You’re ready to buy a home, but there’s a problem—you owe back taxes. It’s not an uncommon scenario. And while yes, it’s possible to buy a house even if you owe back taxes, it’s not always that easy.
While back taxes don’t automatically disqualify you from homeownership, they can significantly complicate your mortgage approval process. This is typically because lenders consider tax debt a serious liability, especially when an IRS lien is involved. However, by demonstrating a good-faith effort to resolve your debt, you increase your chances of securing better loan terms—even if your tax debt isn’t fully paid off yet.
Tax debt shouldn’t cost you your dream home. Victory Tax Lawyers will deal directly with the IRS on your behalf and help remove the obstacles keeping you from closing. Whether you need an IRS payment plan or a more direct solution, we’ve got you covered. Schedule your free consultation and let us handle the IRS, so you can focus on getting your keys.
This post answers the common question, can you buy a house if you owe back taxes, in detail. Here, we’ve highlighted the conditions that make it possible to buy a house even if you owe taxes. You’ll also find tips to increase your chances of success, because, of course, buying a home in your tax situation will come at a cost.
Can You Legally Buy a House if You Owe Back Taxes?
Yes, owing back taxes doesn’t legally prevent you from purchasing a home. However, it may add a layer of complexity. Mortgage lenders operate under a different set of concerns and, so, prioritize assessing financial risk, not legality. Your tax debt will raise questions about your financial stability, ability to manage long-term obligations, and overall reliability as a loan candidate.
Tax Debt vs. Tax Lien
To better understand how delinquent tax debt affects your chances of buying a home, it’s important to distinguish between a tax debt and a tax lien. Tax debt means you owe money to the IRS or your state tax agency, but it hasn’t necessarily escalated into legal action. This means that as long as the taxpayer is taking steps to resolve their debts, lenders may still be willing to consider their mortgage applications.
A tax lien, on the other hand, is much more serious and makes it more difficult to assess loans. It is a formal legal claim that the federal government places on your property as a way of securing unpaid taxes. Essentially, it gives the IRS or state tax agency the right to your current and future property, and that can be a huge red flag for lenders. Lenders view a lien as high risk, as the government could take priority over them in the event of a foreclosure or resale.
Importance of Full Financial Disclosure
Full financial disclosure is key when applying for a mortgage; it gives lenders a clear picture of your financial situation to assess your risk accurately. You must disclose all existing federal debts, including tax obligations, and any formal arrangements, whether an IRS payment plan or any other plan you have to resolve them.
Attempting to hide your financial information may work out badly and, at the end of the day, harm your chances if the lenders eventually uncover it during underwriting. Being upfront about your tax situation allows lenders to evaluate your full financial health and may open the door to creative solutions, such as loan programs.
How Back Taxes Affect Your Mortgage Approval
When you apply for a mortgage, lenders want to see proof that you’re financially stable and capable of repaying the loan. That’s why tax debt is a red flag because it signals to lenders that there may be deeper issues with your finances. This is especially true if the debt is unresolved or has triggered legal action such as a lien. Here are aspects that your tax debt impacts:
Credit Score and Tax Debt
Unpaid taxes don’t automatically show up on your credit report, but ignoring them can be risky and eventually hurt your credit score. If the IRS sends your account to collections or places a lien on your property, those actions can be reported to credit bureaus.
This can significantly lower your credit score and make you a higher-risk borrower in the eyes of lenders. When this is the case, your eligibility for loan facilities is not only affected, but the interest rate may also be higher.
It’s important to understand that lenders evaluate your total financial profile, not just whether you owe taxes. In many cases, being on a structured plan and making regular, timely payments can offset some of the lender’s concerns about your delinquent tax debt. Essentially, lenders want to see that you’re actively managing your tax liability, not ignoring it.
Tax Liens and Public Records
A tax lien is one of the most harmful consequences of unresolved tax debt. When the IRS files a lien, it becomes a public record, which is accessible to mortgage lenders.
