Offer in Compromise                             

Link to Offer Questionnaire

The IRS Offer in Compromise (abbreviated as OIC) process is a means to potentially satisfy your tax obligations at a discount.  Although very rare, the IRS has been known to accept as little as 1% of a tax bill and call it even.  There are numerous cases where the taxpayers settled their outstanding obligation for a significantly less amount than what was originally owed. 

Is filing an offer in compromise right for you?  Would bankruptcy (Chapter 7 where certain Federal taxes can be discharged), or even a Chapter 13 (plan of arrangement) be a better option?  The answer to the last question depends upon a number of factors, such as:

• Have you previously filed bankruptcy (there are time limits on how often you can file a Chapter 7 bankruptcy)?
• Are your taxes dischargeable?
• Do you have other debts that can be discharged along with the taxes to give you a "fresh start" ?

I advise all of my clients who need IRS help with a tax debt that they need to discuss with a bankruptcy attorney their options for total or partial discharge of their tax debts.   Only by fully understanding what taxes they can - or cannot - discharge can taxpayers make a sound decision about how best to proceed. 

The changes to the bankruptcy statutes that went into effect in October 2005 make it more difficult for taxpayers to qualify today for bankruptcy than before that date - primarily because of the new "means" test.  Again, you should discuss bankruptcy as an option with a qualified bankruptcy attorney.  An attorney who I recommend is Mark Markus, Esq.  (http://www.bklaw.com).  Mark has helped some of my clients get through the bankruptcy process. For the non-discharged years, I either negotiated an Offer in Compromise or Installment Agreement to satisfy the remaining liability.

At the outset, I caution you to be very leery of any firm that promises that they can get your offer in compromise accepted.  All any firm can really do is ensure that your offer in compromise is processable.  This means that the paperwork is complete and that your offer will be reviewed by the IRS.  There are numerous factors that the IRS considers in determining if it is in the government's best interest to accept your offer in compromise.  The bottom line is that your offer must represent the best deal the IRS can hope to get.  The minimum offer required is the result of a mathematical computation I will discuss later.

I've often advised clients to put themselves in the place of the IRS.  If someone owed you the amount you owe the IRS, and your debtor came to you with the offer amount you are considering making to the IRS, would you be willing to take that amount from your debtor and cancel (compromise) the remaining balance?  If so, then perhaps you do have a good basis for an offer in compromise to present to the IRS.

Recent Policy Change

IMPORTANT:  The IRS changed its guidelines in November 2004 to  begin allowing installment agreements over the life of the collection statute (generally, 10 years from the date the tax is assessed).  Consequently, the IRS has been rejecting offers where the taxpayer is able to pay off their liability (with accruing interest...) over the statutory period for collection. 

For example, let's use a taxpayer who has a liability of $50,000 resulting from delinquent returns just filed.  If the average interest rate was 5% per year, the total liability plus interest (assuming 120 equal payments) would be about $62,500.   That would require monthly payments of around $525 for 10 years (ouch).  If the taxpayer has sufficient disposable income (discussed later) to make that payment, the IRS will NOT accept an offer. 

The net realizable value of any assets will be considered as reducing the amount that has to be satisfied by payments, meaning that the required payment amount would be less.  For instance, assume the same liability of $50,000, and net equity in a car of $12,500 (yielding a net realizable value at 80% of $10,000).  Subtracting $10,000 from the $50,000 owed would leave $40,000 to be paid over 10 years.  Assuming a 5% interest average, that would require payments of about $420 a month.  If after applying the national and local standards you are deemed capable of making that payment, you will NOT get an approved OIC.

Previously, the maximum installment payment period the IRS allowed was generally 60 months.  The result of this change to permit installment payments for the life of the collection statute is to deny many taxpayers the ability to compromise their liability.

OIC Application Fee - $150

Beginning on November 1, 2003, all taxpayers who file an OIC must include an application fee of $150.00 with their submission  - unless (1) the 20% lump-sum payment of the total offer amount is paid as required under the new law that went into effect 7/17/2006; (2) the first installment is submitted with the OIC application under the new law; (3) the offer is based solely on doubt as to liability, or (4) the taxpayer’s total monthly income falls at or below income levels based on the Department of Health and Human Services poverty guidelines. Taxpayers who claim the poverty guideline exception must certify their eligibility using Form 656-A, "Offer in Compromise Application Fee Instructions and Certification."  

