FAQs: Installment Agreement

Last time when I called the IRS, they offered to set up an installment payment arrangement, which would help me pay off my tax debts. Should I enter into an installment payment agreement with the IRS, or a similar agreement with the taxing authorities of Maryland, Virginia or Washington, D.C.?

      If you indicate to the IRS that you are not able to pay off your back taxes in one lump sum, the IRS will offer you an installment payment agreement under which you agree to pay a certain amount each month. Sometimes this is your best option to gradually eliminate your tax debt.

      However, you should remember that during the life of the installment agreement, interest continues to accrue on your tax debt. The theory is that by delaying to pay off your tax debt, you have in effect borrowed from the government and therefore need to pay interest. The IRS interest rate is higher than the commercial rate. Therefore, from the taxpayer's point of view, it is more advantageous to borrow from a bank or from another financial institution and pay the IRS. The interest rates on tax debts in Maryland, Virginia and Washington, D.C. are similarly set higher than the commercial rate.

      You should also have in mind that entering into an installment agreement does not prevent the IRS from filing a tax lien against you. The IRS may or may not file a tax lien when an installment agreement is in place. This depends on the amount of the tax liability and also other factors. In addition, the IRS may ask you to complete a financial disclosure form before the IRS agrees to enter into an installment payment agreement with you. By examining your finances, the IRS wants to assess your ability to pay the installment amount. Having reviewed your financial disclosure form, the IRS may or may not agree with the amount you have offered as the monthly installment amount.

      Because the interest keeps accruing on the tax debt during the life of the installment agreement, the total tax debt may never decrease, even when regular monthly payments are made. The situation is similar to a high-interest credit card debt. Even though the credit card borrower keeps paying the minimum balance due for years on end, the principal amount of credit card debt may remain the same or even go up.

      To sum up, installment payment agreements with the IRS or with other taxing authorities such as those in Maryland, Virginia or Washington, D.C. may or may not be advantageous to the taxpayer. If the amount of the tax debt is small, an installment payment agreement may be to taxpayer's benefit. But the combination of large tax liabilities and high interest rates often creates a snowball effect and the taxpayer will soon be burdened by an unmanageable tax debt.

      If you are considering an installment payment agreement with the IRS or with the taxing authorities of Maryland, Virginia or Washington, D.C., you should seek the advice of a competent tax lawyer. Having evaluated your overall tax situation, a tax attorney would be able to recommend entering into an installment payment agreement with the government or using the installment payment option as one of the tools in order to arrive at a tax efficient solution for your problem.