One of the best options to resolve a tax debt with the IRS is what is called IRS Offer in Compromise.  As tax attorneys, we have years of experience submitting  offers in compromise to the IRS and this article will provide insight as to common or frequent questions we receive.

What is the IRS Offer in Compromise Formula or What is the IRS Offer in Compromise Equation?

When reviewing an offer in compromise, the IRS applies a very black and white formula or equation to determine what they consider is a taxpayer’s ability to pay and thus what they will accept as an offer to settle the tax debt (if an offer would be accepted).  

The offer in compromise formula is relatively simple, it is:  

Equity in assets plus disposable income x 12 (or 24).  

The key issues with the formula are 

• equity in assets, and 
• disposable income.  

Equity in Assets as it Applies to the Offer in Compromise Formula

So what is equity in assets as it relates to an offer in compromise formula?  In short, the equity portion would be all equity in all assets, whether a bank account, retirement account, home, investment real estate, stocks, cars etc.  You can ask yourself, if I sold or liquidated all of my assets, what would my equity be?  

• Debt against Equities – The calculation of your equity for purposes of the offer does take into account any secured debt encumbering an asset.  For example, if your home had a fair market value of $600,000, but your total mortgage or loan amount encumbering the real estate was $500,000, on face value you would only have $100,000 for purposes of the offer in compromise with IRS.  

• Reduction in Fair Market Value – It is also important to note that for certain assets, the IRS allows a reduction in the fair market value of the asset when calculating the equity portion.  Using the example above, the IRS allows a 20% reduction in the fair market value of real estate when calculating the equity.  Thus, the fair market value would be $480,000 ($6000,000 x .80) and given the total debt encumbering the property ($500,000) is greater than the fair market value, no equity from the home in the above example would factor into the offer amount.  

• Other Reductions – In addition to allowing a reduction in the fair market value of certain assets, there are also exemption amounts for certain assets such as bank accounts and vehicles that you get a dollar for dollar exception on when calculating the equity for that specific asset.  For example, you can exempt the first $1,000 from a bank account or you get a $3,450 exemption for equity in a vehicle for up to 2 vehicles. 

Offer In Compromise Formula for Disposable Income

In terms of income and monthly disposable income, the IRS looks at your total monthly income less all monthly “allowable expenses” to calculate your disposable income.  It is important to note that only “allowable expenses” are allowed because for expense items such as your house payment, rent, utilities, food, clothing, car payments and car operating costs, the IRS sets a standard or “allowable amount” that you can claim as an expense based upon where you live and the number of dependents in your household when calculating your disposable income.  For example, the IRS may only allow you a monthly expense amount of $2,440 for housing and utilities when your actual out of pocket expenses may be $3,100 per month.  Therefore, there can be a variance in what you feel your monthly disposable income is and what the IRS determines your monthly disposable income to be.

Running the Numbers: Example of an Acceptable Offers In Compromise

Let’s run some numbers for an example.  Let’s assume Brad has a home with a fair market value of $450,000, a mortgage of $350,000, a retirement account worth $20,000 and bank account with $1,500.  Brad’s monthly gross income is $7,000 and Brad’s allowable expenses are: $730 for food and clothing, $2,000 for housing and utilities, $620 for a car payment, $260 for car operating expenses, $500 for health insurance and $1,500 for current year taxes.

Brad’s Equity in assets would look like the following:

• Home: Fair Market Value $360,000 ($450,000 x.8) – $350,000 = $10,000
• Retirement Account: $20,000 x .8 = $16,000
• Bank Account: $1,500 – $1,000 exemption = $500
• Total Equity in Assets: $26,500

Brad’s monthly disposable income would look like the following:

$7,000 – $730 – $2,000 – $620 – $260 – $500 – $1,500= $1,390

Based on equity in assets of $26,500 and monthly disposable income of $1,390, Brad’s offer would be $43,180, which is $26,500 + ($1,390 x 12).

There are many factors and issues that come into IRS offer in compromise formula and the above is a simple example to illustrate the general equation.  Further, many other factors come into play when the IRS is making a determination as to whether or not to accept an offer in compromise.

How Do I Settle My Taxes With The IRS? The Offer in Compromise Process

Now that we have explained the IRS offer in compromise formula, another common question is, how do I settle my taxes with the IRS?  To settle your taxes with the IRS, you need to submit the proper offer in compromise forms, statements and payment to the IRS.  The financial statements required will be dictated by the type of taxes owed and whether or not you own any businesses.  If you owe individual income tax debts, you will submit Form 433A OIC, which is an individual financial statement.  If you own any businesses, you will also need to submit Form 433B for each business that you own (unless the business is a single member LLC).  In addition to the proper financial statements, you need to provide the correct attachments for the financial statements depending upon the assets and items reported on the financial statements.  The offer in compromise form that is submitted with the financial statements is Form 656.  Form 656 states the taxpayer’s information, the tax years and type being offered for settlement, the offer amount and payment terms for the offer.  The applicable financial statements and Form 656 are submitted with payment to the proper IRS Offer in Compromise Unit (generally in Memphis, TN or Holtsville, NY).

