The Offer in Compromise Guide: Understanding the Basics

When you’re overwhelmed by the amount of tax you owe and know that there is no way you could ever pay back the amount due, you may qualify for an Offer in Compromise. Before starting your application, it’s important to know how the IRS looks at your circumstances to consider whether you are eligible to pay a reduced amount of tax. Here are the specific topics this guide will cover:

  • What is an Offer in Compromise
  • Qualifying for an Offer in Compromise
  • How to Submit an Offer in Compromise
  • IRS Fresh Start Program

 

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IRS Offer in Compromise

Section 1:

What is an Offer in Compromise?

You may request that the IRS settle your tax debt, including interest and penalties, for less than you owe. This is called an Offer in Compromise. In order to qualify, you will need to either prove to the IRS that the tax should never have been assessed against you or that they would not be able to collect the taxes from you because of your financial circumstances.

Section 2:

Qualifying for an Offer in Compromise

Offer in Compromise Pre-Qualification

Requesting an Offer in Compromise is not an easy or fast process. Because the IRS considers many factors when processing your request, it is best for you to have a tax professional look at your specific circumstances. Another option is to complete the IRS PreQualifier Tool which can help determine if an Offer in Compromise is a good option for you.

Whether you visit for free with one of our tax professionals or go to the IRS site, you will need to provide basic information about your financial situation. Based on that information, you will see if it is even a possibility to start an application. Additional analysis will be done for your specific circumstances by a tax professional that could help you avoid the time and expense of moving forward with an application if you won’t be eligible.

Offer in Compromise Approval

The IRS looks very critically on Offer in Compromise requests. This is largely due to the fact that they have priority to most other creditors and have extensive ways to collect taxes from you through things like wage garnishments and bank levies. So, what you’ll find is that the IRS does not work like other creditor issues. Only in certain circumstances can the taxes be discharged in bankruptcy, and the IRS doesn’t negotiate like you might do in any other business transaction.

IRS Offer in Compromise

This means that you will have to convince the IRS that they would be left in a much better spot if they take a settlement payment from you versus waiting it out to collect taxes from you over time. More specifically, the IRS considers how many assets you have in your name as well as what income you have left over after paying allowed living expenses. If you have less assets and income than your tax bill, you may qualify for an Offer in Compromise.

Other considerations the IRS may take into account when reviewing your offer include the time left on the statute of limitation (10 years from when the tax was assessed), your age, occupation, and ability to earn income, the total amount owed, whether you’re compliant with your current tax filings and payments, and your other resources for paying off the tax debt.

In general, the IRS review process is based on a formula, which is basically:

Assets – Debts + Available Income = Offer

The key to offering something that the IRS will accept is to look at your specific circumstances and finding the opportunities to show your financial picture in the best light. This means making sure your assets are stated with correct values and also taking expenses that are allowed, versus what the IRS wants to give you. Of course, you may choose to prepare your Offer in Compromise on your own. With a tax professional’s help, the offer process can be more streamlined and reviewed to reach the best settlement possible.

Section 3:

How to Submit an Offer in Compromise

Offer in Compromise Forms and Tips for Filing

The IRS requires that you submit both Form 656 and Form 433-A(OIC) to make your Offer in Compromise. There is a $186 filing fee that will be paid when you send in your offer. There is an option to have the fee waived if you qualify for a low-income certification. If you are married, you will need to file two offers and pay the filing fee for each offer sent in. Also, keep in mind you sign both forms under penalties of perjury that what you’ve included on the form is true and accurate.

Form 656

Form 656 is where you state your actual offer of what you can pay. You will also choose an option as to when you will pay the offer to the IRS. You may pay your offer amount off in as little as five months or in up to 24 months. If you choose to pay your offer in five months or less, you will need to send at least 20% with your application. If you choose to pay your offer in six to 24 months, your first monthly installment will need to be paid with your application and each month after as your offer is being considered. Keep in mind that in most cases, if you choose the five-month option, the amount of your offer is typically less than if you want longer to pay it off. Depending on your ability to pay, you may want to get the offer paid off as soon as possible.

If you have exceptional circumstances that you want the IRS to consider, you will include that information on Form 656. Lastly, there are many questions that the IRS asks on this form, which you need to answer. Just a few of these questions include whether you have filed bankruptcy before, whether anyone is holding money for you, whether you are part of a lawsuit, etc.

Form 433-A (OIC)

The second form is the actual calculation of your Offer in Compromise – Form 433-A(OIC). This is where you provide all of the detail of your financial information. The form comes in two parts. The first part of this form is asking for your asset and liabilities. The IRS uses the value as if you had to sell your assets and uses a 20% discount to get to a “liquidation” value. You may also include any secured debt to offset the value of your assets. Secured debts are ones where the asset is used as collateral for the loan. Examples are your home mortgage and a car loan.