Form 656-A is available on the IRS Web site, along with the most recent form 656 (7/2004) and the accompanying collection financial statement  - forms 433-A and/or 433-B. 

IMPORTANT!

Before getting too deep in the mechanics of an offer, you may want to read a recent response from the Commissioner to Congress regarding the Congressional inquiry into the Offer program.  This response provides a very good insight into the offer program, its history, current acceptance figures, and other data that will help you determine if an OIC is right for you.  There is also a great discussion regarding the news form of Offer - "ETA" - effective tax administration.  The document is a Word document, so if you do NOT have Word or a reader that can read .DOC files, do not try to down load it.

Click here to read this document.

This is the text of a recently issued Policy Statement by the IRS dealing with Offers in Compromise:

There are a couple of important facets you should understand regarding your offer payment and its eligibility for refund if your offer is NOT accepted. 

1.  If you file an offer in compromise, but it is NOT processable - meaning:

     a.  Your are currently in bankruptcy, or

     b.  You have not filed all required tax returns (including current year estimated taxes), or

     c.  You have a business with employees AND you are NOT current with deposits for the  current quarter or any of the two prior quarters,

         then, the $150 fee will be returned with the Offer application.

2.  If your offer in compromise is accepted for processing, and the IRS requests documents/information, but you do NOT fully comply with the request, the IRS will most likely reject the offer - and the IRS will KEEP the $150 fee.  If you decide to resubmit another Offer in Compromise at a later date, you are required to pay another $150.

Offer Requirements

The IRS will consider and accept an Offer if you meet just one of the following three conditions:

• Doubt as to Liability - Doubt exists that the assessed tax is correct.

• Doubt as to Collectibility - Doubt exists that you could ever pay the full amount of tax owed.

• Effective Tax Administration - There is no doubt the tax is correct and no doubt the amount owed could be collected, but an exceptional circumstance exists. This could be a serious economic hardship or that full payment would be unfair and inequitable.  An Offer based upon Effective Tax Administration is often best used where there are significant medical/health problems for the taxpayer or his/her dependents. 

This latter category was added in 1998.  Here is a link to the IRS Notice that describes the intent and purpose for this new type of offer.  I have also included a Section from the Internal Revenue Manual that discusses this newest category of offer.  Please view it here.

Please understand that you have no legal right to have your valid tax bill reduced by the IRS.  Whether or not they accept your offer in compromise is entirely a matter of governmental discretion.  This is why it is important to have your offer professionally prepared and presented to maximize its potential for acceptance.  The IRS must be convinced that acceptance of your offer is in their best interest.  A small percentage (less than 20%) of filed offers are being accepted based on the recent statistics of the IRS. 

Submitting an offer in compromise to the IRS is a very formal process.   You start by completing the most recent version of IRS Form 656.  You need to be very careful in completing the form - and to be sure to attach all of the required documents - including any explanations that may be required to clarify any of your responses! 

In addition to Form 656, you must submit a Collection Information Statement on Form 433-A.  If you are married and reside in a community property state (like California), the IRS usually requests that your Collection Information Statement include data pertaining to your spouse -- even if you alone owe the IRS.  The IRS scrutinizes the disclosures you make in this form 433-A much more closely when considering an OIC than when you request to pay your taxes with an installment agreement.

Submitting an offer in compromise will suspend the normal running of the 10-year Statute of Limitation on Collection for the period the Offer is under consideration, and for an additional thirty (30) days if you receive a notice of rejection.  If you or your representative files an appeal within the allowed 30 day period following notice of rejection, the collection statute continues to be suspended until conclusion of the appeal - plus another 30 days.

