Quick overview
The IRS uses three separate but related tools to collect unpaid federal income tax: interest, the failure-to-file (FTF) penalty, and the failure-to-pay (FTP) penalty. Each is calculated differently, and they can operate at the same time — which makes a late tax bill grow quickly. This article explains the math, shows practical examples, and outlines relief options and next steps if you receive an IRS notice.
How interest on unpaid tax is calculated
- Interest begins accruing on unpaid tax from the original due date of the return (usually April 15) until the tax is paid in full. It compounds daily.
- The interest rate is the federal short-term rate plus 3 percentage points. The IRS announces current rates quarterly; these rates apply differently to underpayments, overpayments, and corporate underpayments. For the most recent published rates, see the IRS interest page (IRS: Interest Rates on Overpayments and Underpayments).
Why this matters: interest compounds daily, so even a modest rate increases the balance over time. Interest is not a penalty but a charge for the time value of money; however, it’s assessed alongside penalties and increases the base that some penalties can be charged on.
Source: IRS — Interest rates (https://www.irs.gov/newsroom/interest-rates-on-overpayments-and-underpayments).
Failure-to-File (FTF) penalty: formula and key rules
- Typical rate: 5% of the unpaid tax per month or part of a month the return is late, up to a maximum of 25%.
- If both the FTF and FTP penalties apply in the same month, the IRS generally charges the FTF penalty first and then reduces it by the FTP penalty for overlapping months (effectively the combined charge is usually 5% per month for months when both apply).
- Special rule for very late returns: if a return is more than 60 days late, the IRS imposes a minimum penalty (an amount that the IRS updates periodically) — check the IRS penalty page for the current minimum.
- Filing an extension extends the time to file but not the time to pay; the FTF penalty is avoided only if you file by the extended due date.
Example: If you owe $4,000 and file 3 months late with no payment, a 5% per-month FTF penalty results in 15% or $600 in FTF penalties (5% × 3 months × $4,000), plus interest on the unpaid tax.
Source: IRS — Penalties (https://www.irs.gov/payments/penalties).
Failure-to-Pay (FTP) penalty: formula and key rules
- Typical rate: 0.5% of the unpaid tax per month or part of a month after the due date, generally up to 25% total.
- The FTP penalty begins the day after the tax due date and runs until the balance is paid or otherwise resolved.
- If a taxpayer enters into a timely installment agreement with the IRS and keeps it current, the monthly FTP penalty may be reduced (commonly to 0.25% per month for taxpayers on certain direct debit agreements).
Example: If you owe $2,000 and don’t pay for 6 months but file on time, 0.5% × 6 months × $2,000 = $60 in FTP penalties, plus interest.
Source: IRS — Penalties (https://www.irs.gov/payments/penalties).
How the penalties interact (combined math)
- If you neither file nor pay on time, both penalties can apply for the same month. The IRS generally applies the FTF penalty first (5% per month) then subtracts the FTP penalty (0.5% per month) for overlapping months, so the net result for those months is commonly 4.5% additional per month on the unpaid tax until the FTP is paid or an agreement is in place.
- Interest is calculated separately and compounds daily on the unpaid tax and is added to the balance that may later generate additional penalty dollars (depending on the type of penalty).
Illustrative scenario: Owe $5,000, file 4 months late, pay at month 4.
- FTF: 5% × 4 = 20% → $1,000
- FTP: 0.5% × 4 = 2% → $100
- Because both applied during the same months, the effective added penalty is usually (FTF minus FTP) for overlapping months; IRS notices will show the exact computation.
- Plus interest that accrued daily on the unpaid $5,000 over the 4 months.
Real-world examples and simplified calculations
Example A — File late, pay when you file
- Tax due: $3,000
- Filed 3 months late and paid when filing
- FTF = 5% × 3 = 15% → $450
- FTP = 0.5% × 0 (paid when filing) = $0
- Interest = daily rate on unpaid balance for the period before payment
Total additional cost: FTF + interest
Example B — File on time, pay late
- Tax due: $2,000
- Filed timely, paid 5 months late
- FTF = 0 (filed on time)
- FTP = 0.5% × 5 = 2.5% → $50
- Interest = daily rate on unpaid balance for 5 months
Total additional cost: FTP + interest
These examples are simplified; IRS calculations use daily compounding for interest and adjust penalties for partial months. Always confirm with the notice or IRS account transcript.
Relief and reduction options
If penalties have already been applied, taxpayers may qualify for one or more relief options:
- First-Time Penalty Abatement (FTA): A one-time administrative relief for taxpayers with a clean compliance history. It can remove certain penalties when eligibility requirements are met. See IRS guidance on penalty relief (IRS: Penalty Relief).
