Previously, we’ve broken down various elements of the IRS tax debt settlement process here, here, and here. In light of the IRS recent return to aggressive collections, we wanted to update some of that information into a more comprehensive explanation of the Offer in Compromise program. If you’d rather review this information on the phone with us, we are always available to talk. For those that may be new here, we are located in Denver, Colorado and represent clients nationwide. You can immediately schedule time to talk with us here.
First, exactly what is an Offer in Compromise?
Taxpayers who owe taxes to the Internal Revenue Service have many options available to handle their debt. While many benefit from payment plans and subsequent penalty abatements, taxpayers who have limited disposable income and assets may not find these types of solutions feasible. When taxpayers are unable to repay what they owe to the IRS, the Offer in Compromise program steps in a tax debt settlement solution.
The IRS Offer in Compromise is a program through which the IRS allows taxpayers to settle their tax liabilities for less than what they owe. The authority to accept less than what is owed is granted by 26 U.S. Code § 7122. Under this statute, taxpayers may submit various types of lump-sum or payment plan settlements to resolve their outstanding tax debt full and prevent wage garnishment.
Under IRM 5.8.1, the IRS will accept an Offer in Compromise when it deems the tax liability to be otherwise uncollectible (usually due to minimal disposable income and/or limited financial assets as mentioned above). It may also agree to an Offer in Compromise when there is doubt about the liability owed and to support the effective administration of taxes, however these particular types of settlements are quite rare. Generally speaking, the overall goal of the program is to negotiate a legal payment agreement that is in both the taxpayer’s and IRS’s best interest to resolve the debt.
Doubt about collectibility
The most common (and easily accepted) type of Offer in Compromise is proving to the IRS that there is a doubt as to the general collectibility of the taxpayer’s full amount owed. Doubt about the collectibility of tax debt may be shown when a taxpayer’s legally allowed disposable income and financial assets are insufficient to satisfy the full tax liability. Furthermore, under IRC § 7122(d)(3)(A), the IRS must not deny an Offer in Compromise when their denial is solely based on the amount that is offered. This means that, assuming the other criteria are met, a minimal settlement such as $100 total may be acceptable.
Under IRS Policy Statement P-5-100, the agency will accept an Offer in Compromise that is based on doubt about collectability when the IRS determines that it is unlikely that it will be able to collect the tax debt in full. However, the amount that the taxpayer offers must be what the IRS believes it could collect using legal judicial and administrative remedies (such as a wage garnishment). The amount that the IRS believes is collectible is called the reasonable collection potential (“RCP”). To calculate the RCP, the IRS analyzes the basic living expenses of the taxpayer (we commonly call this “acceptable disposable income” just to use more common terms). Under certain circumstances, the agency might accept an offer that is lower than the RCP, but this is rare and we genuinely don’t advise attempting this approach.
How much should I offer in compromise to the IRS?
The Offer in Compromise program was created to help taxpayers who are unable to pay their tax debt without suffering economic hardship. IRS Offer in Compromise statistics are illuminative. In 2019, the IRS received 54,225 offers in compromise but accepted only 17,890. The total value of the accepted offers was $289,422,000. While this demonstrates that the Offer in Compromise can be a good solution for many taxpayers, it is also important to recognize that the IRS rejected more offers than it accepted for a total of 36,335 denied offers (likely filed because of either a) poor representation or b) doing it yourself, poorly). These IRS Offer in Compromise statistics demonstrate the importance of analyzing an Offer in Compromise before determining the answer to “How much should I Offer in Compromise to the IRS?”
If you have a large tax liability, you will need to demonstrate that you are unable to pay the full amount owed, you do not owe the disputed amount, or that special circumstances exist that make acceptance of the offer in the IRS’s and the taxpayer’s best interests. In general, the IRS will be more likely to accept a tax debt settlement when it is the greatest amount of money that the IRS could reasonably expect to collect within a reasonable period. The first step in evaluating whether the OIC program is a good tax resolution choice for you is to consider the overall eligibility requirements.
Eligibility requirements for an Offer in Compromise
A taxpayer must meet all of the following requirements to be eligible for the OIC program:
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Has filed all of their outstanding tax returns ;
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Has a tax debt actually covered in the tax debt settlement proposal ;
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Current with their estimated tax payments (if applicable) ;
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** For business owners with employees ** Current with their quarterly tax deposits .
The IRS will also consider several factors when it assesses whether a taxpayer would encounter financial hardship if he or she was forced to pay the entire liability, including his or her income, assets, and expenses. In considering a taxpayer’s lifestyle, the IRS will critically review all relevant information (meaning that people who have assets worth substantial amounts are unlikely to be approved for offers in compromise based on claims of an inability to pay).
