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“Should I pay my taxes with a credit card?” It’s one of the most common questions I get about credit cards during tax season. Frankly, the answer is almost always no… but there are a handful of situations in which you might be tempted to consider it.
Have a question about credit cards? E-mail me at [email protected] and I’d be happy to help.
Why you shouldn’t pay your taxes with a credit card
The biggest obstacle to paying your taxes with a credit card is that the two IRS-approved credit card processors both assess surcharges. ACI Payments, Inc. adds 1.85 percent to the credit card bill (minimum fee: $2.50) and Pay1040 tacks on 1.75 percent (the minimum fee is also $2.50). That’s for personal credit cards. Using a commercial or corporate credit card adds more than an additional percentage point.
It doesn’t sound like much, but if you have a $1,000 tax bill using ACI Payments, you’ll tack on an extra $18.50 to your costs.
Scenarios when you might be tempted to pay taxes with a credit card
Even with the surcharge, you might be tempted to pay your taxes with a credit card if any of the following apply:
You need more time to pay your taxes
Notice I said you could be tempted — not that it’s necessarily a good idea.
Even if you need more time to pay your taxes, this scenario should still be a hard no, in my opinion. The average credit card rate is 20.12 percent. If you can’t afford to pay your taxes right away, the IRS offers much more affordable payment plans. A short-term IRS payment plan, for example, lasts up to 180 days and carries an annual percentage rate of 7.34 percent plus a monthly late payment assessment of 0.5 percent of the unpaid taxes (not to exceed 25 percent of your unpaid taxes in total). Longer plans are available as well. There’s a very good chance that dealing directly with the IRS will lead to lower financing costs than putting your tax bill on a credit card.
Yes, some credit cards offer 0 percent interest promotions, but that’s a slippery slope. You might not have to pay interest for a while (sometimes up to 21 months), but once the intro APR period ends, your rate could jump to 20, 25 or even 30 percent. Sometimes more. I wouldn’t take that chance with a tax bill.
You’re interested in earning rewards
Let’s switch gears and say you have the money to pay your taxes off right away, but you’re considering putting the expenses on a credit card to get cash back or travel rewards. As long as you pay in full and avoid interest, it’s free money, right?
You have to account for the 1.85 or 1.75 percent surcharge, though. There are some mainstream credit cards that give 2 percent cash back on every purchase and some niche offerings that award 2.5 or even 3 percent back on everything you buy.
Depending on how large your tax bill is and how many credit card rewards you would earn, there’s a potential arbitrage opportunity here, but it’s probably pretty minimal. If you get 2 percent cash back and pay a 1.75 percent fee, you’re effectively earning 0.25 percent. Even if your tax bill is a hefty $10,000, that’s a mere $25 in rewards-related profit.
You want to nab a sweet credit card sign-up bonus
This is my favorite scenario involving taxes and credit card rewards. The best credit card sign-up bonuses typically require new cardholders to spend a few thousand dollars in their first few months with the card in order to earn the bonus. If you wouldn’t hit the threshold with your routine spending but you could hit it by paying your taxes with the card, it might be worth it.
Let’s say you could get 100,000 points or miles (worth 1.5 cents apiece if redeemed well) by signing up for a new credit card. That’s $1,500 in value. If the card requires you to spend, say, $5,000 in your first three months, you’ll pay $87.50 in processing fees if you pay a $5,000 tax bill with a 1.75 percent surcharge. You still come out way ahead. This strategy isn’t for everyone, but it’s the most appealing of the “should I pay my taxes with a credit card?” situations.
By the way, are credit card rewards taxable?
While it’s fun and lucrative to amass credit card rewards, you might be wondering if Uncle Sam plans to get his hands on any of your points and miles. Good news: Credit card rewards are treated as a rebate on spending and are therefore not subject to income taxes.
A related but different example is when you get, for instance, $200 for opening a new bank account. In this case, that bonus is subject to taxes since you didn’t buy anything to earn it. The same is true for referral bonuses. Let’s say you get a $100 bonus after sending a friend a referral link they use to sign up for a new credit card. That counts as taxable income.
The bottom line
Tax time might be a good opportunity to rack up some credit card rewards, particularly if you use this as an occasion to sign up for a new card with a generous introductory bonus. But beware of processing fees and high credit card interest rates if you plan to carry a balance.
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