IRS Payment Plan vs. Personal Loan: Which Is Better?

How to Decide Between an IRS Payment Plan and a Loan

When a taxpayer in the United States discovers they cannot pay their full tax bill, the decision must be both quick and strategic.

Two main alternatives usually emerge: enrolling in an IRS payment plan or taking out a personal loan from a bank, fintech, or credit union.

How an IRS Payment Plan Works

The IRS generally offers two primary options for individuals:

• Short-Term Payment Plan (up to 180 days)
• Long-Term Installment Agreement (monthly payments)

The short-term plan is designed for those who can pay off the balance within six months. There is no setup fee, but interest and penalties continue to accrue until the balance is fully paid.

The long-term installment agreement requires monthly payments and may involve a setup fee, which varies depending on the payment method (automatic debit plans tend to be less expensive).

Interest and Penalties

Even under a payment plan, the IRS applies:

• Federal interest adjusted quarterly (based on the federal short-term rate + 3%).
• A failure-to-pay penalty, generally 0.5% per month on the outstanding balance.

The effective annual rate is often lower than many high-risk personal loans, but it is still financially significant.

Technical Advantages of an IRS Payment Plan

• Does not require a traditional credit check.
• Does not generate a hard inquiry on your credit report.
• Keeps the debt under legal control.
• Prevents more severe enforcement actions such as wage garnishment or levies.

Disadvantages

• Interest and penalties continue accumulating.
• The IRS may file a federal tax lien in more serious cases.
• Future tax refunds may be withheld and applied toward the balance.

How a Personal Loan Works to Pay Taxes

The alternative is to take out a personal loan from a traditional bank, credit union, or fintech lender; use the funds to pay the IRS in full; and then make fixed payments to the private lender.

This service can be obtained from reputable institutions such as Bank of America, Wells Fargo, SoFi, and LendingClub.

Financial Structure of a Personal Loan

A personal loan typically offers:

• Fixed annual percentage rate (APR).
• Fixed monthly payments.
• Defined repayment terms.
• Credit analysis with a hard inquiry.

APR can vary significantly. Borrowers with FICO scores above 740 may qualify for rates between 7% and 10%.

Average credit may result in APRs between 12% and 20%, while lower credit scores may face rates of 25% or higher.

Technical Comparison: Effective Cost

1️⃣ Interest Rate

• The IRS charges interest plus monthly penalties, typically resulting in a moderate effective rate.
• A personal loan may be cheaper if you have excellent credit.
• With weaker credit, a personal loan may be more expensive than the IRS installment plan.

2️⃣ Amortization Structure

• With the IRS, interest continues accruing on the remaining balance until fully paid.
• With a fixed-rate personal loan, you gain full cost predictability.

Credit Impact

IRS Payment Plan

• Does not appear as a traditional installment debt on your credit report.
• May indirectly affect credit if a public tax lien is filed.

Personal Loan

• Generates a hard inquiry.
• Increases total outstanding debt.
• May improve your credit score long-term if paid on time.
• May temporarily reduce your score in the short term.

If you are planning to finance a home or car soon, this impact must be carefully evaluated.

Legal Risk

Failing to pay the IRS is significantly more serious than falling behind with a private lender.

The IRS has legal authority to:

• Garnish wages.
• Levy bank accounts.
• Offset future tax refunds.

Formally entering into a payment plan drastically reduces these risks.

When an IRS Payment Plan Is Better

• You do not have excellent credit.
• You need flexibility.
• The amount owed is relatively low.
• You want to avoid taking on new private debt.
• You want to avoid an immediate impact on your credit score.

When a Personal Loan Is Better

• You have excellent credit.
• You can secure a significantly lower interest rate.
• You want to immediately stop IRS penalties from accruing.
• You prefer predictable fixed payments.
• You want to avoid the risk of a federal tax lien.

Hybrid Strategy (Less Discussed but Effective)

An interesting technical approach:

1. Enroll in an IRS payment plan immediately to avoid enforcement actions.
2. Work on improving your credit score for 2–3 months.
3. Refinance through a personal loan at a lower rate.
4. Pay off the IRS balance in full.

Written by

Gabriel Gonçalves