So why do we care that the IRS has lowered its Interest Rate?

Our clients know that we have used the low IRS interest rate environment as a short term borrowing mechanism through this economic down turn. Currently, the IRS collects an annualized interest rate of 4% on underpayments by individuals.  In essence, this means that if you owe the IRS money you will pay interest of 2% on the amount of the under paid tax.  The IRS assumes the under paid amount is due evenly through out the year and not entirely at the beginning of the year.  The consequence is that we can “borrow” the tax due for the year at a very attractive rate and with out IRS approval as long as the tax is paid in full on April 15th.  As we continue to experience economic uncertainty and new lending standards continue to emerge, the suspending of estimates and reduction of withholding makes good fiscal sense.

Well this strategy just became a little more attractive.  Effective October 1, 2011 the annualized interest rate on underpayments will drop to 3 percent. 

The interest, for both under- and overpayment is calculated for each day your balance due is not paid in full or refunded. As economic conditions warrant, the IRS reset its interest rates every quarter. The Internal Revenue Code requires that the agency’s interest rate for individuals be calculated as the federal short-term rate plus 3 percentage points.  The rate for most states in much higher, so as a general rule of thumb you would not want to suspend your state tax payments.

The best advise is to make sure that you effectively use the declining interest rate environment as a means for managing through this economic environment and do not simply use “safe” estimates (as most accountants do) to pay your taxes.

If you have any questions about how to effectively use the IRS interest rate changes to your advantage, please do not hesitate to contact us.

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