You will need to provide copies of your statements with your offer. You will need to include three months of your checking and savings account statements, as well as current statements for other investment and retirement accounts. Other documentation to support the amounts you used, both for assets and debts, are also required. You have the burden of showing the IRS that the amounts on your Offer in Compromise are accurate. Because it will take the IRS many months to get to your offer, you may be asked to provide updated statements. The IRS wants to be sure to get a current and accurate look at what you own at the time they consider your offer. It is very important to include all supporting statements. If you fail to do so, your offer may be rejected immediately as not complete.

The second part of the 433-A (OIC) form requests information on your sources of income and your expenses on a monthly basis. This may include your wages, social security income, business income, and your spouse’s income. Just like with your assets and debts, you will need to provide proof of your income by sending in paystubs, profit and loss statements from a business, etc.

You will also provide your monthly expenses. The IRS uses national standards to determine your reasonable monthly living expenses. These standards are adjusted every year and include costs for things like housing, food, clothing, transportation, etc. In our experience, this is a great opportunity to help our clients get the most out of their offer. Frequently, we see offers where people are not including all possible costs available to them. It is your burden to prove you have expenses that go over the national standards. Without that additional information, the IRS assumes you only spend the minimum. For example, the IRS allows $55 per month for out-of-pocket medical expenses. It is common for people to be spending far more than this. By supplying information that your actual out-of-pocket expenses are more than the $55 per month, you will be allowed the actual amount to reduce your offer amount. Other expenses that will be considered by the IRS may include court-ordered payments, like child support, bankruptcy payments, and minimum payments on credit cards (even if the debt can’t be included in your asset analysis).

The amount you have left over after taking your income less your expenses is the amount used to calculate your offer. If you are able to pay your offer off in five months or less, you will use that left-over amount and multiply it by 12. If you need up to 24 months to pay your offer, the left-over amount will be multiplied by 24. The result here is added to your net assets as calculated in the first part of this form. This is what you will offer.

When you have completed both the Form 656 and Form 433-A(OIC), send your offer, along with the filing fee and any required down payment to the IRS’ Offer in Compromise unit in Holtsville, NY. Then, you will need to be patient. It is not uncommon for the process on an accepted Offer in Compromise to take six months or more.

Unfiled Tax Returns Guide for Offer in Compromise

What happens after you submit an Offer in Compromise?

Once the IRS gets your application, it will send you a letter confirming it has received the offer and that it will be assigned to someone. The IRS has an initial review process to be sure your offer has the basic information completed correctly and that it meets the criteria for a valid offer. If you have missed something, the IRS will simply return the application to you with a letter explaining what was wrong. You will have only a certain amount of time to fix the problem.

If the Offer in Compromise gets past the initial review, it may take up to four months before a more in-depth review is taken of your request. Again, please be patient. While the offer is being considered, you should continue to pay any monthly payments if you chose that option. You should also stay current on any tax filing and payment requirements. Also, remember to pay special attention to any mailings you receive from the IRS. These will contain deadlines that you must abide by or your offer may be rejected.

If your offer is accepted, you will receive a letter from the IRS confirming its acceptance. You will be reminded that you need to remain compliant with all tax filings and payments for at least five years following the acceptance of your offer. If you fail to do this, the settlement will go away and all of the taxes and penalties will come back to you. In addition, for the year following your offer acceptance, any tax refunds you were to receive will go directly to the IRS. The refund will not be applied to your offer amount; it is simply kept by the IRS. You may want to work with a tax professional to adjust your tax withholdings to ensure you don’t have a large refund coming for that year.

The Offer in Compromise process can be overwhelming, time-consuming, and complex. If your situation is such where this would work for you, it can also be a great option to settle your tax debt and move on with your life.

Section 4:

IRS Fresh Start Program

Some tax relief agencies use this “Fresh Start” term in a misleading way, leading people to believe that the agency has a special way to review cases. In reality, the IRS’ Fresh Start Program is an initiative by the IRS to allow more flexibility for repayment to taxpayers that are having a hard time paying their overdue taxes.

The Offer in Compromise option is one of the initiatives included in the IRS’ Fresh Start Program. The initiative made changes to the offer process to make it easier for taxpayers to qualify for relief.

If you are not a fit for the Offer in Compromise program, you may still be able to enter into an agreement with the IRS to pay the taxes back in installments. This is another “Fresh Start” initiative. Depending on the amount you owe, your monthly installment payment may be determined based on your income and allowable necessary expenses. It is important to reach an amount that you can consistently make because failure to pay will be a problem in working with the IRS going forward.

If you owe under $50,000 of tax, the IRS will allow you to set up a payment arrangement without having to provide your detailed financial information. This works particularly well for taxpayers who earn more income than they pay in expenses each month. You have up to six years to pay off your taxes, making monthly payments under an installment agreement where your payments are directly withdrawn from your bank account each month.

Section 5:

Conclusion

There are many options to consider to pay off or settle your tax debt. It’s important to know which option will work best for your particular circumstances. Learning about those options will get you past the ads saying you can simply “save pennies on the dollar” by negotiating with the IRS. This is very misleading. Your particular finances and what you have available to pay your tax debt will decide if you qualify for an Offer in Compromise.

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