Executive Summary

If you are unable to pay your taxes in full, you may be able to take advantage of the offer in compromise (OIC) program. Contrary to many TV, radio and internet advertisements, the OIC program is NOT a way for everyone to settle their tax bill for "pennies on the dollar." Recent legislation imposes additional requirements to file an OIC, including partial advance payments. However, if you owe more tax than you are able to pay, the OIC program remains a viable and important tool for tax debt relief.

What is an Offer in Compromise?

An offer in compromise is an agreement between you and the IRS that resolves your tax debt. The IRS has the authority to settle (i.e., "compromise") federal tax liabilities by accepting less than full payment under certain circumstances. A tax debt can be legally compromised for one of the following reasons:

• 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 that the amount owed could be collected, but an exceptional circumstance exists that allows the IRS to consider a taxpayer's OIC. To be eligible for a compromise on this basis, the taxpayer must demonstrate that collection of the tax would create an economic hardship or would be unfair and inequitable.

An offer in compromise is submitted on one of various versions of Form 656 and supported by financial data and documents via the appropriate version of Form 433. Based on the information on these forms, the IRS will calculate what it believes it can collect from your current assets and future income. This number is often referred to as the "reasonable collection potential (RCP)." Offers that are less than the RCP will typically be rejected.

As you can see, the OIC process is not "free-wheeling" negotiations, but rather is a "formula" based analysis. This does not mean that there is no room for skillful negotiations in appropriate circumstances. Further, there are many potential ways to make the "formula" work to your advantage. If you qualify for an OIC, you must remember that the rules, procedures, and application of the "formula" are complex. To reduce your tax debt to the lowest amount possible, you should consider hiring experienced professional help.

An Offer in Compromise is NOT for Everyone!

The Offer in Compromise program was established to grant tax debt relief to people who cannot pay their taxes. But, an Offer in Compromise is not always the best option. It is important to determine if the tax debt liability can be avoided at the audit, appeal, or tax court level. Additionally, there may be ways to avoid collection of taxes that are better than the offer in compromise, such as bankruptcy or waiting out the collection statute of limitations.

Late night television is full of people advertising services that promise to settle your tax debt for "pennies on the dollar." These services are generally not attorneys, and are basically Offers in Compromise mills. They fill out the forms, regardless of the clients' individual situation, and make an offer. These offers are often not accepted by the IRS. The IRS has even gone so far as to release a consumer alert advising taxpayers to beware of these "pennies on the dollar" claims, which states in part:

IR-2004-130, October 25, 2004

WASHINGTON - The Internal Revenue Service today issued a consumer alert advising taxpayers to beware of promoters' claims that tax debts can be settled for "pennies on the dollar " through the Offer in Compromise Program. Such promoters make money by inappropriately advising indebted taxpayers to file an application for an offer in compromise with the IRS, promising unrealistic results, even when the taxpayers do not meet the requirements of the program. This bad advice costs taxpayers money and time... "[The Offer in Compromise] program serves an important purpose. But we do warn taxpayers to watch out for unscrupulous promoters charging excessive fees to taxpayers who have no chance of meeting the program's requirements," said IRS Commissioner Mark W. Everson. "Taxpayers should not be duped by high-priced promises."... (emphasis added)

The OIC program statistics further show that the program is not a solution to all tax debt problems. The IRS approves only about fifteen percent (15%) of the offers in compromise submitted each year, and the IRS resolves less than one percent (1%) of all outstanding taxes due through the OIC program.

New OIC Rules

The Tax Increase Prevention and Reconciliation Act of 2005 (TIPRA), created major changes to the IRS OIC program as it relates to lump-sum offers, periodic payment offers, and a determination as to when an offer is accepted. These changes affect all offers received by the IRS on or after July 16, 2006.

TIPRA, section 509, amends Internal Revenue Code section 7122 by adding a new subsection (c) "Rules for Submission of Offers in Compromise" which establishes the following:

• A taxpayer filing a lump-sum offer must pay 20 percent of the offer amount with the application (IRC 7122(c)(1)(A)). A lump-sum offer means any offer of payments made in five or fewer installments.

• A taxpayer filing a periodic-payment offer must pay the first proposed installment payment with the application and pay additional installments while the IRS is evaluating the offer (IRC section 7122(c)(1)(B)). A periodic-payment offer means any offer of payments made in six or more installments.

A taxpayer who qualifies for a low-income exception waiver or is filing a doubt as to liability offer only is not required to pay the application fee, or the payments imposed by TIPRA, Section 509.

Therefore, as a result of TIPRA, everyone currently filing an offer in compromise must have met all of the following requirements:

• Is not a debtor in a bankruptcy case.

• Submitted the $150 application fee, or requested a fee waiver on Form 656-A, "Income Certification for Offer in Compromise Application Fee and Payment."

• Submitted 20 percent payment with the lump-sum offer, or qualify for a waiver on a signed Form 656-A, "Income Certification for Offer in Compromise Application Fee and Payment."

• Submitted the first installment payment on a periodic-payment offer, or qualify for a waiver on a signed Form 656-A, "Income Certification for Offer in Compromise Application Fee and Payment."

Lastly, the new rules provide that the IRS must deem an OIC "accepted" if it has not been withdrawn, returned, or rejected within 24 months after IRS receipt.

Conclusion

The Offer in Compromise Program is not a method for everyone to reduce their tax debts to "pennies on the dollar." However, it is a method for taxpayers that cannot pay their taxes to obtain tax relief. The program is complicated and only a small number of OIC filings are approved each year. However, the complex rules do offer opportunity for skillful tax debt reduction. If you think you may qualify for an offer in compromise, you should strongly consider hiring professional help to maximize the possibility that your offer is accepted and to minimize the total tax debt you must pay.