Certainly an option for dealing with old tax liabilities (generally, those over three years old) is bankruptcy - although the new bankruptcy legislation (that went into effect October 17, 2005) will limit or remove that option for many taxpayer.   There are pros and cons to filing bankruptcy.   If you owe taxes for tax periods that were filed over three years ago, I strongly suggest that you consult with an Attorney who is well versed in bankruptcy law to determine the discharageability of any portion or all of the tax liability you owe.   In fact, because of special rules that apply to Chapter 13 bankruptcies, I still recommend that ANYONE who owes back taxes consult with a bankruptcy attorney first. 

Before getting into the technical discussion of an offer in compromise, I am sure you are aware that there are many individuals and companies advertising on the Internet that will complete and submit your offer in compromise.  Be alert that some of these individuals and firms may not be willing - or lack the authority - to actually represent you before the IRS. 

Further, you may be tempted to download the forms from the Internet (www.irs.gov) and complete them yourself.   Downloading and studying the forms is a good idea as it will help you understand the OIC process.  However, I do NOT recommend you try to do your own offer in compromise.  You may create more tax issues  for yourself as a result of not fully understanding what should - and should not - be included on the financial statement and how best to present the information.   

ACCEPTED OFFERS

If your offer is accepted, you MUST remain in full compliance (that means timely filing returns and paying taxes, including estimated tax if you are required to do so) for five (5) years.   It is like being on probation.   If you miss just one (1) requirement, the IRS can revoke the OIC and reinstate the original liability less payments made pursuant to the offer.

Here is a recent court case on this subject:

Code Section 6330—Collection due process—review of administrative determination—offer-in-compromise—termination of offer; breach.

IRS's administrative determination to terminate taxpayer's OIC, reinstate full amount due less payments made, and proceed with lien filing for same was upheld: although taxpayer had paid compromised amount, his failure to timely pay 1 of ensuing years' liabilities (“late year”) violated OIC's plain terms and as such allowed IRS to terminate same and proceed with full collection. Also, although taxpayer had eventually fully paid that late year's tax, and did so before IRS issued lien notice, IRS's actions were still justified since taxpayer had paid late in material breach of OIC; and there was no “excuse of condition.” And, fact that IRS failed to consider taxpayer's intervening request to pay that late year via installments didn't change result since, although IRS could have entertained installment proposal, it had no obligation to do so in face of taxpayer's OIC default. (Will K. Ng v. Commissioner, (2007) TC Memo 2007-8

General Concepts

According to the IRS, the amount of an offer in compromise based upon doubt as to collectibility must be equal to the net realizable value of your assets plus the amount of money the IRS could take from your future income.  For this example, I will assume there is no way you can pay off your large liability by monthly payment for the length of the collection statute.  So, you meet the basic qualification of an OCI.

By illustration, if the net realizable value of your assets (a car, for example) are worth $7,200 (their fair market value TIMES 80%, less what you owe), plus cash and investments at their face value,  and the IRS determines that you can pay by way of monthly installments over 48 months (the # of months used in the formula when making a "cash offer" as opposed to an "installment offer") future income totaling $14,800, your minimum offer must be equal to or more than $22,000.

Net Realizable value of your assets. The net realizable value of your assets is the amount the IRS would likely collect if they levied (seized) your assets and sold them today -- after paying off any debts associated with the property, such as a mortgage or other secured loan balance. To figure out the value of your assets without actually selling your property, you're entitled to use the quick sale value, or QSV, generally considered 20% less than the fair market value.  However, there are situations today - particularly in reference to real property - in some Southern California offices, where the IRS is NOT discounting the FMV of "real property" to arrive at the QSV. 

Future income. Your future income is first determined by subtracting your necessary living expenses (NOTE:  there are National Standards that specify the maximum amounts that are allowable for the computation of housing and utilities expenses, living expenses, and transportation expenses) from your total monthly income.  In specific (and limited) circumstances, the Internal Revenue Manual allows the Service employee to deviate from the standards).  This resulting amount (future income) represents the least the amount you would be required to pay if you were granted an installment agreement to make monthly payments on your tax bill. 