A lien indicates that the government has a legal claim against your current and future property due to your unpaid taxes. Many lenders are reluctant—or outright unwilling—to approve a mortgage when a tax lien is in place since the IRS could claim proceeds from the property.
The type of mortgage you’re applying for is also a major factor in deciding how lenders treat a tax lien. Unlike conventional loans that tend to have stricter requirements, FHA and VA loans are often more flexible. They’re government-backed loans that sometimes allow you to proceed with your mortgage application if you’re on an IRS payment plan and can demonstrate consistent payments for at least three months.
Debt-to-Income Ratio (DTI) and Tax Payments
In addition to your credit score and tax liens, lenders also assess your debt-to-income ratio (DTI). Your DTI represents how much of your monthly income is already committed to debts, including tax payments.
If you owe tax debt and have no formal payment plan in place, lenders may estimate your potential liability, which could increase your DTI and disqualify you for a mortgage.
However, if you’re on a formal payment arrangement, your monthly payment becomes a fixed figure that can be included in your DTI calculation. This can significantly impact the lender’s view of your financial health and eligibility for a loan.
This again highlights the importance of a structured payment plan; it not only shows lenders that you’re taking responsibility for your debt but also helps you meet the technical requirements that lenders use to assess risk.
Cost Impact: Interest Rates and Down Payments
Among other consequences, owing back taxes can also affect how much a mortgage costs you. If you owe back taxes, you’re at risk of paying a higher interest rate on loans. The reason is that lenders see you as higher risk, and so may charge you with a higher-than-average interest rate, which increases your long-term cost of homeownership.
At other times, lenders may also require a larger down payment to reduce risk. This can pose a significant barrier for many borrowers since their funds are already stretched between tax obligations, a down payment, as well as closing costs.
Furthermore, borrowers with unresolved tax issues are often faced with limited options and may find themselves being pushed toward non-conventional loan options such as FHA and VA. While these alternatives can make homeownership possible, they come not only at a higher financial cost but also with stricter terms.
What Do Lenders Look At When You Owe Back Taxes?
Lenders don’t disqualify you from getting a mortgage outright because you owe back taxes. Instead, they take a close look at your commitment to managing and resolving your debt. For most lenders, having a structured payment plan in place and making consistent payments under that agreement makes all the difference.
One of the most important factors they consider is whether you have entered into an Installment Agreement and you’ve been making consistent payments under that agreement.
Lenders view a current, active installment agreement, whether an IRS Installment Agreement or a Canada Revenue Agency (CRA) payment plan, as a sign of financial responsibility. It shows that you acknowledge the debt and are actively working to pay it off in a systematic, reliable manner.
However, you must provide proof to show mortgage underwriters that you’ve been making those payments on time. Many lenders will be willing to give you a chance if you can demonstrate at least three consecutive months of on-time payments under the plan.
A proof of payment may include recent statements from the IRS, bank records that demonstrate regular, ongoing payments, or canceled checks.
Furthermore, different loan programs assess delinquent tax debt and risk differently. As was already mentioned, FHA and VA loans are generally more flexible and may let you move forward, as long as you meet certain requirements, including being on an approved payment plan.
Conventional loans, on the other hand, which are not backed by a government agency, tend to have stricter underwriting standards. In many cases, traditional lenders will require that borrowers pay off any tax liens in full before closing.
Ultimately, lenders are assessing the total risk of lending to you. Many will weigh that in your favor if you’ve demonstrated that you’re taking responsibility for your tax debt through a formal plan and regular payments.
How to Buy a Home if You Owe Back Taxes?
Navigating the homeownership process can be challenging, and even more so when back taxes are a factor. However, with strategic steps and the right legal guidance, your odds of success are higher. These essential steps can help you position yourself for success in buying a home while addressing your tax obligations:
1. Check Your Credit Report
Begin by examining your credit reports from all three major credit bureaus: Equifax, Experian, and TransUnion, for tax-related issues, such as liens or collection accounts.
