Offer in Compromise: How to Qualify

If you have an IRS tax problem you have one of three tax reliefs, first is an installment agreement, the second is currently not collectible status and the last and possibly the best is offer in compromise.

Like everything else in life, good does not come in cheap. Some estimate that only 13% of the offers are accepted by the IRS.  We will venture and put this anemic result under three reasons:

First reason is reluctance from the IRS itself. The IRS acts as though this money that pays for the program (or the money forgiven) is paid for by the flesh of its employees. We have seen offers killed by the IRS even though the amount was agreed upon just because the taxpayer did not file a 1099 some years past; some excuse for rejecting an offer in compromise!

Second reason should be attributed to those who prepare the offers and counsel the taxpayers. Some of the preparers such as CPAs, tax attorneys or enrolled agents do not take the time to think the offer through and do the proper calculations. 

One of the reasons tax practitioners submit offers that are constantly rejected is an erroneous commitment to their clients that they qualify for an offer in compromise when they should have been told that they do not qualify in the beginning.  Practitioners submit offers to summarily dispose of their obligation to the client knowing that the offer will be rejected or worse yet having no idea if that offer is good or not.

The third reason rests with the taxpayer themselves. When people have a tax debt to the IRS, or owe back taxes, the first impulse is to shrink and hide everything. This may sound intuitive but in fact this may cause them not to qualify and thus they are denied tax relief that was within their reach.

We know that to qualify for an offer in compromise we look at both your assets (what you own) less any loans on those assets.  If you have a house worth $100,000 and the loan is $101,000, you are upside down on the house and you own nothing and the IRS will treat you as such. So, if they look for assets you have got none.

The other things that the IRS looks at are income and expenses.   If your income is less than expenses (the expenses that the IRS allows you to claim) you have no ability to pay. Thus if you have no assets and you have no extra money from your income, you are a good candidate for an offer in compromise.

The emphasis that we would like to make here is on the expenses and how taxpayers approach it. Taxpayers, in general, believe that the poorer they look the better off they are in handling their tax settlement with the IRS. This is generally true most of the time but not all the time.

Let us give an example. Sometimes a taxpayer prefers to drive a beat up car to show the IRS how destitute they are when in fact they are better off if they had a new car! Strange as it may sound, it may be the only way that will allow an offer in compromise to be accepted. 

Let us assume that a taxpayer has an IRS debt of $15,000. Let us also assume that the taxpayer makes $3,000 a month and has no car payment but drives a 1985 beat up Dodge that breaks down every day. 

Let us also assume that when we added the expenses for the taxpayer the total came out to be $2,700. If we submit the offer in compromise like this the IRS will reject it and will say that he can pay $300 a month against his IRS debt of $15,000.  They have 10 years to collect $300 per month. So they know they can collect from him up to $30,000 in those 10 years.

Now let us assume that the taxpayer wanted to go in style and buys himself a brand new Toyota with a payment of $350 a month. That puts the taxpayer in front of the IRS with a negative cash flow of $50 and hence allows him to qualify for an offer in compromise which means he will pay some dollar amount that could be as little as say $100 (can be anything but zero) to settle his back taxes of $15,000.

In summary, sometimes you are better off if you live your life naturally even though you are getting ready to submit an offer in compromise. Machination may adversely hurt taxpayer in settling their IRS debt.

Tax Help: The Gift of Per Diem As a Tax Relief

Many taxpayers travel frequently because of their business or job.  Most people are burdened by keeping receipts, credit card bills and other travel expense substantiation. The tax relief offered by law is in the flat rate allowance for travel while you are out of town on business. 

The IRS will allow you a rate that covers both meals and lodging.  Those meals and lodging rates vary from one city to another in the USA. There is also a per diem rate for international travel that varies from country to another and from city to another in the foreign country.

When you decide to use the per diem rate you do not have to keep receipts for substantiation (keep your receipts anyway just in case but do not submit to the IRS.) Instead claim the flat rate and that is it period.

A tax problem pops up every once in awhile in an IRS tax audit.  If the travel time is extended the IRS may contend that the taxpayer should change his tax home and he should be considered as to have lived in the area where most of his travel is and thus disallows the per diem expense. 

The answer to that is the one year rule. This rule means that as long as your travel did not exceed one year, then you are considered to be travelling from your original home to the place of business. Thus you can claim your per diem rate.

