Buying A House With Outstanding Back Taxes

Quick answer

• Owning back taxes doesn’t automatically disqualify you from buying a house, but it significantly complicates the process.
• Lenders will likely require you to settle your tax debt before approving a mortgage.
• Options include paying off the debt, setting up a payment plan with the IRS or state tax authority, or using a portion of your home loan for tax repayment (less common).
• You may need to disclose your tax debt to potential lenders and during the home buying process.
• Addressing your tax debt proactively can improve your creditworthiness and mortgage approval chances.
• Consult with a tax professional and a mortgage broker early on for personalized guidance.

What to check first (before you file or change withholding)

Tax Debt Status

Before you even think about house hunting, you need a clear picture of your outstanding tax obligations. This includes knowing the exact amount owed, to which taxing authority (IRS, state, local), and whether penalties and interest have accrued. You can usually obtain this information by contacting the relevant tax agency directly or by reviewing past tax notices.

Credit Score and Report

Your credit score is a critical factor for mortgage approval. Outstanding tax debts, especially if they’ve resulted in tax liens, can severely damage your credit score. Obtain copies of your credit reports from the major bureaus (Equifax, Experian, TransUnion) and review them for any inaccuracies or existing tax liens. Addressing these issues is crucial.

Mortgage Pre-Approval Readiness

Lenders will assess your ability to repay a mortgage. This involves looking at your income, existing debts, and assets. If you have significant back taxes, lenders will want to see a plan for how you will resolve this debt. This might involve a larger down payment or demonstrating sufficient cash reserves after settling your tax obligations.

Disclosure Requirements

Be prepared to disclose your tax debt to your mortgage lender. Honesty and transparency are vital. Hiding this information can lead to denial of your loan or even legal repercussions. Understanding what needs to be disclosed upfront will save you trouble later.

Step-by-step (simple workflow)

1. Assess Your Tax Debt:

• What to do: Contact the IRS and your state tax agency to determine the exact amount of back taxes owed, including penalties and interest.
• What “good” looks like: You have a precise figure for each tax liability and understand the terms of any existing payment plans or liens.
• Common mistake: Assuming you know the amount owed without verifying with the tax authorities.
• How to avoid it: Call the IRS and your state tax department directly or check your account online through their official portals.

2. Consult a Tax Professional:

• What to do: Meet with a Certified Public Accountant (CPA) or an Enrolled Agent (EA) specializing in tax resolution.
• What “good” looks like: You have a clear understanding of your options for resolving the tax debt, such as an Offer in Compromise, installment agreement, or penalty abatement.
• Common mistake: Trying to negotiate with the IRS or state without expert advice, potentially agreeing to unfavorable terms.
• How to avoid it: Seek professional help to navigate the complexities of tax resolution and ensure you get the best possible outcome.

3. Explore Resolution Options:

• What to do: Work with your tax professional to implement the chosen resolution strategy (e.g., file for an Offer in Compromise, set up an installment agreement).
• What “good” looks like: You have initiated or completed the process for resolving your tax debt according to the agreed-upon plan.
• Common mistake: Delaying action, allowing penalties and interest to continue accumulating.
• How to avoid it: Act promptly once you have a resolution plan in place.

4. Improve Your Credit Score:

• What to do: Review your credit reports, dispute any errors, and take steps to improve your creditworthiness (e.g., pay down other debts, avoid new credit applications).
• What “good” looks like: Your credit score has improved, and there are no active tax liens reported on your credit.
• Common mistake: Ignoring credit score issues while trying to resolve tax debt.
• How to avoid it: Understand that a strong credit score is as important as resolving tax debt for mortgage approval.

5. Get Mortgage Pre-Approval:

• What to do: Speak with a mortgage broker or lender and be upfront about your tax situation.
• What “good” looks like: You have a pre-approval letter indicating the loan amount you can borrow, contingent on resolving your tax debt.
• Common mistake: Waiting until you find a house to seek pre-approval, only to discover your tax debt is a roadblock.
• How to avoid it: Get pre-approved early in the process to understand your borrowing capacity and any specific lender requirements.

6. Save for Down Payment and Closing Costs:

• What to do: Continue saving aggressively for your down payment and closing costs, especially if you need to use some funds to pay off tax debt.
• What “good” looks like: You have sufficient funds for the down payment and closing costs, plus a buffer for unexpected expenses.
• Common mistake: Underestimating the total cash needed, particularly if tax resolution consumes a portion of your savings.
• How to avoid it: Create a detailed budget that accounts for both home buying expenses and tax debt resolution.

7. Continue Tax Compliance:

• What to do: File all future tax returns on time and pay current taxes as they become due.
• What “good” looks like: You are current on all tax obligations moving forward.
• Common mistake: Resolving past debt but falling behind on current tax obligations.
• How to avoid it: Make tax compliance a priority to avoid accumulating new debt.

8. Make an Offer and Go Under Contract:

• What to do: Once pre-approved and with your tax debt resolution underway or complete, find a home and make an offer.
• What “good” looks like: Your offer is accepted, and you are under contract to purchase the home.
• Common mistake: Not having a clear plan for how the tax debt will be handled during the closing process.
• How to avoid it: Discuss with your lender and real estate agent how the tax resolution will impact the closing timeline and requirements.

9. Finalize Loan and Closing:

• What to do: Complete the mortgage application process, undergo appraisal and underwriting, and finalize the purchase.
• What “good” looks like: You successfully close on your new home.
• Common mistake: Unexpected issues arising from the unresolved tax debt during the final stages of underwriting.
• How to avoid it: Maintain open communication with your lender and tax professional throughout the closing process.

