How Is Interest Charged on Late Tax Payments?

When you miss a tax payment deadline, the IRS begins charging interest on the unpaid balance starting the day after the due date. Interest is calculated using a rate the IRS sets each quarter and compounded daily, which means the tax you owe grows slightly every day. For the current quarterly rate and history, check the IRS Interest Rates page (IRS).

Below I explain exactly how the rate is set, how daily compounding works, how interest interacts with penalties, and practical steps I use with clients to limit interest and total cost.

How the IRS sets the interest rate (short answer)

The IRS interest rate for underpayments is tied to the federal short-term rate published by the U.S. Treasury, plus a statutory percentage (see the IRS for quarterly updates). The rate is announced every quarter and applies to underpayments, typically changing on January 1, April 1, July 1, and October 1. Because the rate changes quarterly, the effective amount of interest you pay can vary over time. (Source: IRS interest rates page.)

Daily compounding: the math, step by step

Key points:

  • The IRS compounds interest daily. That means each day’s interest becomes part of the balance that earns interest the next day.
  • Use 365 days for a normal year and 366 for a leap year when calculating daily interest.

Formula (practical):

amountdue = principal * (1 + annualrate/365)^(numberofdays_late)

Step-by-step example (illustrative only):

  1. Principal: $10,000
  2. Annual IRS rate (example): 7.00% (note: quarter-to-quarter rates vary; see IRS for the current rate)
  3. Daily rate = 0.07 / 365 = 0.00019178
  4. Days late = 180
  5. Amount due = 10,000 * (1 + 0.00019178)^180 ≈ 10,000 * 1.0354 = $10,354

That example shows how daily compounding turns $10,000 into about $10,354 after six months at 7% annual interest. In practice substitute the IRS quarterly rate for accuracy. For the official current rates, consult the IRS page: https://www.irs.gov/newsroom/interest-rates.

How interest interacts with penalties

Interest is charged on the unpaid tax and on most penalties (for example, the failure-to-pay penalty). Common penalties:

  • Failure-to-file penalty: generally 5% of the unpaid tax per month (up to 25%).
  • Failure-to-pay penalty: generally 0.5% of unpaid tax per month (up to 25%).

If both penalties apply in the same month, the failure-to-file penalty is reduced by the failure-to-pay penalty (effectively leaving a net 4.5% per month for that month). Interest continues to accrue on the growing balance (tax + penalties), which is why penalties and interest together can escalate the total quickly. For penalty specifics and recent guidance, see IRS penalty resources.

Common taxpayer mistakes that make interest worse

  • Waiting to file: Filing late adds the failure-to-file penalty and starts interest sooner. File on time even if you can’t pay the full amount.
  • Not making partial payments: Any payment reduces the principal and slows future interest accumulation.
  • Assuming collection halts when you apply for relief: Interest generally continues to accrue while you apply for installment agreements, offers in compromise, or currently not collectible status.

In my practice I see taxpayers underestimate the daily effect of interest. Even modest balances can grow substantially over months if not addressed promptly.

Practical ways to limit interest and total cost

  1. File on time even if you can’t pay. Filing avoids the much larger failure-to-file penalty and allows you to request relief options.

  2. Pay as much as you can immediately. Reducing principal is the single most effective way to lower future interest charges.

  3. Set up an installment agreement. The IRS offers multiple installment options (online, streamlined, or partial-payment plans). Interest will still accrue on the unpaid balance, but a plan prevents enforced collection and lets you stop further penalties from accruing after the agreement is in effect. For practical steps, see our guide to streamlined installment agreements and our step-by-step installment agreement guide:

  1. Request penalty relief where appropriate. First-Time Penalty Abatement (FTA) is available if you meet IRS eligibility rules; it can remove penalty charges (but interest generally remains). See the IRS penalty relief guidance for details.

  2. Use withholding or estimated payments to prevent future underpayments. Adjust your W-4 or quarterly estimated payments so you don’t repeat the situation next year.

  3. Consider borrowing strategically. If you can access low-interest personal credit (for example, a 0% introductory credit card or a low-rate personal loan), compare the borrowing cost to the IRS interest and penalties. In some cases paying the IRS immediately with borrowed funds lowers total cost, but beware fees and long-term borrowing costs.

  4. Avoid ignoring IRS notices. Responding early preserves options: you can request a payment plan, appeal penalties, or request a collection due process hearing depending on the notice type.

For additional strategies to reduce interest and penalties, see our focused explainer: Strategies to Minimize Interest on Late Tax Payments: https://finhelp.io/glossary/strategies-to-minimize-interest-on-late-tax-payments/.

How to calculate the interest you owe (practical steps)

  1. Find the IRS annual interest rate(s) that apply to each day (the IRS posts quarterly rates). Use the rate in effect for each day or group of days in the same quarter.
  2. Convert each annual rate to a daily rate: dailyrate = annualrate / 365 (or /366 for leap years).
  3. For each period where the rate is constant, compound the principal using the daily formula: principal = principal * (1 + dailyrate)^(daysin_period).
  4. Add any penalties that have been assessed (remember interest accrues on penalties too).

If you prefer not to do the math manually, request a payoff statement from the IRS (they provide a balance and breakdown) or use a tax professional to compute an exact figure. Our article How the IRS Calculates Interest on Unpaid Taxes walks through a worked example if you want a step-by-step case: https://finhelp.io/glossary/how-the-irs-calculates-interest-on-unpaid-taxes/.

Special situations to watch for

  • Estimated tax underpayments (quarterly): If you underpay estimated taxes you may owe both interest and an underpayment penalty. Plan estimated payments to match expected tax liability.
  • Trust fund and payroll taxes: Trust fund taxes (e.g., withheld payroll taxes) can trigger aggressive collection and no-favorable relief; interest and penalties apply and may be assessed against responsible individuals.
  • Liens, levies, and offsets: A federal tax lien or levy doesn’t stop interest. Refund offsets may apply if you later have refunds due.

Practical checklist for taxpayers facing interest charges

  • File your return or request an extension on time.
  • Pay what you can immediately (even a partial payment lowers the principal).
  • If you can’t pay in full, apply for an installment agreement quickly.
  • Consider penalty abatement options if eligible (FTA, reasonable cause).
  • Document medical emergencies, disasters, or extraordinary circumstances if you request relief.
  • Consult a tax professional if the balance is large, penalties are disputed, or collection action has started.

Final notes and disclaimer

Interest on late tax payments is a technical but manageable problem when addressed quickly. In my 15+ years helping clients, the taxpayers who respond early, make partial payments, and use installment agreements when necessary nearly always pay less in total than those who delay.

This article is educational and not individualized tax advice. Rules, rates, and IRS procedures can change; for the official quarterly rates and detailed guidance, see the IRS Interest Rates and IRS payment pages:

If you have a complex situation, consider consulting a qualified tax professional or CPA who can review notices, calculate exact interest, and represent you with the IRS.