How do you calculate per diem expense?  Simply, find the rate for the city where you traveled from the IRS per diem guide (See publication 1542) and then multiply the amount per day times the number of days you stayed in the city. For information that is more pertinent to your case, consult a CPA or a tax attorney.

Tax Help: Can The IRS Take My Home?

It is not a secret that the IRS can seize your property if you owe back taxes.  But people always ask a question with regards to their primary residence.  Can the IRS levy my house?  The short answer is, yes.  The question that must follow quickly is, but why?

Let us just speak of some details about seizures of your residence and then answer the “but why.”  To begin with, the IRS cannot take your house if your tax debt is less than $5,000.  Furthermore the IRS cannot summarily levy your house without a court order.  You know that the IRS has such a massive power (they ought not) that they can issue a bank levy or wage garnishment; especially a bank levy without a court order.  This is not the case with regards to your personal residence.  They have to take permission from the court.

Now we come to the question of why would the IRS seize your personal residence?  We should ask the question in a better way; why would anyone let his tax problem fester so long that the IRS seizes his or her property?  If you have good tax representation all along this should not have happened. If you have a good CPA or a tax attorney, you should have been responding to the different circumstances and your tax settlement should have reflected your situation no matter what that situation was.  This is true across the board except in criminal cases.

Let us now discuss what we are saying: we are saying that a tax problem should not have advanced so badly that it causes you to lose your house.  Tax relief should have come way earlier.  We would like to make a statement that we will defend as we progress in this blog.  The statement is (please try to remember this all the time) you cannot have a tax problem without a tax solution.  Every IRS problem has a solution.  Here are the examples:

Mr. Destitute owns a home fully paid for but no cash to pay for his back taxes of $200,000.   Do we have a solution?  The answer is yes.  The solution is possibly Currently-Not-Collectible.

Mr. Destitute number 2 owns a house.  His mortgage equals the fair market value of the house (no equity) and no cash flow to mention to pay his tax debt of $200,000.  There is a solution which may be either an Offer in Compromise or Currently Not Collectible.

Now Mr. or Mrs. Destitute are no longer Destitute and they are making good money every month and have a house paid for.  Again we have a solution for this lady or the gentleman as well.  It is an Installment Agreement.

So, as you see there is a solution for your tax problem if you have asset (house paid) for and no money such as Currently Not collectible.  There is another solution for your IRS problem if you have no equity and no monthly income which may be an Offer in Compromise or Currently Not collectible.  Finally if you have assets and you have money there is always the good old Installment Agreement.

The only exception that bars you from tax relief may be a criminal case where no Offer in compromise, no Currently Not collectible status or Installment Agreement is available to you. 

IRS Settlement | Common Reasons for Penalty Abatement

In trying to reach an IRS settlement, will they consider abatement of penalty? The answer is yes. Then the next question is:would they consider abatement of interest? The answer is generally no.  There will be instances of abatement of interest as in the case of an erroneous IRS advice that caused some interest during a specific period or unnecessary delay that caused you to pay extra interest that otherwise you would not have to pay. Make a long story short, penalty can be abated, interest let us just say no.

When you seek tax relief from penalties here are some common reasons you may cite to request an abatement of penalty:

1) You have called the IRS and they told you something wrong that caused you to pay penalty. It would be nice if you have a name and badge number of an IRS employee. Remembering the date will go a long way in solving the tax problem when it relates to conversations with the IRS, especially if you don’t have a name and badge number. What you are hoping for is that they may verify your call through their records.

2) Relying on your bookkeeper's advice. You can obtain IRS tax relief to your tax problem if you relied on the wrong advice of your CPA, tax attorney or an enrolled agent. If the facts support your claim, that may go a long way for the IRS settlement that you are seeking.

3) There is tax relief from penalty if an act of nature caused you not to be able to file or comply with the law. This may be easier to prove because those acts are well publicized.

4) If you could not, for some reason, obtain your books of original entries or any documents that gives you an opportunity to seek IRS tax help, there may be a tax relief to settle the IRS problem with regards to penalty abatement.

5) You may be able to get IRS tax relief by abatement of penalty if you realized you were aware of your tax liability but it was financially very difficult to pay such liability. The tax help in this regard would be in getting tax relief from delinquency tax penalties.

6) Your prior history of compliance will make IRS tax help much easier. The IRS is willing to offer you tax relief from penalty if your prior history shows that you have always been in compliance.

