How to Make Money Paying Taxes With a Credit Card

Nobody likes paying taxes, but the IRS makes it easy to do so by authorizing select companies to process credit and debit cards on its behalf.

The downside is that these companies charge taxpayers a processing fee for their payments. These fees, which range from 1.87% - 2.35% of the taxes paid, make it unwise to pay your taxes with most credit cards.

The IRS posts a list of the companies authorized to accept Federal tax payments on its behalf, along with the fees charged. But what if there was a way to charge your tax payments to a credit card that earned rewards worth more than the fees paid? This is what savvy cardholders can do when they choose the right credit card to pay their tax bill. Furthermore, there is an ingenious loophole that can allow taxpayers to pay a fee smaller than 1.87%.

When Rewards Are Worth More Than the Fee

The lowest fee charged by a website authorized by the IRS to accept tax payments is 1.87%.

These sites are Value Tax Payment and payUSAtax, which are nearly identical web pages that are both operated by a company called Value Payment Systems. At this rate, any card that offers rewards worth more than 1.87% would be worth using to pay a tax bill. For example, the Venture Rewards card from Capital One offers double miles on all purchases, and each mile is worth one cent towards gift cards or as a statement credit towards any travel purchase. This means that each purchase returns rewards worth 2% of spending. So if a cardholder paid a $5,000 tax bill at this web site, he or she would incur a $93.50 fee, but earn $100 worth of rewards for a net benefit of $7.50. While this might not be a large amount, it does mean that the taxpayer is making up more than the difference for the credit card transaction fee.

The Fidelity Investments Rewards American Express cards offer 2% cash back rewards that are deposited in a qualifying account with Fidelity Investments, the same calculation will apply if a taxpayer uses one of these cards to make a tax payment.

With the Starwood Preferred Guest card from American Express, cardholders earn one point per dollar spent on all purchases and these points can then be transferred to frequent flier miles with over 30 different carriers. In addition, cardholders receive a 5,000-point bonus when they transfer 20,000 points to miles at once, so each dollar spent on this card translates to 1.25 airline miles.

If cardholders are able to redeem those miles for tickets worth 1.5 cents a mile or more, than it could make sense to pay their taxes with this card. For example, a cardholder who transfers 20,000 Starpoints to American Airlines will receive 25,000 AAdvantage miles. If those miles are used for a domestic round-trip award ticket worth $375 or more, than the cardholder comes out ahead when paying taxes with the Starwood card.

When Rewards Are Worth Less Than the Fee

In other instances, it can still make sense to pay a tax bill even if the spending rewards are worth less than the processing fee. This is the case when cardholders are close to reaching the spending threshold to earn a large bonus.

For example, the Starwood card offers a 15,000-point bonus to new applicants who spend $5,000 within the first six months of opening an account. If paying taxes with this card will enable cardholders to reach this spending threshold in time, the value of the points received can be well worth the tax payment processing fees.

Maximizing Rewards & Shrinking the Fee

The payment processors will accept tax payments from debit cards with a flat fee starting at $2.49 per payment. Although there are almost no debit cards left that offer rewards, savvy taxpayers can still use their credit card to buy prepaid debit cards sold as gift cards at grocery stores, drug stores, gas stations and even some hardware stores.

In this case, taxpayers will pay a $4.95 fee when they purchase a $500 gift card, plus a flat debit card fee for each card payment of $2.49 or more. So the combined total of gift card fees and debit card fees will be equal to about 1.5% of the taxes paid (for each $500 payment), which is a small savings off of the 1.87% credit card fee.

The real advantage of purchasing prepaid debit cards with your credit card is that you can do so where bonus rewards are offered. For instance, Wells Fargo currently offers several cards that feature 5% cash back at gas stations, grocery and drug store purchases for cardholders' first six months, which means that their cardholders can earn rewards worth 3.5% of their taxes paid. Furthermore, the American Express Blue Cash Preferred offers 6% cash back from spending at grocery stores on cardholder's first $6,000 of eligible spending each year, so taxpayers could conceivably earn rewards worth as much as 4.5% of their tax payments. This works out to a $225 savings on a $5,000 tax bill.

Disadvantages of Paying Your Taxes With a Credit Card

First, it is unwise to finance a tax bill with a credit card as any interest accrued and paid will vastly outweigh any savings. And if the tax payment causes you to use a high percentage of your available credit, your credit scores may suffer. (If you want to know how your debt is affecting your credit scores, there are free tools that allow you to monitor them, including Credit.com's Credit Report Card, which also gives you an overview of the factors that are affecting your scores.)

These strategies are only worthwhile for those who pay their statement balance in full each month. Additionally, purchasing gift cards with a credit card can be inconvenient and time consuming. Taxpayers will have to register each gift card with their ZIP code, and some processors have a limit on the number of gift cards they can accept for a payment. In my experience, Choice Pay representatives will gladly accept multiple debit cards over the telephone, but the telephone call is time consuming and their fee is slightly higher at $3.48 per card. While an accountant may be able to help you find loopholes in the tax code that will reduce your payments, it is also possible to save a little money on your taxes through the skillful use of your credit card.

Read More from Credit.com

How to File Your Taxes for Free  

How to Maximize Your Tax Refund 

Can Taxes Affect Your Credit Score? 

Note: It's important to remember that interest rates, fees and terms for credit cards, loans and other financial products frequently change. As a result, rates, fees and terms for credit cards, loans and other financial products cited in these articles may have changed since the date of publication. Please be sure to verify current rates, fees and terms with credit card issuers, banks or other financial institutions directly.