Carefully review each report for inaccuracies or outdated information, and if you find any incorrect entries, especially regarding your tax history, you have the right to dispute them. Rectifying these errors can increase your credit score and bolster your mortgage application.
2. Consult a Tax Attorney and Set Up a Payment Plan
Once you have a clear picture of your credit standing, the next critical step is to speak with a qualified tax attorney. If you’re wondering if you should hire a tax attorney, here are some ways a tax professional can help your unique tax situation:
- A tax attorney helps you understand how your tax situation will impact your ability to buy a home.
- Helps you explore settlement options, installment agreements, or strategies for reducing your overall tax burden.
- You will likely need to arrange an IRS Installment Agreement. This is a crucial step in demonstrating to lenders that you are taking responsibility for your debt, as it formalizes your tax repayment schedule. A tax attorney can assist you in negotiating with the IRS or CRA.
- Works to prevent a tax lien from delaying or disrupting your home purchase.
- Offers expert guidance to help you stay consistent with payments and maintain accurate documentation at the mortgage application stage.
3. Make At Least 3 Timely Payments
Lenders are typically looking to see a record of consistent payments before approving a mortgage for borrowers with back taxes. Making a minimum of three on-time payments under your IRS or CRA plan is often a prerequisite and shows your commitment to repayment obligations.
It’s important to avoid missed or delayed payments during this period, as this can raise doubts about your eligibility. Automating your payments makes it easier to stay consistent with payments. In addition, maintain monthly proofs of payments to show your adherence to the terms of your agreement.
4. Gather Proof for the Lender
Gather all relevant documentation for your loan application at this point. Although these documents may vary by lenders, essentially, you’ll need to include a copy of your official IRS or CRA payment agreement and evidence of the payments you’ve made. This can be in the form of bank statements, direct deposit receipts, or confirmation letters from the tax authority.
You should also prepare your recent income tax returns, pay stubs, and any other documents that reflect your current financial standing. Transparency and being proactive can be especially helpful here, especially if you’ve taken all the right steps to manage your tax liability.
5. Reduce Other Debts to Improve Your Financial Profile
While managing your tax payments pays, it’s equally important to improve the rest of your financial profile. Make efforts to reduce your overall debt-to-income (DTI) ratio by paying down credit card balances and other loans. A lower DTI indicates to lenders that the borrower has sufficient budget capacity for a mortgage.
During this period, maintain stable income and employment, as lenders favor borrowers with reliable, consistent earnings. Avoid opening new credit accounts, which can temporarily lower your credit score and raise concerns with underwriters.
When combined, these actions can significantly enhance your chances of securing a mortgage despite owing taxes.
Can You Qualify for a Mortgage While on a Payment Plan?
Yes. Many lenders will still approve your mortgage if you’re on an IRS payment plan, especially if you’ve made consistent on-time payments for at least three months.
However, you must be ready to show proof. This is usually a copy of your IRS installment agreement and clear records showing your payment history.
Lenders want to know that you’re actively trying to resolve your debt, and if you can show them proof that you are, most will be willing to apply special considerations to your case.
Government-backed loans, such as FHA and VA loans, are generally less stringent. FHA may approve your loan if you’ve made timely payments for at least 3 months and have no tax lien. VA lenders often require complete documentation and may want confirmation directly from the IRS.
Alternative Home Financing Options
If securing a traditional mortgage is proving difficult because of your tax situation, don’t panic. You’re not out of luck. There are other paths to homeownership you can explore.
For one, you could look to private lenders as an alternative financing option. They are generally more flexible and often prioritize your income and assets over credit scores and tax debts. The trade-off is usually higher interest rates or stricter repayment terms.
Another option worth considering is a rent-to-own or lease-to-own agreement. This allows you to move into a home now while you continue to make your tax payments or build your credit. Then, once you’re in a stronger position, you can move forward with buying the property.
If you’re open to this option, applying with a co-signer (a financially stable spouse or family member) can offset your risk in the lender’s eyes, especially if they have strong credit and steady income.
