an authorized IRS retail partner.  

Pros and Cons of Using a Personal Loan To Pay Taxes

Consider the benefits and drawbacks of taking out a personal loan to pay taxes.  

Pros

• Interest rate: If you have an excellent credit score, you may get a lower interest rate than with an IRS payment plan. Don’t just guess; check to confirm whether this is the case to save as much money as possible.

• Satisfy tax debt: Once you pay off your tax debt, you don’t have the stress of dealing with the IRS.  

• No collateral: Personal loans are unsecured. You don’t need collateral, so you won’t risk losing assets like your home or bank account.  

Cons

• Cost: The interest rate with a personal loan may be higher than what you get with the IRS if you have bad credit. There’s also the risk of paying more long-term than you would with an IRS payment plan, and you won’t have consumer protections like IRS hardship programs.

• Must qualify: Most lenders require you to meet eligibility, credit score, and income requirements to qualify.

• May affect your credit: Your debt-to-income ratio changes when you take out a personal loan. Your credit score could drop if your debt-to-income ratio is affected.  

When a Personal Loan Might Make Sense

Taking out a personal loan to pay your taxes could make sense if:

• You have strong credit and can qualify for a low APR.

• Your tax bill is small to mid-size, since most online personal loans top out at $100,000 or less.

• You’ve already used an IRS payment plan and need to avoid compounding penalties.

• You don’t have a strong alternative option, such as borrowing money from a friend or family member or using a credit card with an introductory APR offer.

When a Personal Loan Might Not Be a Good Idea

On the flip side, there are times when a personal loan is probably not your best bet. 

Pursuing a payment plan with the IRS could be better if:

• Your income is low and can qualify you for waived fees.

• You can demonstrate financial hardship and ask to temporarily delay tax collection.

• You have a very large tax balance that would still be unmanageable even if you borrowed money through a personal loan.

• Your credit score only qualifies you for high-interest personal loans.

MoneyLion can help you explore a wide variety of credit card options tailored to different needs and preferences.

Alternatives to Using a Personal Loan To Pay Taxes

You can find alternative ways to pay taxes if you can’t get a personal loan. Depending on your situation, some of these other options could be more cost-effective. In every case, make sure you compare the amount of interest you’d pay against IRS interest and penalties.

1. IRS Payment Plan

The IRS offers short-term and long-term repayment plans, with applications available online. If you can pay back what you owe in 180 days or less, you’ll pay no setup fees and have greater flexibility with your payments. 

You must complete an installment agreement for a longer repayment term. Setup fees range from $43 to $178, when you apply by phone, mail or in person. Your actual price will depend on how you apply and whether you plan to make payments electronically, by check, money order or credit card.  

2. Credit Card

If you have enough available credit, you could pay off what you owe on your credit card. The IRS may charge a processing fee for a credit card payment, ranging from 1.75% to 1.85%.  

Using a credit card to pay tax debt can be costly if you have a high interest rate, as most cards do. But if you recently opened a card within an introductory APR period and you’re confident you’ll be able to pay off your balance before it ends, this could be a smart strategy.

3. Home Equity Loan

You can borrow against the equity built up in your home to pay your taxes. A home equity loan may get you a lower interest rate and better repayment terms than a personal loan. But since your home is collateral, you could lose your house if you don’t repay your loan.  

4. Liquid Asset-Secured Financing Loan

With liquid asset-secured financing, you can borrow money against the value of your investment portfolio. The value of your portfolio determines the amount you can borrow. If the market declines and your portfolio’s value falls, you may have to repay part of your loan to cover this shortfall.  

5. 401(k) loan

You could borrow money from your 401(k) retirement account to pay your taxes, but it’s usually worth avoiding unless you truly have no other options. The upside of a 401(k) loan is that you are paying yourself back for the loan. However, if you leave your job, you have a brief time to repay the loan. You could also be taxed and charged a 10% penalty for any money you don’t pay back by the deadline. Consult with a tax professional before pursuing this option.

Personal Loan vs IRS Payment Plan

FAQs About Using a Personal Loan To Pay Taxes

Is it better than a credit card?

Paying your taxes with a personal loan interest is often better than paying with a credit card, since credit cards usually have higher interest rates. 

Does it affect my taxes next year?

No, paying a tax bill with a personal loan shouldn’t affect your taxes in the future, as long as you’re able to make future payments in full.

Can I deduct interest?

You can’t deduct personal loan interest from your tax payment. There are some exceptions, such as when you use personal loan funds for business expenses, but using a personal loan to pay your tax bill is not an exception.

Will the IRS know?

The IRS won’t know if you use a personal loan to pay your taxes, since the loan money will be transferred to your bank account. 

Anna Yen contributed to the reporting for this article.

Sources:

• Consumer Financial Protection Bureau. 2024. "What is a personal installment loan?"

• IRS. "Direct Pay with bank account."

• IRS. 2024. "IRS offers several payment options, including help for taxpayers struggling to pay."

• IRS. "Pay with cash at a retail partner."

• IRS. "Additional information on payment plans."

• IRS. "Quarterly interest rates."

• IRS. "Considering a loan from your 401(k) plan?"