OFFER IN COMPROMISE
An Offer in Compromise is an option that you have with the IRS to settle your back income taxes. If you owe a substantial amount of money in federal taxes ($10,000 or more), you can submit an IRS settlement through the Offer in Compromise for less than your total outstanding balance and see if the IRS accepts it. Generally considered the “nuclear option” if you have a tax bill you doubt you’ll ever be able to pay off, filing an offer in compromise is a long and daunting process (an Offered settlement can take 12 months) with many confusing and seemingly contradictory requirements. Even though the Offer in Compromise program was simplified through the Fresh Start Initiative, gathering all the necessary paperwork for an offer in compromise is incredibly time consuming as is staying on top of communications from the IRS regarding your settlement offer. However, if your income tax debt is significant and/or you are in poor shape financially, it may be worth it to take the time to submit an offer in compromise.
Types of Offers in Compromise
First, you, the financially struggling taxpayer, need to know what type of offer in compromise you should file. There are two chief types of offers: doubt as to collectibility and doubt as to liability. Doubt of collectibility offers are made if it doesn’t look like the IRS will have any chance of collecting all or most of your outstanding balance right now or in the near future because your assets and income are outweighed by your outstanding balance. If you are filing a doubt as to liability offer in compromise, the premise for settling your back taxes is that there have been tax administration errors, and you don’t actually owe as much as the IRS says you do. Your liability isn’t supposed to exist under the current tax law, or ministerial errors were made.
Offers in compromise can also be made in the name of effective tax administration, where you are not arguing that tax law was correctly applied (and your balance is collectible to an extent) but that paying your outstanding taxes would cause a significant financial hardship, and the IRS isn’t going to get any money out of you as a result. For example, the value of your home could determine that your tax liability is collectible but losing your home would result in hardship.
THE ONLY TYPE OF OFFER IN COMPROMISE THAT YOU NEED TO BE CONCERNED WITH IS: DOUBT AS TO COLLECTIBILITY
Fees and Low-Income Certification
Generally, there is a $186 nonrefundable application fee when you apply for an offer in compromise. It is totally separate of any tax payments and doesn’t count toward your outstanding balance. The only exception to this is if you are submitting an offer based on doubt as to liability. The fee is also waived if you qualify for the low-income exception. If your monthly income falls at or below 250% of the poverty guidelines set by the Department of Health and Human Services, you can check off the low-income certification section of the offer in compromise form (Form 656).
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Eligibility and Taking Care of Unfiled Tax Returns
The IRS Tax Attorney at Flat Fee Tax Service, Inc., who is handling your IRS tax problem, will ensure that you’re eligible for an offer in compromise. If you are in open bankruptcy proceedings, you can’t make an offer.
Flat Fee Tax Service, Inc. can determine if you are eligible and qualified to settle with the IRS during our initial consultation.
Next, you need to make sure that you’ve filed all outstanding tax returns. The alternative is to wait for the IRS to file substitute returns on your behalf, but this frequently doesn’t have the best outcome. Substitute returns only account for the bare minimum of tax benefits and rely on data already in the system, such as W-2s and 1099s on file, opposed to what your actual tax situation could look like. Because of this, your total outstanding tax debt could look a lot larger than it really is and make it harder for your offer to be accepted as a result.
If you proceed without having at least substitute returns on file, it will cause significant delays in the offer process.
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Compiling a Personal Financial Statement
You need to prove that your income and assets are insufficient to pay your entire outstanding tax balance. Form 656 has two different financial statement forms, one for individuals and businesses, with an extra section for self-employed taxpayers. This statement is incredibly exhaustive as you must provide information about your and your spouse’s employment, whether your dependents and other people living in your household contribute to the household income, household expenses, vehicles and other assets, and virtually anything else related to your ability to pay down your tax debt. You must include copies of documents such as pay stubs, car notes, student loan payments, and other proof of your expenses, income, assets, and debts to substantiate what you entered on the financial statement. If you are self-employed, you need to provide an extensive breakdown of assets used in your business as well as where your income comes from and the type of expenses you have.
The purpose of collecting so much financial information is so that the IRS can determine if you can pay your balance in a reasonably short timeframe and that it doesn’t merit the other resolution options available to you such as going on a payment plan or making your account temporarily uncollectible.
Revisiting the pre-qualification stage, the IRS makes basic allowances such as $1,000 in the bank and $3,450 against the value of your car (based on the current figures in Form 656), but if they otherwise determine that you can pay your total outstanding balance with your assets as-is and/or by going on a payment plan, your offer will be rejected. If your debts significantly exceed your assets, the odds are more likely to be in your favor.
Making the Actual IRS Settlement Offer and Choosing a Payment Plan
Once you’ve compiled your financial statement, which should support your Offer in Compromise amount and how much you are able to pay, you then make the actual offer. The offer price should be as close to the original tax liability as possible, within reason.
