An IRS delinquency is bad news. It means that you failed to pay what you owe to the Internal Revenue Service, which is the federal government's tax assessor and collector. While all financial delinquencies can leave a blemish on your records, a tax default is even worse than an unpaid credit card bill or mortgage.
Your Credit Score
Your credit score is a numerical representation of your willingness and ability to honor your monetary obligations. It is a grade that shows how responsible you have been with your finances. In the United States, three major credit reporting bureaus assign credit scores to individuals: Equifax, Experian and TransUnion. These agencies collect data from various sources, such as credit card issuers and banks, and, by using proprietary formulas, represent your creditworthiness with a single number. Since each company uses a different grading system, the scores must be evaluated according to the scales appropriate to the issuer. Your credit score will largely determine whether you qualify for a loan or a new credit card and what interest rate you will have to pay.
An unpaid federal tax liability will lower your credit score when the liability results in a tax lien. A federal tax lien is a declaration that the IRS has the right to restrict your use of or seize a property such as land or home. A lien is not an actual seizure of property, and even after the issuance of a lien you may be able to negotiate with the IRS and resolve the situation without losing the property. Once a lien has been issued, however, the IRS will report this to the credit reporting agencies and your credit score will take a hit.
Extent of Damage
It is impossible to predict by how many points your credit score will decline as a result of an IRS tax lien because the credit rating agencies do not reveal the exact methods used for calculating the numeric scores. However, a tax delinquency will greatly drag down your score. Furthermore, potential lenders also tend to review the details of your credit report and will see an IRS delinquency in your history, which will be a major black mark. Most lenders are unwilling to lend to individuals with unpaid tax liabilities because such problems can result in heavy fines and confiscation of property, making it impossible for the borrower to pay off such debts as credit card bills or mortgages.
To better manage your financial future, review your credit history and your credit score regularly. By doing so you can catch mistakes early and apply to credit rating agencies for corrections. It is particularly important to catch any mistakes related to the payment of your tax liabilities as these have a major impact on your credit score. If you find an error, call the consumer hotlines of all three major credit bureaus and report the problem. By law, they are required to investigate the problem and share their findings with you.
Hunkar Ozyasar is the former high-yield bond strategist for Deutsche Bank. He has been quoted in publications including "Financial Times" and the "Wall Street Journal." His book, "When Time Management Fails," is published in 12 countries while Ozyasar’s finance articles are featured on Nikkei, Japan’s premier financial news service. He holds a Master of Business Administration from Kellogg Graduate School.