When a taxpayer submits an Offer in Compromise to the IRS, he or she will be required to complete and submit IRS Form 656, IRS Form 433-A, and/or IRS Form 433-B for businesses. While a lot of the information about the taxpayer’s finances will be collected from the data on Form 433, the IRS employee examining the claim will also conduct an investigation. Any unusually high living expenses will need to be justified by special circumstances. However, the IRS will not necessarily force a taxpayer to sell a vehicle or home to satisfy his or her tax liability. Meaning that just because the tax debt settlement may include an amount from an asset, it does not mean that the asset necessarily has to be sold. Needless to say, if this is getting confusing and you’d rather schedule time to speak with us directly, please do so here.
Calculating the reasonable collection potential
If you meet the eligibility requirements and appear to qualify for the OIC program, you will want to calculate the reasonable collection potential to determine the amount that should be offered. IRM 5.8.4.3.1 provides guidance about how the IRS calculates the RCP for a taxpayer’s tax debt settlement.
To calculate the RCP, you will need to figure out the net equity that is realizable in your assets. This amount will then be added to the amount of your future income. To determine the net realizable equity, you will need to determine the fair market value of the various types of property. Then, you will need to apply any discounts from a quick sale to the property and deduct any loans that are secured against the property. This step might require you to retain an appraiser to receive a formal analysis of the property’s fair market value (however if you plan to use our services, SPEAK TO US before retaining any outside advisor as we may have workarounds for issues like this).
To calculate your future income, you will need to complete Section 7 of Form 433-A. Here, you will enter your income, from all sources, and your living expenses. The expenses that you claim might be very different than what the IRS normally accepts. The IRS relies on national and local standards when it calculates the RCP. After applying the standards, the amount left over after subtracting expenses from your income is called remaining income.
For a lump sum offer, you multiply remaining income by 12. For a periodic payment offer, you multiply remaining income by 24. This number is then added to your asset number to arrive at your minimum offer amount for your tax debt settlement.
Steps in the OIC process
Understanding the IRS rules for the OIC process is critical. To begin, all of your tax liabilities must be included in your Offer in Compromise.
1. Prepare and submit any unfiled returns.
This might mean that it will be necessary to prepare any unfiled tax returns and file them so that the full amount of liability will be known. If there are any trust fund recovery penalties or withholding taxes at issue, you will also need to complete assessments for every quarter during which you may be liable for. Unfiled tax returns should be filed before an offer is made because the IRS will not accept an offer from a taxpayer who is currently not in compliance. If any of these issues are present, our office can assist with not only the tax returns but also any underlying bookkeeping needs.
2. Prepare and submit the right IRS Offer in Compromise form.
Submitting an Offer in Compromise requires you to use the correct IRS Offer in Compromise form. You will need to submit IRS Form 656 together with Form 433-A. If you’re a business owner, you may also need to submit Form 433-B. IRS Publication 1854 contains information about how these forms should be completed.
3. Choose a lump-sum or deferred payment offer.
The IRS prefers that taxpayers make lump-sum cash offers. If you cannot make a lump-sum payment, the IRS may allow you to enter into an installment agreement. Under IRM 5.8.2.3, making a cash offer means paying the offer within five payments after you receive notification that the IRS has accepted the offer. While submitting a deposit with a lump-sum Offer in Compromise is not required, it is strongly encouraged as a method to prevent default in the future.
Deferred or periodic payment offers include those when any portion of the amount that the taxpayer offers will be paid more than six months after the offer is accepted. In general, a deferred payment offer will not be extended for more than two years after acceptance. If you make an acceptable offer that will be paid within two years or less, it should not be rejected unless there are exceptional, documented circumstances that establish the need for a shorter repayment period. If you need to make a deferred payment offer, it’s term should be clearly stated.
After the IRS receives the Offer in Compromise
After you submit an Offer in Compromise, the IRS Revenue Officer will complete an initial screening to determine whether the offer can be processed. The IRS sends back many offers that it determines to be unprocessable, which can be very frustrating. Under IRM 5.8.2.4, the following circumstances will result in a determination that an offer is unprocessable:
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Lack of an offer amount ;
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Unidentified taxpayer ;
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Unidentified liabilities ;
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Missing signatures ;
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Failure to submit financial statements ;
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Net equity is not reasonably reflected in the offer ;
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Use of an old Form 656 ;
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Altered or deleted terms .
