Paying The 1040 Dues - using credit to pay income tax bills - Brief Article

Kiplinger's Personal Finance Magazine, March, 2001 by Mary Beth Franklin, Kathy Jones

TAXES | The best ways to settle up with the IRS if you OWE MORE TAX.

AMERICANS are an optimistic people. And what better epitomizes an enduring "glass is half full" philosophy than finding something positive in owing a big tax bill in April? The redeeming factor here: the chance to earn frequent-flier miles by charging your balance due to a credit card.

That's what Barbara Kwasnicki, 36, a small-business owner in New York City, did last spring. When the bottom line on her 1040 showed that she owed about $15,000, she picked up the phone and said, "Charge it!" Since her card offers frequent-flier miles based on the amount charged, she racked up enough to upgrade to first-class on a trip to Los Angeles a few months later.

Kwasnicki was one of more than 400,000 taxpayers who took advantage of relatively new electronic-payment options to pay their income taxes last year. If you owe the IRS money when you file your 2000 taxes this spring, you can charge your payment on American Express, MasterCard or Discover Card over the phone or, for the first time, via the Internet. When you receive your credit card statement, you'll see two charges: one to the U.S. Treasury for the balance due and the other a "convenience fee" of about 2.5% to the service provider.

Costly convenience. That's a steep fee, but Kwasnicki believes the $375 she paid last year was well worth it. "I was caught at the last hour and it just made life easier," she says. "It didn't seem like a huge amount of money, and the chance to earn frequent-flier miles was alluring." The difference in cost between a coach and first-class ticket from New York to L.A. can be as much as $3,000.

Bruce Zanca, senior vice-president of Official Payments Corp., the firm through which Kwasnicki paid her taxes, tells of another taxpayer who paid an $8,000 fee last year to pay more than $300,000 in taxes. His reward? Enough frequent-flier miles to take his family of four to Scandinavia with tickets worth a total of $22,400.

You have to use a middleman and pay a fee to pay your tax bill with plastic. Official Payments Corp. (800-272-9829; www.officialpayments .com), which has processed payments for the past two years, now has competition: PhoneCharge Inc. (888-2558299; www.about1888alltaxx.com). Check out both firms' fees by calling or checking their Web sites.

What if you don't want to pay a convenience fee but you don't have enough cash to pay your bill?

Susan O'Grady, a certified financial planner and president of Equipoise Wealth Management, in Denver, suggests using a home-equity line of credit. In most cases the interest rate will not only be less than on a credit card but it's also tax-deductible. Another alternative: Borrow against a cash-value life insurance policy if you have one that offers an attractive rate. (It might take a couple of weeks to get the money, so don't wait until the last minute.)

An IRA loan? While she doesn't encourage people to borrow from their retirement accounts, O'Grady notes that you can take a short-term loan from an IRA. That is, you can withdraw money from an IRA with no tax consequences as long as you redeposit the money within 60 days. Another option is to borrow money from a 401(k) plan. If, however, you leave your job before the loan is repaid, the balance will be treated as a distribution, subject to income taxes in your top bracket and, depending on your age, early-withdrawal penalties.

As a last resort, contact the IRS directly (800-829-1040; www.irs.gov) about setting up an installment-payment agreement using Form 9465. The IRS charges $43 to set up a payment plan, and you'll pay the equivalent of about 12% in interest and late-payment penalties.