Other expenses.  I am often asked about the impact of pre-existing State tax installment agreements.  Here is the IRS position from the Internal Revenue Manual:

Monthly payments to state or local taxing agencies should not be allowed as a necessary expense, even if the state or local taxing agency has a lien that was choate prior to our lien or is collecting funds via a wage attachment or approved installment agreement. State and federal lien (regardless of priority) attach simultaneously to after acquired property. In general, if the federal tax lien attaches to after acquired property simultaneously with a competing perfected lien, the federal tax lien will take priority (see Legal Reference Guide 5.17.2). Since future earnings of the taxpayer are after acquired property the Service has first right to the earnings. Explain to the taxpayer that although the payment may be allowed in an installment agreement where the tax will be paid in full, it will not be allowed for computation of an acceptable offer amount because the Federal government has priority rights to the funds.

After you determine this monthly payment amount, you then multiply it by a number that is related to the type of payment plan you chose:

• Cash Offer -- The multiplier is 48 if you propose to pay the amount of your Offer in one cash payment within 90 days of being notified that your offer in compromise has been accepted (this is the IRS's preferred method of offer payment)

• Short-Term Deferred Offer -- The multiplier is 60 if you propose to pay the amount of your Offer over two years (the IRS's second choice), or

• Deferred Offer -- The multiplier equals the number of months remaining on the statute of limitations for the collection of the taxes -- 120 months minus however many months have passed since the IRS assessed the taxes (this is the IRS's least favorite method).

 If the IRS accepts your offer in compromise and you will make payments over two years or longer, the IRS may record a Notice of Federal Tax Lien showing your tax debt, if it hasn't already done so.  The lien will stay on your records until the offer is fully paid or the statute of limitations for collection has expired, whichever occurs first.

Let me illustrate some important aspects of submitting an offer in compromise: 

You need to understand your financial situation

This is critical because to the extent that you have assets in excess of liabilities, the IRS is not likely to accept an offer in compromise that is less than the net realizable value of your assets plus future income.  However, how you present your "numbers" can make a big difference. 

To illustrate, assume you believe that you have a net equity of $75,000 in your home.  If you record that amount on your financial statement, you can expect the IRS to argue that your offer amount must be at least $75,000 (this assumes you have no other assets or liabilities).   A skilled representative may be able, through persuasive argument and evidence, to convince the IRS to reduce that equity value by other factors, thereby reducing the offer amount accordingly.   

You need a representative with skill and experience in offer preparation

• You need advice on how to value your assets and liabilities.  As mentioned above, knowing how to calculate and present your net equity in your home - as well as your other assets - can have significant financial consequences.

• Your representative must advise you how to calculate your current and future income and expenses, as well as how to properly apply the National Standards.

• Your representative can best determine the least amount of an offer that the IRS will likely accept.

• Your representative will be able to guide you, based upon your personal situation, in determining if an Offer based upon Effective Tax Administration would have a better chance of success than one based upon Doubt as to Collectibility.  

Your representative must be effective in negotiating acceptance of your offer in compromise:

• Understanding the tax law and IRS internal procedures, including the Internal Revenue Manual

• Knowing how to effectively argue the facts in your case and the law

• Having credibility with the IRS is very important:

  • Having earned the respect of IRS employees

  • Anticipating how the IRS employees will evaluate your financial situation

  • Understanding the numerous IRS procedures and policies

  • Knowing the limits of IRS discretion in Collection and Appeals

  • Will not be intimidated by an aggressive IRS Offer Specialist, or by an Appeals Officer or  Settlement Officer

Your representative must know when the time is right to request a hearing in the Appeal's Division

• Understanding the importance of timing and basis for an appeal

• Knowing the Appeals' procedures

• Presenting your case persuasively before the Settlement Officer or Appeals Officer

• Being familiar with the discretion that an Appeals Officer/ Settlement Officer has, as well as their Team Manager

For most taxpayers, dealing with the IRS can be an intimidating experience.   The IRS employee may take advantage of - or become frustrated with - a taxpayer who represents himself, or of their representative if that person lacks experience.  

With my extensive and respected IRS background,  I know the rules they must play by.  I will ensure that each of my clients get full and appropriate consideration of their offer in compromise.

