There are many ways to resolve tax debt depending on your situation. The best way to settle with the IRS may even change with your circumstances. For example, this offer in compromise success story did not begin with an offer in compromise at all! What began as an installment agreement became an offer in compromise much later—thanks to the threat of bankruptcy.
Getting an Offer in Compromise Approved
The taxpayer in this success story first realized she needed tax resolution help at 62 years old. When she filed tax returns for the first time in five years, she owed $300,000 to the IRS in back taxes. At the time, she was earning a six-figure income and could afford to pay her tax debt over six years using an installment agreement.
Because this taxpayer could afford to pay her balance in full before the 10-year collections statute of limitations expired, she did not qualify for an offer in compromise (OIC) at the time. The OIC program allows taxpayers to settle with the IRS for less than they owe. The amount a taxpayer offers to the IRS is determined by the equity in their assets, excess monthly income (after allowable expenses), and the time period over which payments are to be made.
Installment agreements break debt into manageable monthly payments, rather than a lump-sum payment that many taxpayers simply cannot afford. With $300,000 in tax debt, this particular taxpayer had to submit her financial statements in order to have her installment agreement approved. Since she was able to pay her tax debt within six years, the IRS allowed her to use her actual living expenses to determine the monthly payment, rather than their Collection Financial Standards which are typically lower.
Our taxpayer continued to make payments toward her tax debt for several years. When COVID-19 impacted her job, her income dropped by 30% and, based on her living expenses, she could no longer afford the monthly payment outlined in her installment agreement.
If the taxpayer had attempted to revise her payment plan, she would have needed to provide updated financial statements which would show she was capable of paying her tax debt within the remaining collection period based on the IRS expense standards. However, since her actual expenses were higher, she would have needed to adjust her lifestyle. Instead, she used the threat of bankruptcy to negotiate an offer in compromise.
The Threat of Bankruptcy
In order to have back taxes discharged in Chapter 7 bankruptcy, a delinquent taxpayer must meet a series of requirements:
- The debt is from income taxes, not payroll taxes.
- They have not committed any tax evasion or fraud.
- The tax debt is at least three years old.
- The tax return was filed at least two years ago (in most jurisdictions).
- The IRS assessed the tax debt at least 240 days before bankruptcy declaration.
After analyzing her tax debt year by year, we determined she now met the requirements for her tax debt to be discharged in bankruptcy for all but one year.
The Internal Revenue Manual (IRM) states in Part 5 that “consideration should be given to a potential bankruptcy filing” during an OIC investigation. This is because the IRS must decide how much it is likely to recover with an OIC versus bankruptcy based on the specific circumstances. When a taxpayer is considering bankruptcy, their reasonable collection potential (the amount the IRS thinks it can recover, often abbreviated RCP) may fall because some tax debt can be discharged through bankruptcy. The IRS recognizes this fact and adds “acceptance of an offer for less than reasonable collection potential may be appropriate based on the facts of the case.”
An Offer in Compromise Success Story
Under normal circumstances, the IRS would have expected our taxpayer to pay her debt in full because her RCP was enough to cover her remaining balance. Using an OIC, she offered $40,000 to be paid over 24 months, which was $5,000 more than would be paid to the IRS in bankruptcy.
In many situations, the IRS does not believe the taxpayer will file bankruptcy and won’t accept such a low offer. However, we argued that this taxpayer’s age, declining income, and need to save for impending retirement gave her no other option but to file for bankruptcy, which would result in having all but $35,000 of her tax debt discharged.
The IRS accepted this offer for $40,000 and our taxpayer is almost done paying off her IRS debt!