Can You Get a Home Loan If You Owe Taxes?

Having tax debt is intimidating, especially if you’re about to start the process of buying a home. While tax debt doesn’t make buying a home impossible, it does make the process much more difficult. 

Let’s examine what your options are for buying a home when you have tax debt. 

Getting approved for a home loan if you have tax debt

When you have tax debt or a tax lien, you’re going to have a harder time getting approved when you apply for a mortgage. 

The reason that lenders don’t love to work with borrowers with tax debt is because having that type of debt signals to the lender that you’re a high-risk applicant. The same goes if you have bad credit. To offset this risk, some lenders may approve you for a mortgage, but they will stick you with a higher interest rate.

So, can you get a mortgage if you owe back taxes? It’s not that you can’t buy a home when you owe taxes, but you may need to make progress on your tax debt in order to convince a bank to approve your home loan, and at an affordable rate.  

If at all possible, you should pay off any tax debt or liens before you submit your mortgage loan application. If that’s not possible, it’s best to show proof that you have been working towards paying off your tax debt by making regular payments. 

All mortgage lenders have different lending requirements, so be upfront about your situation with the lenders of your choice and work together to figure out what you need to do to become eligible for a loan.

Some home loan types are easier to qualify for even if you have a tax lien, such as an FHA loan. If you have a tax lien, lenders will make you undergo a manual underwriting process where they will seek out proof that you made an agreement to repay the IRS. In this case the lender will need to see that you made on-time payments on this agreement in the past three months.

Steps to take if you owe tax debt

While owing federal taxes makes mortgage approval harder to obtain, there are steps you can take to make it easier to get your hands on a mortgage.

Step 1. Identify the issue

If you accidentally underpay your taxes throughout the year it’s easy for tax debt to sneak up on you — especially if you’re self-employed and pay quarterly estimated taxes. You can also accumulate tax debt if you fail to pay your property taxes. If you want to buy a second property, but failed to pay the property taxes on your first one, lenders won’t be keen to work with you. 

Before you apply for a mortgage you should identify the type of debt you owe. At first your debt will most likely be classified as delinquent tax debt. If you don’t pay that debt, eventually it will become a tax lien which the IRS will record as a Notice of Federal Tax Lien in the county where you live. Lenders see tax liens as a sign of risk as they signal to the lender that you weren’t able to pay off your debt in a timely manner. 

Step 2. Make a plan

Before you approach a lender about your mortgage options you should connect with the IRS to discuss a solution for any outstanding tax debts or tax liens. You have a few options at hand. 

The best and most expedient option is to simply pay off your debt in full. Ask the IRS what your exact payoff amount is and pay them directly. Your mortgage lender will want proof that you paid off the debt, so make sure you get a payment receipt from the IRS. The IRS will release your tax lien within 30 days after you pay off your tax debt.

If you can’t pay your debt in full you can agree to a payment plan with the IRS. They’ll help you pick a payment plan, but this process takes time, so you should start it well before you need to close on a home. Once you have a repayment plan with the IRS you can start to make payments. Make these payments on time and keep track of any paperwork that shows you are actively making payments in accordance with your agreement. 

Provide a copy of this agreement to a mortgage lender as proof that you’re making progress on your debt. Mortgage lenders will require proof of established payments. All mortgage loans have different requirements when it comes to tax debt payments (whereas all mortgages require three consecutive scheduled payments). 

For example, with a conventional mortgage you must provide proof that you made at least one payment toward your tax debt before you can close on a home. 

Step 3. Communicate with your lender

Because different types of loans have different requirements when it comes to tax debt and liens, you need to work closely with your lender to make sure you meet all of their lending qualifications. They can map out what they need to see on their end to approve your mortgage.

So, can you buy a house if you owe state or federal taxes? Yes. The key to getting over this hurdle is communication. As tempting as it is to put your head in the sand when you have debt, you’ll be better off if you face it head on and communicate clearly with the IRS and your mortgage lender about the steps you need to take to resolve the issue and qualify for a mortgage.