Hiring any qualified representative to help you develop and process an OIC can be expensive.   Why?   Because offer in compromise preparation and processing is a very tedious and time consuming process.  It takes time to accurately complete the application and financial statements.  Further, your representative likely will be required to attend several meetings with IRS employees before it is over.  Because of the IRS workload, most offer in compromise applications take over a year to complete their processing.  If the offer is rejected by an Offer Specialist, then further time will be required for the appeal. 

It is important to understand that retaining an advocate solely on a basis of their lower price could end up costing you thousands of dollars in the end because they were unable to get your offer accepted, or accepted for the lowest possible amount.   If your offer in compromise is rejected,  you may end up in worse financial shape than before because you are out the money you spent for the OIC process.     

Remember the discussion above on how to present the equity in your home?  The point I was making is that the competency of your advocate is the key to successful negotiation of an Offer for the least amount required for acceptance.

For your information, there are certain assets that you do NOT have to count in evaluating your financial situation.  Here are the rules relating to property exempt from inclusion in an offer in compromise (for preparation of Form 433A).   Section 6344 of the Internal Revenue Code lists “Property Exempt from Levy.” This same property is exempt from valuation in an Offer-in-Compromise:

1. Wearing apparel and school books “necessary" for the taxpayer or for members of his family (section 6344(a)(1)).  Luxury items such as furs are not necessary and are, therefore,  not exempt.  Section 301.6334-1 of the regulations.

2. Fuel, provisions, furniture, and personal effects in the taxpayer’s household and of the arms for personal use, livestock, and poultry of the taxpayer, as does not exceed $6,250 in value (section 6334(a)(2)).

3. Books and tools necessary for the trade, business, or profession of the taxpayer as do not exceed in the aggregate $3,125 (section 6334(a)(3).

4. Unemployment compensation (section 6334(a)(4)).

5. Undelivered mail (section 6334(a)(5)).

6. Railroad Retirement Act annuity and pension payments (section 6334(a)(6).

7. Workmen’s compensation (section 6334(a)(7)).

8. Judgments for support of minor children (section 6334(a)(8)).

9. Exempt income (section 6334(a)(9)).  Exempt income, as defined in section 6334(d) pertains, in general, to the sum of the standard deduction plus the personal exemptions allowed, divided by the monthly pay period.  For details of the computation, see section 301.6334-3 of the regulations.

Finally, an offer in compromise rejected by the Appeals Office can be appealed to the United States Tax Court.  However, unless it can be shown that the Appeals Officer or Settlement Officer abused his or her discretion in rejecting the offer, it is unlikely that the decision of Appeals will be overturned.  To illustrate this, following is a synopsis of a 2003 Tax Court review of an IRS administrative determination.

The IRS's administrative determination to proceed with collection of pro se [he represented himself] taxpayer's unpaid tax liabilities was upheld.  The Appeals Officer did not abuse her discretion by rejecting taxpayer's original offer in compromise where she adopted revenue officer's conclusion that, based upon financial information provided by taxpayer, the amount the taxpayer offered was insufficient in comparison to amount that he could really afford to pay in compromise.

Further, the proposed levy was necessary to induce payment and wasn't unreasonable based upon taxpayer's long history of tax delinquency.  Also, no evidence suggested that rejection of taxpayer's amended offer was abuse of discretion.

(Randall G. Van Vlaenderen v. Commissioner, (2003) TC Memo 2003-346, 2003

Appealing the Decision of Appeals to the Court

 A decision by Appeals that is adverse to the taxpayer may be appealed to the Court under the guise that the IRS is guilty of "abuse of discretion."   This is a very difficult case to win.  Here is an excerpt from such a case to give you an idea of what the Court considers in these kinds of trials:

UNITED STATES COURT OF APPEALS FOR THE FIFTH CIRCUIT,

Appeal from the United States District Court for the Western District of Texas (3:03-CV-478-FM)

Before WIENER, BENAVIDES, and STEWART, Circuit Judges.

