In their June 2016 Annual Report to Congress, the National Taxpayer Advocate identified and assessed significant issues that affect taxpayers across the country and offered recommendations to the IRS and Congress for resolving said issues over the next fiscal year.  Among these issues, the National Taxpayer Advocate identified the IRS’ use and application of Allowable Living Expense standards (ALE) as an area requiring significant reform and reconsideration.

Background

ALE standards were established by the IRS Restructuring and Reform Act of 1998, which compelled the IRS to set guidelines for determining the adequacy of a taxpayer’s offer in compromise (OIC) – specifically, the IRS was required to establish standards to ensure that taxpayers entering into a compromise are able to adequately provide for their basic living expenses.

These standards – the ALE standards – were not meant to be applied absolutely and equally across all taxpayers, however.  The IRS is required to assess the taxpayer’s OIC in the context of their unique and particular circumstances.  If, given the taxpayer’s circumstances, application of the ALE standards would not provide for their basic living expenses, the IRS is required by law not to apply the ALE standards in that case.

ALE Standards as of 2016

Under the ALE standards and Internal Revenue Manual section 5.15.1.7, an expense must be deemed “necessary” to qualify as a basic living expense – or stated another way, the expense must be “necessary to provide for a taxpayer’s and his or her family’s health and welfare and /or production of income.”

National ALE standards govern expenses related to food, clothing, healthcare, and other items, and fortunately for taxpayers, a complicated analysis of actual food, clothing, and healthcare expenses is not required.  A taxpayer is allowed to use the default national ALE standard amount given their family size.

When it comes to housing, utility and transportation expenses, however, the ALE standards are much more discerning as to the taxpayer’s actual costs.  Local ALE standards apply – and further, the default local ALE standard amount must be compared to the taxpayer’s actual costs.  The lower of the two will be selected.

Worth noting, however, is that despite these stricter local ALE standards, the IRS may increase the standard amounts if the taxpayer’s circumstances would make application of the local ALE standards an economic hardship.

Concerns Over Application of the ALE Standards

The National Taxpayer Advocate Service has noted several continuing issues with regard to the IRS application of current ALE standards, which they see as unduly burdensome on certain taxpayers.

ALE standards are not specific enough

Present-day ALE standards are based on data covering average or median expenditures and representing large, nonspecific populations across the United States.  Attempting to relate this average-based data to individual circumstances can lead to unfair results.  Expenditures can be influenced by a variety of factors, including income, family size and age, location, and personal preferences.  Unfortunately, the application of average standards to individual circumstances continues.

Expenditure-based standards are not ideal

The Taxpayer Advocate Service also finds it problematic that the ALE standards are based on expenditures.  Their concern is that expenditures vary considerably between families and do not necessarily reflect reasonably adequate living standards.

For example, consider a family living in substandard housing conditions in the northeast.   They are quite poor and cannot afford to spend money on heating oil to heat their home throughout the winter.  Under the current system, however, this family will be assessed based on their current expenditures – but their monthly expenditures will likely be lower than a family that has the money to spend on heating oil during the entire winter.

The issue here is that the IRS will be capping expenses for the family at a substandard level, instead of considering the expenditures that would be required for the family to acquire adequate housing and heat.

Necessary expenses should be expanded

As of now, the IRS has a fairly limited understanding of what constitutes necessary expenses.  Technology spending is becoming more and more integrated into everyday life, and without access to the internet, families may be prevented from accessing important information and communities that help them compete and engage with our larger society.  Despite this, technology such as personal computers and internet access are not considered necessary expenses.

The IRS continues to struggle with significant challenges when it comes to fairly implementing the ALE standards.  If you believe that you may be affected by the application of these standards, you should seek Boca Raton tax relief services.  Contact the East Coast Tax Consulting Group as soon as possible to discuss your concerns.