When tax debt adds up to more than you can afford, you may consider an IRS offer in compromise (OIC) to settle the issue. This can be a powerful and effective way to resolve tax obligations and stop IRS debt collection efforts, but it isn’t necessarily right for everyone.
An IRS offer in compromise is a way to settle your tax debt for less than the full amount you owe. The IRS considers offers in compromise for cases that fit in one of three categories:
Once approved, as long as you make the promised payments, an OIC puts an end to IRS collections efforts like tax levies on your bank accounts, garnishments on your wages, and liens on your property. It also stops the stream of letters and growing interest and fees.
Getting an offer in compromise approved depends on your financial situation, the amount you offer, and which payment option you choose. You will need to work with your attorney to document all your income, assets, debts, reasonable expenses, and ability to pay. Then, you will need to choose the payment method that works best for you, based on your access to funds now, and in the future.
Taxpayers can offer to resolve their outstanding tax debt in a lump sum. This title is slightly misleading since a “lump sum” OIC can be paid in up to five installments over the next 24 months. However, to get a lump sum OIC approved, you must submit at least 20% of the total amount you promise to pay up front, including it with your application along with the application fee ($205 as of 2020).
Whether the IRS accepts your offer or not, the 20% payment is nonrefundable. If your OIC is later denied, the payment will apply to the balance of your tax debt.
If you don’t have access to significant up-front capital, you can make an offer in compromise for periodic payments. This offer in compromise option breaks up the amount you will pay into six or more monthly payments over the course of 24 months. However, you must still submit the first monthly payment and the application fee along with your offer in compromise paperwork.
To negotiate an offer in compromise with the IRS, you need to be prepared to pay anything you can afford in order to settle your debt. Unfortunately, the IRS may have a very different opinion about “what you can afford” than you do. The IRS will expect you to cash out investments, refinance your home’s equity, and use up savings to satisfy your debts. Work with your attorney to calculate your “net realizable equity” (NRE) -- the amount you could obtain through financing -- and your future monthly disposable income (MDI). Together these amounts determine how much you should offer in compromise to the IRS.
It is worth noting that an offer in compromise and bankruptcy are different methods for relieving debt. If you have an open bankruptcy -- if your Chapter 7 bankruptcy has not yet been discharged, or you are still making payments on a Chapter 13 repayment plan -- you are not eligible for an IRS offer in compromise.
Bankruptcy requires taxpayers to make the same kind of sacrifices to resolve their outstanding debts. However, some older tax debt can be discharged along with your consumer debts in a bankruptcy. If you owe substantial money to more than just the IRS, it may be worth considering bankruptcy to resolve all your financial obligations at once.
One key consideration will be how old your tax debt is. Newer tax debt is not dischargeable. In addition, the IRS has 10 years to collect on its assessments. Entering an offer in compromise pauses that 10 years for the duration of the payment plan. You may also be asked to agree to extend the collection period while negotiating an offer in compromise with the IRS. The earlier you address your tax debt, the less likely that debt will be dischargeable in bankruptcy, and the more money you will likely need to pay to resolve the matter through an IRS offer in compromise.
An OIC is one option for taxpayers who owe substantial tax debt, but it is not your only choice. Depending on your financial situation, you may qualify for:
By weighing these options alongside or in addition to your offer in compromise, your tax attorney can help align your obligations to the IRS with your lifestyle needs and future plans. For example, a PPIA does not require you to dip into the equity on your assets the way an OIC does. Using a PPIA may mean that equity will still be available to you if you need it to make improvements on your home or send a child to school.
I’m Attorney Patrick T. Williams, and I have been helping Houston-area taxpayers resolve their IRS tax issues for more than 20 years. As an attorney, CPA, and former IRS agent, I know how to negotiate an offer in compromise with the IRS, and when not to. Please call me or fill out an online consultation form. I’ll help you consider your options to resolve your outstanding tax debt in a way you can afford.