Judge: PER CURIAM: ^*

Plaintiff-Appellant Alicia Siquieros (“Taxpayer”) appeals the district court's denial of her motion for summary judgment and grant of the motion for summary judgment of the Defendant-Appellee United States of America (“the government”), dismissing Taxpayer's lawsuit seeking judicial review of the Notice of Determination issued by the Internal Revenue Service (“I.R.S.”). We affirm.

The gravamen of Taxpayer's complaint is that the I.R.S. abused its discretion in refusing to accept her $100 offer to compromise her federal tax liability arising from the Trust Fund Recovery Penalty assessed by the I.R.S. against Taxpayer as a “responsible party” for employment taxes withheld from employees of E.C. Trucking, Inc. but not paid over to the government by that corporation (which sought protection in bankruptcy and is no longer in business). Taxpayer is deemed a responsible party by virtue of her position of employment with E.C. Trucking, Inc. at the times in question.

Like the district court, we are bound to apply the highly deferential abuse of discretion standard to the decisions of the I.R.S. complained of by the Taxpayer. In so doing, we have carefully considered the record on appeal (which demonstrates, as confirmed by the parties' cross-motions for summary judgment, that there are no genuinely disputed issues of material fact) and the issues of law presented and argued in the appellate briefs of the parties, observing the extensive exhaustion of administrative remedies by Taxpayer, through the appellate process, including the offers and counteroffers of settlement by the parties.

It is immaterial whether we or the district court might have exercised our discretion differently and either accepted one of the settlement proposals from Taxpayer or extended counteroffers that Taxpayer might have deemed more lenient. Our review is limited to determining whether, under all the circumstances of the case—including factors favorable to Taxpayer's position, such as age, health, financial condition, and lack of factual culpability—the I.R.S. abused its discretion in rejecting the compromise offers of Taxpayer or in making its own counteroffers. Our thorough review of the facts and applicable law under this highly deferential standard of review convinces us that, as a matter of law, the I.R.S. cannot be held to have abused its discretion. Consequently, we affirm the district court's grant of summary judgment dismissing Taxpayer's action.

 Do I qualify for an OIC?

After reading the above, if you feel that filing an OIC may be the best solution for you, I need to determine if you meet the basic qualifications.  Here is a link to the form to complete and submit.  Please be sure to answer all questions - and double check the accuracy of your E-mail address to ensure that I can respond back to you.

State of California OIC Update

Continuing their efforts to make more services accessible and convenient for more taxpayers, California’s three tax agencies have simplified the Offer In Compromise application process. A single application for all three tax agencies is now available!

The Board of Equalization (BOE), Employment Development Department (EDD) and Franchise Tax Board (FTB) have developed a single form, the DE 999CA, Multi-Agency Form for Offer in Compromise that individuals can use for any of the state’s tax agencies.

The individual agencies must still negotiate each offer in compromise separately for their respective taxes. For example, only the FTB can negotiate a state income tax liability where the Board of Equalization can only negotiate a sales or use tax liability.

The form is available online at the California Tax Service Center (www.taxes.ca.gov), as well as at each of the three tax departments’ Websites (BOE www.boe.ca.gov, EDD www.edd.ca.gov, FTB www.ftb.ca.gov).

NOTES ON THE IRS COLLECTION FINANCIAL STATEMENT (FORM 433-A)

A key document used in the OIC evaluation (as well as for installment agreements) in the Form 433-a.   This 6-page form asks all sort of questions that are designed to give the IRS a basis for determining the taxpayer's net worth and future income potential.   Often, there are disagreements over what expenses the taxpayer should be allowed to offset their gross income.   There are standards (national, regional and local) used for housing, living and transportation expenses.   But, how about for other expenses (such as life insurance, taxes, medical costs, delinquent state and local taxes, etc.)? 

The Internal Revenue Manual (IRM for short) provides guidance to Revenue Officers on what to allow and in what amount.   In my experience, the Service employees are not aware of this section, have forgotten about it, or are simply ignoring it.   Having a representative who understands the rules and who can be persuasive in encouraging a Service employee to follow them is important in the success of getting the least amount of offer (or installment payment) agreement.

To illustrate, below is a reprint from the IRM dealing with allowances for other expenses.