7) If you were sick or physically impaired, the IRS may be willing to offer you tax relief by abatement of penalty. Tax settlement will be much easier if in any of these cases you can support your claim.

Which Tax Resolution Will Be Your Best Tax Relief?

We discussed in the last blog of 3 possible tax settlement options available to settle IRS debt to prevent or remove wage garnishment, or bank levy. Tax lien will be a subject of its own in subsequent blogs. We mentioned three alternatives, installment agreement, offer in compromise and being declared currently-not collectible by the IRS.

We saw that installment agreement meant that we will pay all IRS taxes including interest and penalty but instead of a lump sum settlement, we will do it over certain period. We also said that we the tax relief that we will get for our back taxes will be shaped by our financial situation; assets and liabilities on one hand and income and expenses on the other. 

Your CPA or tax lawyer has to calculate both the amount of income in excess of your expenses and the net worth to decide the best tax help for your tax problem he or she should recommend. Generally, if you have assets to pay in full your total tax debt or if your monthly income is more than your monthly expenses in such a way that it is enough to pay your tax debt over the statute of limitation, you are not eligible for an offer in compromise but you may be eligible for an installment agreement and possibly the currently not collectible status. 

In the last blog we gave an example of how would an installment agreement be the only option to pay your back taxes and solve your tax problem. Now it is time to talk about offer in compromise as an IRS tax relief solution to your tax debt. Let us assume that your tax debt is $10,000 and you have no assets whatsoever. Let us assume that your monthly income is $1,000 and your monthly expenses are $1,100. In this case you have no assets and no residual income to payoff your tax debt. You are a perfect candidate for offer in compromise or currently not collectible.

The question then, should we try to declare you as currently not collectible or seek tax relief in an offer in compromise? We will discuss the difference between both alternatives as a way to resolve your IRS problems.

Offer in Compromise, Installment Agreement or Not Collectible?

If you have a tax problem or tax problems such as a bank levy, or wage garnishment and you are seeking tax relief for your tax debt, the tax help a CPA, an IRS Tax Attorney or an enrolled agent will offer you has to be one of three:

a. Installment Agreement

b. Offer In Compromise

c. Currently not Collectible

IRS Installment Agreement:

Basically, an installment agreement means that your tax debt settlement offered you no reprieve on the amount you owe.  You will pay the full amount of the IRS debt. The only tax debt relief you have is making periodic payments of the full tax debt amount. The tax resolution for this tax debt will not stop the accrual of interest and penalty.

The question is, why would a rational human being choose an Installment Agreement over, say an Offer in Compromise or Currently-Not-Collectible status? The short answer is: typically your financial situation dictates the agreement that will ultimately shape the tax resolution of your case.

Generally speaking, if you have a lot of net assets and your income is much more than your expenses, your chance of reducing IRS debt is lower. Net assets are defined as your assets minus your liabilities.  If you own a house that is worth $120,000 and your loan is $80,000, your net asset in this case is $40,000. Any IRS tax resolution must account for this fact. For example, if your tax debt is $10,000, the IRS will insist that you pay the full tax debt because they can collect that much from you. The only tax relief in this case is to schedule the payments over several years and you must understand that in your search for professional tax help.

The other factor when you seek tax debt settlement is the income and expenses as we said above. Let us say that you have no home and you own nothing in this life and your tax debt is $10,000 as in the case above. Let us assume further that your monthly income is $5,000 and your expenses according to IRS national and local standards are $4,500. If this is the case, the IRS will not reduce your tax debt and the only tax resolution for your tax problem is an Installment Agreement. 

If you have a wage garnishment or bank levy, the IRS will not embark on levy release or removals of your wage garnishment unless you strike some sort of a tax debt settlement be it an Installment Agreement, Offer In Compromise or be declared as Currently Not Collectible. As a side note you must bear in mind that your CPA or your tax attorney must prepare all your unfiled taxes.

Discussion of the rest of tax resolution options will be continued on the next blog.

Back Taxes: The Case Against Not Filing

The simplest argument for filing taxes in time is that it is the law. You must comply with the law. If you are not a tax protestor, and we hope that you are not (tax protestors usually end up on the wrong side of the bed) then you have no qualms with the legality of filing.

There are many benefits of filing in time besides being in compliance with the law. The most obvious benefit is getting your refund. If you are entitled to a refund and you don’t file, you may lose your refund because you are barred by the statute of limitations when you eventually file. We have seen people losing $7,000 or more of money in some cases that were coming to them and when they filed late they got nothing. Never mind that the IRS will ask you to pay the tax debt even if you don’t file. You guessed it. They file for you and now you owe back taxes (more on that later.)