If an Offer in Compromise is returned because it is unprocessable, the taxpayer will not be able to file an appeal with the IRS Appeals Office (and may lose their processing fee too). However, there is a process for correcting a deficient or incomplete offer package.
If an offer is determined to be processable, it will be forwarded to an Offer Examiner. The assigned examiner will carefully review all of the documents that have been submitted line-by-line to look for red flags. An investigation will also be completed into the taxpayer’s financial circumstances. If the Offer in Compromise is approved, a notification will be sent. The taxpayer will then have to honor the offer that he or she has made within the specified time frame. The investigator may also seek clarification or other information from the taxpayer or their representative so it is critical to take their call and/or review any notices they may issue.
What is the effect of an OIC acceptance?
If the IRS accepts an Offer in Compromise, a contract is formed. The contract is binding on the taxpayer and the IRS and prevents further inquiry into the included matters such as a wage garnishment or other form of levy from IRS. Unless a mutual mistake or fraud led to the contract, both parties will be denied any attempt to recover any of the consideration that was given. However, an Offer in Compromise that was accepted because of a mutual mistake about a material fact or because of false representations about material facts can be set aside.
An accepted Offer in Compromise will include the IRS’s agreement to accept the offer as a full settlement of the taxpayer’s liability. It will also include the taxpayer’s agreement to pay the offered amount and the IRS’s release of liens that have been filed. Other promises are included in an accepted Offer in Compromise, including the promise to remain in compliance with the tax laws for the subsequent five years as previously described. The taxpayer will also agree to offset any tax refund that he or she might be due for the current or previous years. If the taxpayer receives a tax refund for the year in which the offer is accepted, the taxpayer must return it. If he or she fails to do so, the offer may be retroactively denied and the tax liability reinstated.
Appealing a rejected Offer in Compromise
If an offer is deemed to be processable but is subsequently denied after an investigation, the taxpayer can request an appeal. This review is conducted by the IRS Appeals Office. The notification that is sent by the IRS when an offer is rejected will include information about how to request the independent review. The taxpayer must file a written protest of the IRS’s decision within 30 days. This written protest can be sent on Form 13711. You can include new information with the written protest for evaluation by the examiner. However, the case file and protest are frequently just forwarded to the Appeals Office.
Under IRM 8.23.4, examiners also prepare Form 1271, which is a rejection memorandum. It includes a narrative report that details why the Offer in Compromise was rejected. If the offer was based on doubt about collectibility, the narrative will include detailed facts about an acceptable amount and term. This might be used as a basis for negotiation during an appeal.
You will not be sent this form automatically. However, because of its value in preparing for an appeal or creating a new offer, you should try to secure a copy either by making a request under the Freedom of Information Act or by asking the offer examiner directly for a copy.
When you file your appeal, you must include the specific grounds for your appeal. You will need to compare your Form 433-A with the income and expense and asset tables provided by the Offer Examiner from their own investigation. You should also include supporting documents for each point of disagreement that you identify.
If your case qualifies, an appeals conference will be scheduled. This conference is an informal process and is conducted through correspondence, phone, or even an in-person meeting. The appeals office focuses on trying to settle tax controversies before they reach litigation. In many cases, a rejected Offer in Compromise can be renegotiated and settled through the IRS Appeals Office. However, it is better to try to negotiate a settlement before a case reaches the appeals stage. Additionally, our office has had success withdrawing a soon to be rejected Offer in Compromise and then simply refiling, however all situations are unique of course.
How to negotiate an appeal
If you will be appealing a denial of your Offer in Compromise, you will need to gather evidence and records to support your position. During the appeal, the Appeals Officer will communicate with you. To win your appeal, you will need to be able to rely on your documentation, the IRM, case law, and the Internal Revenue Code.
Appeals Officers are prohibited from communicating with the examiner who rejected your offer. This allows you to present your original case to the Appeals Officer if you believe that it is supported with enough evidence. You can also make the case stronger by submitting additional evidence before it is sent to Appeals.
The Offer in Compromise program offers taxpayers an opportunity for a fresh start. However, the IRS rejects a greater number of offers than it accepts each year, although this is often due to poor representation (make sure the person handling this knows to do it). This makes it important for you to carefully consider whether it is the best strategy for resolving your outstanding tax liabilities. If you qualify under one of the three categories and are eligible, paying careful attention while you are completing the forms and assembling all of the supporting documents can increase the chances that your tax debt settlement will be accepted. Taxpayers who want to submit offers in compromise will also need to remain in compliance with their current tax obligations while the offer is pending and for five years after an acceptance is received. By meeting all of the requirements, you can enjoy a new start while paying much less than your outstanding tax debt.
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