Why paying taxes by credit card probably isn't a good idea

Taxes for 2019 are due on April 15, so most Americans are right in the thick of tax season, assembling their paperwork and getting ready to submit their tax returns. While the majority of Americans receive a refund after filing, millions of others end up owing money to the IRS because they didn't pay in enough. If you're one of them, you'll need to decide how to pay your bill.

There are a few free options for sending money to the IRS, including direct pay or an electronic funds withdrawal when you e-file -- but each of these no-cost approaches requires money to be taken directly from your bank account. If you want to use a credit or debit card, you're going to have to pay a processing fee.

And while this may seem like an attractive option if you're able to get credit card rewards, there are three big reasons paying with a credit card is usually a bad idea.

The fees are likely to offset the rewards

The IRS requires you to use one of three approved payment processors to pay your taxes with a debit or credit card. While the debit card processing fees are a reasonable flat fee from each provider, which ranges between $2.00 and $2.58, the credit card fees equal a percentage of the entire transaction amount. Specifically, you'd owe:

ARE CREDIT CARDS REWARDS TAXABLE INCOME?

• 1.96 percent with a minimum $2.69 fee if you use PayUSAtax
• 1.87 percent with a minimum $2.59 fee if you use Pay1040
• 1.99 percent with a maximum $2.50 fee if you use OfficialPayments

This means that for every $1,000 in taxes you pay, you'd incur almost $20 in fees. While you could cover these costs if you use a credit card offering 2 percent back on purchases, you'd lose virtually all the rewards you earn. Paying with your card likely isn't worth the hassle because of this, except if you're trying to meet a minimum spending requirement to earn a new cardmember bonus.

Credit card interest is very expensive

Average credit card interest rates are close to 15 percent across all accounts and close to 17 percent on cards assessed interest, according to the Federal Reserve. Depending on your card's rate, the interest you'd pay if you charge your taxes may be more than what you'd owe the IRS, which charges interest on unpaid tax debt at the federal short-term rate plus 3 percent. While you'll also owe the IRS a late payment penalty if you don't pay on time, it equals just 0.5 percent of the unpaid tax account per month up to a maximum of 25 percent of the total balance due.

IS MY CREDIT CARD INTEREST TAX DEDUCTABLE?

The IRS also offer a number of plans that allow you to pay over time, including both short-term and long-term installment plans. If you sign up for a short-term plan and pay in 120 days or less, you won't incur a fee to set up your plan or make payments from your checking or savings account. Long-term plans do charge setup fees but if you make your tax payments through automatic direct debit and apply for your plan online, the cost comes to only $31. You'll still owe penalties and interest though, even if you set up a short or long-term payment plan.

There is one exception to the high costs of credit card interest, though. If you have a card offering a 0 percent introductory purchase APR and you're able to pay your taxes before that promotional rate expires, you could end up avoiding interest entirely on the tax debt you charged.

You could hurt your credit score

If you owe a hefty sum to the IRS and you charge your payment, you'll run up your card's balance. This can be a big problem because credit utilization ratio -- the amount of credit used relative to what you have available -- is one of the most important components of your credit score. 

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If you charge $5,000 in taxes on a card with a $6,000 limit, your utilization ratio will be about 84 percent. Unfortunately, anything over 30 percent can hurt your score, while consumers with the highest scores tend to keep their ratio to 10 percent or less.

What are your other options?

If you're not one of the millions of Americans owed a refund in 2020, the best option to avoid fees in paying your tax bill is to pay on time via direct debit or electronic funds transfer. If you can't pay on time, consider looking into IRS installment agreements. A personal loan could also be an affordable way to pay a tax bill you can't afford to cover -- and it might cost less than either using a credit card or paying penalties, interest, and installment plan set-up fees to the IRS.

Whatever you decide, the important thing is to file your return on time even if you can't pay, as the penalty for failing to file is much higher than fees associated with failing to pay. You'll also want to make sure the information you submit is accurate and that you avoid red flags that could lead to an audit, as no one wants to deal with an IRS investigation.