Determination of the Offer

Once the financial statements, attachments, Form 656 and initial payment are submitted to the IRS, an IRS offer examiner will be assigned for review and determination of the offer.  It generally takes 5-6 months for the offer examiner to make contact with you.  The offer examiner may ask for additional information and may have questions.  Eventually the offer examiner will make a determination.  The determination could be to accept the offer as initially proposed, accept an offer but at an increased amount or reject the offer altogether because the IRS feels you can satisfy the tax debt and therefore they would not settle on the tax debt.  If the offer examiner rejects the offer but proposes an increased amount, you can amend Form 656 to the increased amount and the offer may be processed with a recommendation for acceptance by the offer examiner.  If the offer examiner has rejected your offer, you have 30 days to appeal the rejection.  The appeal of the offer rejection will go to an IRS Appeals Officer and you will likely be contacted by the appeals officer within 2-4 months from filing the appeal.  The appeals officer calls an appeals hearing or conference date whereby you can present additional information as to why you disagree with the offer examiner’s rejection and support your position.  After the case has been heard by the appeals officer, the appeals officer can either sustain the IRS offer examiner’s rejection or agree to accept or modify the offer you originally submitted.  

How Do I Negotiate With the IRS?

In addition to the above, many taxpayers will ask, how do I negotiate with the IRS?  While there can be some negotiation with the IRS regarding an offer you really need to have the right set of facts to negotiate.  For example, an individual who has $500,000 equity in assets and $2,000 per month of disposable income is highly unlikely to be able to negotiate an offer on a $100,000 tax debt.  If you have the equity in assets and/or income to satisfy the tax debt, the best negotiator in the world may struggle to negotiate with the IRS regarding an offer in compromise.  Thus, the platform and ability to negotiate with the IRS is or may be truly limited by the facts and circumstances of each case.

While an offer in compromise is a viable option to resolve a tax debt with the IRS, you may want to consider hiring a tax attorney to prepare the proper statements and forms, as well as represent you through the process with the IRS. Experience negotiating with the IRS and profound knowledge of the offer in compromise process will both expedite the resolution and provide the best possible outcome to you. Get in touch with us if you’d like to discuss settling your tax debt with the IRS.

You may have heard the ads on the radio, maybe seen them on TV, or companies
have even called you about receiving tax relief by settling your tax debts through the IRS Offer
in Compromise Program. Are these ads true?

Can you settle your tax debts with the IRS through an offer in compromise?

The answer is – maybe. The IRS Offer in Compromise Program may allow you to settle your tax debt, but your financial circumstances and other circumstances must make you eligible for the OIC Program. The information below provides a comprehensive look at settling your tax debts through the IRS Offer in Compromise Program.

What is an IRS Offer in Compromise?

In short, this is a tax settlement. You offer the IRS an amount of money to settle your tax debt. Upon payment of the settlement amount, your tax debts
are cleared, tax liens are released, and you owe no tax.

Who is Eligible to Participate in the Offer in Compromise Program?

Technically, anyone can submit an offer in compromise to the IRS. However, the taxpayer must comply for the IRS to process an offer in compromise. Compliance means that all tax returns required to have been filed are actually filed and that any tax payments due have been paid in full. If you are not compliant, the IRS will return your offer in compromise. Additionally, to have a good chance of the IRS accepting your offer in compromise, your recent and current financial circumstances must be in an overall position where the IRS would agree to a settlement.

How Much Will it Take for the IRS to Settle my Tax Debt?

Your IRS offer in compromise, or “settlement amount” is based more on your ability to pay than the total amount of tax you owe. To calculate your offer in compromise amount, the IRS will look at your income and expenses, and your equity in assets. Generally, the IRS will only accept an offer in compromise when, based on your income and expenses and equity in assets, you cannot satisfy your tax liability. There are exceptions and conditions whereby the IRS may accept an offer in compromise even if you have the ability to pay the tax debt in full. These exceptions are discussed in greater detail below.