You also will specify if you will make the offer in five payments or less with a lump-sum payment plan or periodic plan (typically monthly). If you are opting for the lump-sum option, your package must include a payment for 20% of the total offer amount. For periodic plans, include the first period’s payment in your package. You then need to stay current on these payment plans while waiting for the IRS to make a decision.
Waiting for the IRS to Respond
Once you submit the offer and your initial payment, you must honor the payment arrangement proposed in your offer even though it will take time for you to get a response. While the IRS is processing your offer, you need to keep making these payments or else your offer will be voided. The only exception to this rule is if you meet the low-income certification guidelines.
Another important factor to consider is that while you wait for the IRS to accept or reject your offer in compromise, penalties and interest will still mount on your outstanding balance. Collection actions will be suspended, but you may still receive a federal tax lien that won’t be released until the terms of the offer have been satisfied. Because of this, if you have any outstanding installment agreements, then you don’t need to make payments on them.
If you received a notice that your offer was accepted, or two years passed from the date that the IRS received your offer, and they still didn’t respond with a decision, then your offer has been deemed accepted. You still must keep up with the payments that you were making while waiting for a response, except that now your outstanding balance has been reduced to your offer amount. If you have any federal tax refunds for future tax years, they will also be applied to your outstanding balance.
A Returned Offer in Compromise and Rejections
A common mistake people make when submitting an offer in compromise that comes back to them is confusing it for a rejection. The IRS will sometimes send back an offer in compromise package if information is missing. Other reasons for returning the offer package include failure to enclose the application fee or make the first payment, didn’t file the required tax returns, or didn’t pay current tax liabilities while the offer was being considered. While being in open bankruptcy proceedings generally deems you ineligible, you can still try to submit an offer in compromise, and it will just get returned instead of outright rejected.
This distinction is important because having an offer package returned to you doesn’t give you a right to an appeal. Your submission date completely resets once you’ve gathered all the missing information and/or payments and can resend your offer, starting the entire process all over again. This means that you will need to update your financial statement as well as provide new and current supporting documents.
If your Offer in Compromise is rejected however, you will receive a formal rejection notice in the mail with detailed instructions on how to elevate your case to the IRS Office of Appeals. Your request for an appeal has to be made within 30 days from the date on this letter, or else you’ll have to start an entirely new offer from scratch. You will usually be given reasons for rejection and have the opportunity to dispute them as well as make a counter offer for the amount you will pay over time.
Potential Consequences of Submitting an Offer in Compromise
If the IRS accepts your Offer in Compromise, you will never be able to dispute the amount in court or anywhere else. If you wind up having to file for bankruptcy after the offer has been accepted, the amount of federal taxes you owe now can’t be disputed.
Owing taxes and beginning the offer in compromise process will also show up on your tax transcript. In the event that you need to supply a tax transcript, such as applying for housing or a business loan, this could have adverse effects.
There is also a risk of defaulting on your offer, such as if you can’t make payments due to hardship, or you intentionally go delinquent. Because the IRS already had to stop collection actions during the review process, going into default gives them the right to file suit and collect the entire unpaid balance of the offer. They can even collect the original amount of your outstanding taxes as liquidating damages and not just the offer amount, and do so without notice.
If you suspect that you are going to default on a payment plan once they’ve accepted an offer in compromise, you should contact the IRS immediately so your offer isn’t voided in the event of an emergency such as job loss, domestic violence, or health problems.
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Is an Offer in Compromise Right for You?
It ultimately depends on your individual financial situation and whether you’ll be able to keep up with payments despite settling for a smaller amount. Since the IRS also looks at your potential for future income based on your individual circumstances, if your income looks like it will be about the same or less than what it currently is then you have a higher likelihood of your offer being accepted.
If you don’t meet the low-income certification guidelines based on both your monthly income and household composition, but it’s difficult for you to keep up with monthly payments, you may want to look into other tax debt resolution options such as an installment agreement, online payment agreement, or temporarily making your account uncollectible while you figure out how to pay your tax bill.
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Due to the massive amount of time, paperwork, and stress involved in preparing an offer in compromise package, submitting an offer in compromise is best for taxpayers who have significantly large outstanding balances with little to no potential to ever pay that balance back, such as if you become unable to work due to health conditions. If your assets are sufficient to pay down your tax debt, the entire process will have been for naught because you’ll be deemed solvent enough to liquidate some of your assets and just pay your balance.
Submitting an offer in compromise is not a fast and easy process and should definitely be done with the assistance of a tax professional. In addition to compiling your personal and/or business financial statements correctly, they can also ensure that a compelling case has been made for why you must settle your back taxes. After deciding which type of offer in compromise best suits your financial situation, you then have to see if you qualify for low-income certification and determine if you can stay current on the payment plan you are proposing. You take a risk in submitting an offer in compromise in that defaulting on this type of payment has harsher consequences than defaulting on a standard IRS payment agreement, but also that it shows up on your tax transcript and can create issues if third parties need a copy of it.
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