Overview

The IRS charges interest on tax underpayments and pays interest on delayed refunds. Rates are set quarterly and are based on the federal short‑term rate plus a statutory add‑on; the rate compounds daily and is applied to the taxpayer’s outstanding balance for each day it remains unpaid or unrefunded. Understanding the timing rules and the daily compounding method helps you estimate extra cost and make informed payment or collection decisions.

Authority: the IRS publishes the current quarterly interest rates and the general rules on its Interest Rates page (see IRS — Interest Rates). The federal short‑term rate used in the calculation is published by the Treasury (TreasuryDirect).

What determines the interest rate?

  • Base: the federal short‑term rate (set by Treasury). See TreasuryDirect for the published short‑term rate.
  • Statutory add‑on: Congress and the Internal Revenue Code define how many percentage points are added to that base rate for different categories (most non‑corporate underpayments and overpayments use the short‑term rate plus 3 percentage points; some corporate categories use different add‑ons). The IRS updates the published interest rate every quarter — generally in January, April, July and October (IRS — Interest Rates).

Because rates change quarterly, avoid relying on last year’s percentage when estimating current interest charges. Always check the IRS quarterly release for the exact annual rate that applies for a given period.

When does interest start and stop?

  • Underpayments (taxes you owe): interest starts accruing the day after the due date of the return — generally April 15 (or the due date if you have an extension) — and continues until the balance is paid in full.
  • Refunds (overpayments): interest is paid to the taxpayer if the IRS issues a refund more than 45 days after the later of (a) the original due date of the return (without extension) or (b) the date the return was filed. Interest on overpayments begins on the later of those dates and runs until the date the refund is issued (IRS timing rules; see IRS — Interest Rates).

Note: Special rules can apply for amended returns, abatements, or refund claims; the 45‑day window and starting points vary depending on whether a return was filed early, late, or amended.

How the IRS calculates interest: the method

The IRS compounds interest daily. That means the daily rate is the published annual rate divided by 365 (or 366 in a leap year), and interest is applied to the outstanding balance each day.

A practical calculation method:

  1. Identify the annual interest rate in effect for each day (rates can change quarterly).
  2. Convert the annual rate to a daily rate: daily rate = annual rate / 365.
  3. Apply daily compounding over the number of days interest is accruing using the formula:
    amountwithinterest = principal × (1 + dailyrate)^days
    interest = amount    with_interest − principal

Example (illustrative only):

  • Underpayment: $10,000 unpaid balance. Assume an annual interest rate of 4.00% for that period.
    daily rate = 0.04 / 365 = 0.000109589.
    After 365 days: amountwithinterest = 10,000 × (1 + 0.000109589)^365 ≈ 10,407.
    Interest ≈ $407 for the year.

Because the IRS compounds daily, the result is slightly larger than a simple annual calculation (10,000 × 0.04 = $400). If rates change during the accrual period, compute sequential segments using each period’s published annual rate.

Examples and timing scenarios

  • Late payment: You file electronically but pay 90 days after the return due date. Interest starts the day after the due date and compounds daily until the date you pay. If the rate was 5% annual during that whole 90‑day window, the interest would be roughly 10,000 × ((1 + 0.05/365)^90 − 1).

  • Delayed refund: You file a return that shows a $3,000 overpayment. The IRS issues the refund 100 days after you filed. If the refund was not issued within the applicable 45‑day window, you would receive interest from the later of the return due date or the filing date until the refund date, using the quarterly rates in effect for those days.

Common taxpayer questions (short answers)

  • Do refunds always get interest? No. Interest is only paid if the IRS takes longer than the statutory timeframe (generally more than 45 days after the return due date or the filing date).
  • Is interest the same as penalties? No. Interest compensates for time value of money and is statutory; penalties are separate charges for negligence, late filing, or late payment and can often be abated under certain rules.
  • Can I get interest waived? Generally the IRS does not waive interest — interest is statutory and compensates the government for the use of funds — though penalty abatement may reduce penalties (see IRS guidance and consult a tax pro).

Practical tips to reduce or manage IRS interest charges

  • Pay electronically and on time. Electronic payments (EFTPS, Direct Pay) record the payment date and stop interest from accruing after the payment date.
  • Use accurate estimated tax payments if you’re self‑employed or have uneven income. Avoid large underpayments by using Form 1040‑ES or payroll withholding adjustments.
  • If you cannot pay in full, consider an IRS installment agreement — interest continues to accrue on the outstanding balance, but an agreement avoids additional failure‑to‑pay penalties in many cases.
  • Respond promptly to IRS notices. Some delays are administrative; documenting communications may be useful if you later request relief.
  • Review IRS quarterly interest announcements so you know the current annual rate that will apply to any ongoing underpayment or refund accrual.

In my practice I’ve seen two recurring patterns: (1) small underpayments that taxpayers ignore can grow meaningfully once daily compounding runs for several months, and (2) taxpayers often confuse penalties and interest — interest is non‑discretionary and runs until the balance is fixed, whereas penalties can sometimes be negotiated or abated with reasonable cause.

When to consult a tax professional

  • You face a large balance and complex timing (amended returns, multiple assessments, or periods that straddle rate changes).
  • You’ve received an IRS notice claiming interest owed and you dispute the underlying liability or the calculation.
  • You need help negotiating an installment agreement or exploring an offer in compromise (interest continues to accrue while an offer is under consideration in most cases).

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Professional disclaimer

This article is educational and not individualized tax advice. For guidance specific to your situation, consult a licensed tax professional or contact the IRS directly. Official IRS rules and rates change quarterly; always confirm current rates on the IRS Interest Rates page before making decisions.

Bottom line

Interest on underpayments and refunds is formulaic: a Treasury‑published short‑term rate plus a statutory add‑on, applied as a daily‑compounded rate and updated quarterly. Timely payment, accurate estimated taxes, and early communication with the IRS are the most reliable ways to minimize interest charges.

(Author: Senior Financial Content Editor, FinHelp.io — based on IRS published guidance and professional practice.)