Common mistakes (and what happens if you ignore them)

Mistake	What it causes	Fix
Ignoring the tax debt	Mortgage denial, damaged credit, potential tax liens, wage garnishment, or other collection actions.	Proactively contact tax authorities and a tax professional to establish a resolution plan.
Not disclosing the tax debt to the lender	Loan denial, potential legal issues, and loss of trust.	Be transparent with your mortgage lender about your tax obligations from the outset.
Failing to improve credit score	Higher interest rates on mortgage, or outright denial of loan.	Address any credit report errors, pay down other debts, and avoid new credit inquiries until your score improves.
Not understanding tax resolution options	Settling for a less favorable payment plan or missing out on potential debt reduction.	Consult with a qualified tax professional to explore all available options like installment agreements or Offer in Compromise.
Delaying the resolution process	Continued accrual of penalties and interest, making the debt larger and harder to resolve.	Initiate the resolution process immediately after assessing your debt.
Using all available funds for down payment	Leaving insufficient funds to address tax debt or cover closing costs and immediate homeownership expenses.	Create a comprehensive budget that accounts for tax resolution, down payment, closing costs, and an emergency fund.
Assuming tax debt is a permanent disqualifier	Missing out on homeownership opportunities due to a misconception.	Understand that while challenging, tax debt can often be resolved, making homeownership achievable.
Not filing future tax returns on time	Accumulating new tax debt, jeopardizing existing resolution agreements and future loan eligibility.	Prioritize timely filing and payment of all current tax obligations.
Relying on inaccurate information	Making poor decisions based on outdated or incorrect data about tax laws or your account status.	Always verify information directly with the IRS, state tax agency, or a qualified professional.
Not budgeting for potential tax liens on title	Discovering a tax lien during closing, which could halt the sale or require immediate payment.	Inquire about potential tax liens and work with your lender and title company to clear them before closing.

Decision rules (simple if/then)

• If you owe back taxes, then you will likely need to resolve them before a lender approves a mortgage, because lenders see tax debt as a significant financial risk.
• If your tax debt is substantial, then you should consult a tax professional before speaking with a mortgage lender, because they can help you strategize the best way to resolve it, which impacts your borrowing power.
• If you have a tax lien on your property, then you must address it before closing on a new home purchase, because title companies will not insure a clean title with an outstanding lien.
• If your credit score is low due to past tax issues, then you should focus on improving your credit before applying for a mortgage, because a higher score leads to better loan terms.
• If you can pay off your tax debt in full with available funds, then this is often the simplest and quickest resolution, because it eliminates the debt and associated penalties/interest.
• If you cannot pay in full, then an installment agreement with the IRS or state is a viable option, because it allows you to pay over time while potentially stopping more aggressive collection actions.
• If you qualify for an Offer in Compromise (OIC), then you may be able to settle your tax debt for less than the full amount owed, because this program is designed for individuals facing significant financial hardship.
• If you are considering using your mortgage to pay off tax debt, then understand this is less common and may require specific lender programs or be handled as a separate personal loan, because most lenders prefer tax debts to be cleared prior to or at closing, not rolled into the mortgage itself.
• If you are unsure about your tax debt status, then obtain an official statement from the IRS or state tax authority, because relying on assumptions can lead to significant problems.
• If you have a history of non-compliance with tax laws, then lenders may scrutinize your application more closely, because they need assurance of your ability to manage ongoing financial obligations.
• If you are self-employed, then you must ensure all estimated tax payments are up-to-date, because missed estimated payments are a common cause of back taxes for this group.
• If you are purchasing a home with a co-borrower, then both parties’ tax situations will be reviewed, so ensure all outstanding tax issues are addressed by everyone on the loan application.

FAQ

Q1: Can I buy a house if I owe back taxes?

Yes, it’s often possible, but it will significantly complicate the process. Lenders typically require you to resolve your tax debt before approving a mortgage.

Q2: Will my mortgage lender find out about my back taxes?

Yes, lenders will check your credit report, which often flags tax liens. They will also likely ask for verification of your tax compliance during the underwriting process.

Q3: What is the best way to resolve back taxes before buying a house?

The best way depends on your financial situation. Options include paying in full, setting up an installment agreement, or applying for an Offer in Compromise. Consulting a tax professional is highly recommended.

Q4: Can I use my mortgage loan to pay off my back taxes?

This is generally not the standard practice for most mortgages. Some specialized loan programs might allow it, or you might need a separate personal loan. Your lender will advise on possibilities.

Q5: How long does it take to resolve back taxes?

The timeline varies greatly depending on the complexity of your tax issue and the resolution method. It can range from a few weeks for simple payment plans to many months or even over a year for an Offer in Compromise.

Q6: What happens if I don’t resolve my back taxes?

You risk denial of your mortgage application, further penalties and interest on your tax debt, and potential collection actions like wage garnishment or bank levies.

Q7: Do I need to disclose my back taxes to my real estate agent?

While you must disclose it to your lender, it’s good practice to inform your real estate agent as well. They can help guide you through the process and manage expectations with sellers.

Q8: Can a tax lien prevent me from buying a house?

Yes, a tax lien is a serious issue that will likely prevent you from getting a mortgage and will certainly prevent you from obtaining clear title to a property. It must be resolved.

What this page does NOT cover (and where to go next)

• Specific details on state or local tax resolution programs (contact your state’s Department of Revenue).
• Legal advice on tax law or bankruptcy proceedings (consult an attorney).
• Detailed comparisons of tax resolution firms or services (research reputable professionals).
• Information on international tax obligations (seek specialized advice).
• Strategies for optimizing current year tax filings for homeownership benefits (consult a tax advisor).