- Reasonable cause: If you can show that circumstances beyond your control prevented timely filing or payment (serious illness, death in immediate family, natural disaster, death, or unavoidable absence), the IRS may waive penalties. Documentation is key.
- Statutory exceptions: Certain disaster relief or IRS-designated relief periods can suspend penalties and interest for affected taxpayers.
- Request a review: Taxpayers can request abatement by following instructions on an IRS notice, via an online account, by calling the phone number on the notice, or by submitting supporting statements or Form 843 where applicable.
Source: IRS — Penalty Relief (https://www.irs.gov/payments/penalty-relief) and IRS Topic 653 (https://www.irs.gov/taxtopics/tc653).
Practical strategies to minimize penalties and interest
- File on time even if you can’t pay in full. Filing on time generally avoids the FTF penalty and allows you to claim refunds or credits.
- Pay as much as you can by the due date. Payments reduce the base for interest and penalties.
- Request an installment agreement early. An approved payment plan often lowers the monthly FTP rate and stops enforced collection actions.
- Consider short-term financing carefully. A high-interest loan to avoid IRS penalties may make sense when loan costs are lower than IRS interest and penalties — compare costs and terms.
- Set estimated payments or increase withholding if you owe consistently to avoid underpayment penalties (different penalty rules apply to estimated payments).
- Keep records to support reasonable-cause requests (medical records, proof of natural disaster, bank records).
For more on setting up payment plans or avoiding collection actions, see the IRS payment plan pages.
What to do if you receive an IRS notice
- Read the notice carefully — it explains the tax, penalties, interest, and balance due.
- Confirm whether the tax amount is correct (check your return and payment records).
- If the amount is wrong, follow the notice instructions to respond or appeal. If correct, evaluate relief options, payment plans, or an Offer in Compromise.
- Keep copies of all correspondence and proof of payments.
If you need more on options for late returns, penalties, and relief programs, our guide on Filing Late Returns: Options, Penalties, and Relief Programs explains next steps and timelines. For a direct comparison of the two main penalties, see Failure-to-File vs Failure-to-Pay Penalties: Key Differences. If you want a deeper dive into how the IRS applies interest versus penalties, review How the IRS Applies Interest vs Penalties on Late Tax Payments.
Common misconceptions
- “An extension prevents penalties.” False — an extension only extends the time to file, not to pay. Interest and the FTP penalty still accrue after the original due date.
- “Penalties stop on day 31.” False — both interest and penalties generally continue until the debt is paid, a payment agreement is in place, or successful relief is granted.
- “The IRS won’t notice small amounts.” False — the IRS applies automated systems and can assess penalties and interest on small balances.
When to call a professional
If penalties are large, if you suspect the IRS computed tax or penalties in error, or if you have complex circumstances (business payroll liabilities, trust filings, or repeated noncompliance), consult a qualified CPA, EA, or tax attorney. In my practice I often start by reviewing the IRS notice, confirming the tax math, and then proposing the least-cost path: partial payment + installment plan, or a reasonable-cause packet for abatement.
Final checklist
- File on time or request an extension. – Pay what you can by the due date. – Compare the cost of borrowing vs. expected IRS charges. – Request an installment plan early to limit FTP charges. – Keep documentation for penalty relief requests.
Professional disclaimer: This article is educational and does not replace personalized tax advice. Rules and dollar thresholds can change. For advice tailored to your tax situation, consult a licensed tax professional.
Authoritative references
- IRS — Penalties: https://www.irs.gov/payments/penalties
- IRS — Interest Rates on Overpayments and Underpayments: https://www.irs.gov/newsroom/interest-rates-on-overpayments-and-underpayments
- IRS — Penalty Relief: https://www.irs.gov/payments/penalty-relief
- IRS Topic 653 (Notices, Bills, Penalties, Interest): https://www.irs.gov/taxtopics/tc653
Related FinHelp guides
- Filing Late Returns: Options, Penalties, and Relief Programs: https://finhelp.io/glossary/filing-late-returns-options-penalties-and-relief-programs/
- Failure-to-File vs Failure-to-Pay Penalties: Key Differences: https://finhelp.io/glossary/failure-to-file-vs-failure-to-pay-penalties-key-differences/
- How the IRS Applies Interest vs Penalties on Late Tax Payments: https://finhelp.io/glossary/how-the-irs-applies-interest-vs-penalties-on-late-tax-payments/
(Updated 2025)