IRS will initially calculate your offer amount using the following equation: Your disposable income multiplied by 12 or 24 plus your equity in assets. Let’s look at equity in assets first. All of your assets from homes and cars to retirement accounts and bank accounts (and other assets) are considered when the IRS looks at your ability to pay. When considering equity, the IRS will allow reductions of the fair market value of assets and debts on assets. For example, the IRS allows for a 20% reduction when calculating the equity in your home. Thus, if your home had a fair market value of $350,000 and you owed $250,000 on the mortgage for your home, you would have $30,000 in equity for purposes of the offer in compromise calculated as follows: $350,000 x .8 = $280,000 – $250,000 (mortgage) = $30,000 in equity. You also receive a reduction of 20% in the fair market value of retirement accounts, investment accounts, and other assets when calculating the equity for purposes of the offer. Your disposable income is calculated by totaling all income from all sources and subtracting your allowable expenses. Thus, you would include income such as wages, interest, dividends, business income distributions, and other sources in your total income.

Your allowable expenses (also referred to as the national standard for allowable living expenses) are set by the IRS and can be found on the IRS website. The allowable living expenses are dictated primarily by where you live and the number of individuals in your household. Allowable living expenses include food, clothing, housing, utilities, car payments, car operating expenses, and out-of-pocket healthcare expenses. You can claim your actual healthcare expenses if your allowable out-of-pocket healthcare expenses exceed the allowable standard. Once you have calculated your total income and all allowable expenses, the difference is your disposable income, and the figure is multiplied by either 12 or 24 and then added to your equity in assets for the offer in compromise amount. For example, if your disposable income was $600 per month and the only equity you had was in your house per the example above, your over amount would be $37,200, calculated as $600 x 12 + $30,000.

What Forms and Documents Do I need to Submit with my Offer in Compromise?

The IRS has specific forms you need to submit when proposing an offer in compromise. As an
individual, you would complete Form 433A OIC, which is the financial statement whereby you
provide your asset, income and other financial information. In addition to Form 433A OIC, you
would submit Form 656. Form 656 is the form whereby you state your personal information, the
tax years or liabilities you are proposing to settle and the offer in compromise terms (offer
amount and payment terms). The attachments and documents you need to submit with the offer
in compromise will be determined by the items and issues on your financial statement primarily
and perhaps whether or not you are claiming any extenuating circumstances on your offer. For
example, you need to provide your most recent bank statements for all bank accounts, current
statements for any retirement account or investment accounts, current mortgage statement for
any real estate you own, current statement for any vehicle payment showing the monthly
payment and total loan amount and documents such as pay stubs or profit and loss statements to
verify your income. Please note, if you own a business, you may have the requirement to submit
a business financial statement on Form 433B and attach related documents and substantiation for
the business.

Once I Submit My Offer in Compromise What is the Process?

Generally, you will receive a notice from the IRS that the offer has been received and that you will receive contact within 90 days. However, it usually takes about 6 months for an IRS offer examiner to make contact with you with anything material. When the offer examiner does contact you, they may make a request for additional documentation and have a list of questions or issues to discuss to with you. Eventually, the examiner will provide a determination with an equity in asset table and an income and expense table. The equity in assets table will list each asset, the fair market value applied to the asset, the reduction to fair market value (if any), any loan or encumbrance on the asset, and then the equity allocated to the asset. Then all of the equity amounts are totaled. The income and expense table will state the income you claimed and the income as allocated by the IRS, and then all of the expenses you claimed on the 433A OIC financial statement versus the expenses allowed by the IRS to thus calculate your disposable income. The equity in assets and the disposable income are then applied to provide your offer amount.

What Determinations Can The IRS Make on My Offer?

Based upon the figures in your equity in asset table and income & expense table, the IRS can accept the offer as you submitted, reject the offer amount you offered but agree to accept an increased offer amount or reject the offer because your equity in assets and disposable income show that you can full pay the liability. If the IRS does reject your offer, you have the right to request an appeal of the rejection and work with the IRS Appeals Office to see if an agreement on a settlement can be reached.

What Happens When I Appeal The Offer Rejection?

When the offer rejection is appealed, you are assigned an appeals officer to consider the items and issues you disagree with. The appeals officer assigned to your case will send you a notice calling for an initial conference. You are allowed to provide additional information and documentation to the IRS Appeals Officer and the appeals officer will consider all information and make a determination to accept an offer or sustain the IRS’ rejection of your offer. Many offers are accepted through the appeals process and thus one should not lose hope if their offer is initially rejected by the IRS offer examiner.

If the IRS Accepts My Offer in Compromise What Other Obligations Do I Have?

Beyond paying the agreed-upon offer amount, the IRS requires that you remain in compliance by timely filing all returns and paying all taxes for the five years after the offer. If you fail to remain in compliance, the IRS can default the offer and settled liabilities would be due and owed again.

If you have any questions about your offer in compromise, please get in touch with a tax attorney at The McGuire Law Firm or schedule a Free Consultation with one of our 24/7 live agents.