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Dealing with Unexpected Taxes: Payment Plans & Alternatives

Dealing with Unexpected Taxes: Payment Plans & Alternatives

Are you facing a surprise crypto tax bill this year? Learn strategies for paying your taxes and some “gotchas!” to avoid in the process.

It’s not very hard to find yourself owing unexpected taxes in the world of crypto.

Suppose you received a “free” airdrop last year and forgot about it. The IRS considers this income, and you owe tax on the value when you received it – even if you didn’t sell it!

If you played a play-to-earn game, you may have received reward tokens that you spent on in-game items. The IRS considers those reward tokens income, and you owe taxes on them!

Maybe you’re a crypto enthusiast who uses Bitcoin to make purchases. If that’s the case, the IRS will assess capital gains taxes on any profits when you transfer crypto.

In this short guide, we’ll teach you strategies for covering these unexpected taxes and some gotchas to avoid along the way.

Don’t Neglect to File

Before diving into these strategies, let’s clarify one thing: Always file.

Many people make the mistake of not filing their taxes if they can’t afford to pay them—and it’s a very costly mistake!

The IRS’ Failure to File penalty is 5% of the unpaid taxes for each month (or part of the month) that the tax return is late. However, the Failure to Pay penalty is just 0.5% of the unpaid taxes for each month (or part of the month) the tax remains unpaid.

So, if you owe $10,000 in taxes, that’s the difference between a $500 per month penalty and a $50 one.

Don’t Neglect to File
Source: ZenLedger

If you need help filing your taxes, crypto tax software, like ZenLedger, can streamline the process by automatically connecting with your wallets and exchanges and generating the tax paperwork you need to file on time.

With that out of the way, let’s look at how you might choose to pay an unexpected tax bill.

#1. Sell Crypto to Cover the Bill

The most obvious way to cover an unexpected tax is to sell some of your existing holdings and use the proceeds to cover your bill. That way, you can avoid paying any penalties and interest and don’t have to take on any additional debt.

There are two things to consider:

1. Selling an appreciated crypto asset could trigger another big tax bill in the current year. Doing that could be setting yourself up to owe more next tax season. However, selling a losing position could result in a “realized” loss that you can use to reduce taxes next year.

2. Selling a crypto asset and using the proceeds to pay a tax bill means you can’t repurchase the asset. As a result, there’s an “opportunity cost” that may exceed the cost of alternative ways of covering your tax bill that we’ll discuss.

The right decision depends on your situation. But, generally, selling any losing positions to cover the loss is the most conservative. If that’s impossible, selling an appreciated position means avoiding interest without banking on uncertain gains.

#2. Take Out a Loan to Pay the Bill

Personal loans are another tempting option for paying an unexpected tax bill.

Paying taxes with a credit card may seem like an easy way to cover your bills, but you’re essentially swapping one debt for another. Credit cards charge a much higher interest rate than the IRS! The only exception might be if you have a 0% APR credit card and are sure you can repay the debt before interest kicks in.

Personal loans could offer lower interest rates than credit cards. Moreover, these interest rates are usually fixed and won’t increase over the loan’s term. But again, these rates may be higher than what the IRS charges for its payment plans (more on that next!).

#3. Set Up an IRS Payment Plan

The IRS offers short- and long-term payment plans to help taxpayers.

You can set up short-term payment plans of 180 days or less for free online or by phone. After applying, you can make payments from a checking or savings account or pay electronically online or by phone. But, of course, you will accrue penalties and interest until the balance is paid in full, so you should try to pay it off as soon as possible.

If you need more than 180 days, you can set up an installment agreement where you make monthly payments. There’s a $31 online setup fee or a $107 phone-based setup fee if you pay through direct debit (a requirement if you owe over $25,000). Otherwise, if you wish to pay through other means, there’s a $130 online or $225 phone set fee. And again, you’ll accrue penalties and interest until you pay the entire balance.

Assuming you filed your tax return, the penalty equals 0.5% of the unpaid balance each month, up to 25% of the total due. But you’ll also pay an interest rate on the unpaid balance based on the prevailing market rates.

The 2024 interest rates are as follows:

Set Up an IRS Payment Plan
Source: IRS

These interest rates ensure that you pay your tax debt promptly – otherwise, people would simply accept the penalty and invest in relatively safe investments to profit from the difference!

Frequently Asked Questions

What If I Disagree With the IRS’ Tax Assessment?

If you disagree with the information on your tax bill, you can call the number on your IRS notice or visit your local IRS office. Be sure to bring a copy of the bill, tax returns, and other records to show why you believe the IRS is incorrect. If the IRS finds you’re correct, they’ll adjust your account and, if necessary, send a revised bill.

Success depends on the case’s specifics, but more than half of all penalties filed in tax court result in some tax reduction.

Can I Make a Settlement Offer Instead?

If you owe a large amount of money and are experiencing financial hardship, you may consider making an “offer in compromise” to the IRS. This compromise involves reaching an agreement with the IRS to pay less than the total amount owed. But the process could involve fees and other eligibility criteria, so it’s a decision you shouldn’t take lightly.

What If My Spouse Made a Mistake?

If your spouse made errors on your joint tax return and you didn’t know about it (e.g., they forgot to report your crypto), you may qualify for tax relief for spouses.

What If I Cannot Afford the Minimum Payments?

If you are experiencing financial hardship, you can request a temporary delay of the collection process. But, while the delay gives you more time, your debt will increase because of penalties and interest until you pay the total amount.

If you don’t request a delay and miss payments, the IRS will initiate a collections process that levies assets like wages, bank accounts, Social Security benefits, and retirement income. So, if you have any issues, you must reach out early.

The Bottom Line

Crypto assets have unique tax characteristics that can trigger surprising taxes. While nobody wants an unexpected tax bill, there are several options if you find yourself owing more than anticipated. However, the right strategy depends on a variety of factors.

If you want to better prepare for next year, ZenLedger can help you categorize transactions and anticipate your tax obligations in real time. Our platform aggregates transactions across your wallets and exchanges, computes your capital gains or losses, and generates the tax paperwork you must file each year.

Get started today for free!

This material has been prepared for informational purposes only and should not be interpreted as professional advice. Please seek independent legal, financial, tax, or other advice specific to your particular situation.

Justin Kuepper