How to Improve Your Chances of Buying a Home with Back Taxes
Truth is, the better your overall financial health, the more likely it is to secure a mortgage from a lender, especially if you’re actively managing your tax debt. Use these tips to improve your chances of buying a home with back taxes:
- Stay current on your tax payment plan. Avoid missed or delayed payments. Additionally, work on reducing your high credit card balances and outstanding debts, as these can inflate your debt-to-income ratio and make approval more challenging.
- Improve your credit score. To achieve this, start paying your bills on time, avoid new credit inquiries, and keep your credit utilization low.
- Pay a bigger down payment. Putting more money down reduces the lender’s risk and tells them that you’re committed. It can also make a difference in the rates and terms you’re eventually offered.
Should You Pay Off Back Taxes Before Buying?
This entirely depends on your financial situation. On one hand, paying off your back taxes before applying for a mortgage can make the whole process easier, and you’ll likely get a better interest rate. On the flip side, however, paying off a big tax bill all at once may cause you financial strain.
If you’ve already got a payment plan in place and are effectively handling your debt, it may be wise to pay off your back taxes at once. If not, you could choose to move forward while continuing to pay off your debt in the background. The smartest move? Talk to a tax attorney before making a final decision.
Need a Lawyer’s Help if You Owe Back Taxes and Buy a Home?
Legally speaking, owing back taxes doesn’t prevent you from purchasing a home, but preparation is key. Lenders aren’t just checking a box; they need reassurance that your tax debt isn’t going to interfere with your ability to keep up with your mortgage payments.
So, your ability to allay their fears by taking the right steps puts you in a better position to get your loan approved. Delays can be risky; hence why you should locate and speak with both a mortgage professional and a tax advisor to guide you on the right track.
Still unsure how your back taxes affect your homebuying plans?
Let us step in. Victory Tax Lawyers will work to resolve your IRS issues while you focus on your future. Whether it’s setting up a payment plan or removing a lien, we’ll handle it for you. Schedule your free consultation today.
FAQ
1. What are the implications of owing back taxes when buying a house?
Owing back taxes can add an extra layer of complexity to your home-buying process. Lenders may view unresolved taxes as a sign of financial instability, potentially leading to disapproval or higher interest rates.
2. How can I address back taxes when purchasing a home?
To address back taxes when purchasing a home, set up an IRS payment plan, provide proof of regular payments, pay off your debt in full (if possible), and if a tax lien exists, request a lien subordination, allowing your mortgage to take priority.
3. Can you get a mortgage with a tax lien?
While this is possible, it’s extreme. Most lenders are unwilling to move forward with a loan process when there is a lien in place and may require the lien to be paid or subordinated first. Some may approve your loan if you’re on an active payment plan and have made a minimum of 3 consecutive months’ payments.
4. What is the difference between tax debt and tax liens for home buying?
Tax debt is the amount you owe to the IRS or state tax authority. A tax lien puts a legal government claim on your property due to unpaid tax debt and can directly affect the property title and mortgage approval.
5. How do I set up a payment plan with the IRS for home buying?
You can apply online via the Online Payment Agreement Tool, by phone, or using IRS Form 9465 if you meet the application criteria. It’s always best to seek the guidance of a tax professional to avoid errors and make the most of the payment plan.
6. Can you get an FHA loan if you owe taxes?
Yes, but only if you meet certain criteria. These include having a formal IRS payment plan in place, making on-time payments for at least 3 months, and providing accurate, relevant documentation.
7. What happens if you buy a house and then owe taxes?
If you owe taxes and fail to resolve them, the IRS can place a lien on your property, impacting your ability to sell the home, refinance, or get home equity loans.
8. Does the IRS forgive tax debt after 10 years?
Yes, in some cases. The IRS has a 10-year Collection Statute Expiration Date (CSED). If the IRS doesn’t collect within 10 years from the date the debt was assessed, the debt is generally forgiven. This period can be extended under circumstances of bankruptcy or appeals.
