The IRS Offer in Compromise program is popular with both tax resolution professionals and taxpayers dealing with back tax problems. The program allows qualifying taxpayers to settle their back taxes for less than the amount they owe. However, before submitting your Offer, you should be sure:
- It’s the best way to resolve your tax problems.
- Your offer is calculated correctly.
- You meet all of the requirements for an Offer in Compromise.
At East Coast Tax Consulting Group, we see multiple Offer in Compromise mistakes that impact taxpayers’ ability to resolve their back taxes. Take a look at these common mistakes so you can avoid them when submitting your Offer to the IRS.
Mistake 1: Failing to Check the Statute of Limitations
Tax law says the IRS has ten years from the day it assesses a tax liability to collect back taxes. While it seems straightforward, a taxpayer might unknowingly pause the statute of limitations. Generally, this happens when the IRS is prevented from taking enforced collection action by a tax resolution strategy such as:
- Filing a (previous) Offer in Compromise
- Filing for bankruptcy
- Requesting a Collection Due Process Hearing
- Requesting an installment agreement
If you’re considering submitting an Offer in Compromise, you (or your representative) should obtain your current IRS account transcripts. These documents will show what actions have occurred and how much time remains on the collection statute. If the ten-year statute is about to expire, the best course of action may not be an Offer in Compromise at all. Rather, you may want to argue for Currently Not Collectible status, which does not stop the statute from running. If your tax debt is deemed uncollectible, you will not be required to make payments on your back tax debt.
Mistake 2: Miscalculating Future Income
Many taxpayers, and even some professionals, calculate their Offer to the IRS based on the taxpayer’s income and actual living expenses. Using this method, future income is next to nothing and thus the taxpayer offers to repay very little of their back taxes—just like some commercials suggest.
Unfortunately, the Offer process doesn’t work this way. The IRS calculates a taxpayer’s future income by reducing the taxpayer’s gross monthly income for “allowable expenses,” which are often less than the amount actually paid by the taxpayer. IRS allowable expense standards are based on Department of Labor statistics and typically represent county or state averages. These local standards include expenses for housing, utilities, and transportation. National standards are provided for food, clothing, and out-of-pocket health care expenses.
It is not uncommon for a taxpayer to show no available cash flow when actual expenses are used but have positive cash flow when using IRS standards. This can drastically change an Offer calculation and mean the difference between an Offer in Compromise being accepted or rejected.
Mistake 3: Not Considering What Allowable Expenses the Taxpayer is NOT Spending
Many times taxpayers focus solely on their current living expenses to calculate their future income when determining their offer amount.
Tax professionals that have an understanding of the allowable expense standards can help taxpayers by also considering what allowable expenses they are NOT spending that will not only reduce their offer amount but can improve their daily lives. These “allowable” expenses that taxpayers often do not have include various forms of insurance, such as health, life, and disability insurance. Yet these expenses are not only allowed but are necessary to protect the taxpayer and their family’s health and financial security.
Keep in mind the IRS will only allow expenses that taxpayers have a history of paying, meaning for at least three months as documented by bank statements or canceled checks.
Mistake 4: Not Appealing a Rejected Offer
While tax law authorizes the IRS to consider a compromise of a taxpayer’s back taxes, the decision to accept or reject a taxpayer’s Offer rests with the IRS.
Recent IRS Offer in Compromise statistics show that only about 33% of filed Offers are accepted. That means that two-thirds of Offers are either returned or rejected. Taxpayers have the right to appeal a rejected Offer in Compromise within 30 days of rejection. Most often, the IRS rejects an Offer because it believes it can collect more of the back taxes than initially offered. This occurs when the IRS calculates your reasonable collection potential (RCP) to be greater than the amount shown in your offer.
Mistake 5: Ignoring Your Current Taxes
In order to reach a deal with the IRS, you must be in “tax compliance.” This means that you have filed all required tax returns and are making your current tax payments. For wage earners, this requires you to have the proper taxes withheld from your paycheck. Or, if you’re self-employed, you have made the current year’s estimated tax payments.
Taxpayers who are not in compliance are not eligible for an Offer in Compromise. However, the IRS will give you an opportunity to get into compliance. If you do not, your Offer will be returned or rejected; the filing fee and any Offer payments you made will be kept by the IRS.
If your Offer is accepted, you’re required to maintain compliance for the next five years! You don’t want to spend time and money resolving your tax debt only to have the whole deal voided if you fall out of compliance. The IRS would then seek to collect the full amount they wrote off.