One of the benefits of filing is that you may be able to wait out the IRS on you tax debt. The law states that the collection statute of limitation is 10 years.  If for example you owe taxes and disappeared from the radar of the IRS for ten years, the IRS may have lost the amount of tax you owed forever. In this case you have got yourself a nice tax settlement.

One of the disadvantage of not filing your taxes is that the IRS will file on your behalf. IRS calls that SFR or substitute for return.  Needless to say, in preparing your unfiled taxes, the IRS will not look after your best interests. The IRS will assume the worst against you. They will do a return for you as married filing separate even if you are single because filing separately causes you a tax liability higher than the latter.  In an SFR, you will not get any deductions for your expenses. 

For example, if you sell a house, the tile company will give you a 1099 for the proceeds and sends the IRS a copy of this 1099. The IRS records the total sale price as your income even if you were upside down on the house and they will not record the cost of the house. That is why we have many clients who come to us for $70,000 or even $100,000 of tax liability because of the sale of their residence when in fact they lost money. Unless you file, the tax liability remains on the book. The IRS had one of our clients owing over $250,000 in 2003 because of this exact issue. Guess how much he would have owed? Zero.

Because the amount of taxes owed is usually high you may even have a revenue officer appointed. When you have a revenue officer, that spells bad news. And to make things worse, we do charge more for revenue officers. So, that is another reason that you should file your taxes earlier.

Audits is another reason.  If you don’t file, the IRS can select any return regardless how old it is for an audit. On the other hand if file in time and you happen to have a year in the past that you made a lot of income and you think if you get audited on that year you will pay a lot of money, this year cannot be audited after three years. So, here you may have gotten away with murder.

We have seen other benefits to filing your taxes in time that particularly come in handy when you have a bank levy or wage garnishment or even when you want to do an installment agreement or an offer in compromise.  If you have unfiled returns, there will been no tax settlement for your tax debt unless you are in compliance. Tax compliance in this instance means filing all your back taxes. If have not filed, that may delay the process of IRS negotiation when you need it most.

Finally the IRS may even look sympethatic on your case if you have been filing on time.

IRS Tax Liens and Tax Levies....Challenges or Business as Usual?

Taxpayer Advocate continues to report IRS problems and IRS collection practices.  National Taxpayer Advocate Nina E. Olson released a few days ago (we appreciate her work on behalf of taxpayers who have IRS tax problems) a report to congress.  It addresses three main concerns:

1. Taxpayer Services: To show how the service is degrading the IRS after answering 87% of taxpayer's calls to IRS in 2004 now it is down to 57%. The IRS is taking on more of the social program such as Economic Stimulus payments, First Time Homebuyer Credit, Making Work Pay Credit and now the anticipated Health Care program. The IRS plans to increase funding for Collections activites by about 17% from 2004 while dereased spending on taxpayer service by 7%. Does that explain why almost half the calls to the IRS are not answered?

2. Reporting 1099 Requirement: This is a huge, huge problem and we would speculate that it may be practically unenforceable.  This 1099 provision applies to businesses, non profit organizations and even government entites. Basically they are trying to tell us if you do business with anyone and you pay them over $600 a year, then you must report them to the IRS. This requires that as a small business owner, you must keep track of everyone you do business with during the year, tally up how much you pay them, and then report them by giving them 1099 at the end of the year. 

Taxpayer’s Advocate estimates that about 40 million busineses are affected by this. Assuming that every business deals with 25 people a year, the IRS must receive 1 billion extra pieces of paper to deal with in addition to the burden they have. Common sense says that you should answer first the calls that you get before adding 1 billion 1099's to add to your fights. In addition, imagine the burden placed on each small business owner. If they don’t comply, they incur another penalty, another IRS notice, another collection action and another Revenue Officer that knocks on your door because now you owe tax debt to the IRS just because you did not participate in the massive paper Leviathan.

The third emphasized by Taxpayer advocate is the IRS Collection Practice which we will address in the next blog....

Practical Family Tax Planning; Get to Know the Gift Tax Rule.

 Yes, the Federal government has bailed out Wall Street, Detroit, and spent stimulus money at an unprecedented pace in an attempt to avoid a deeper recession. States across the country have massive budget shortfalls. Our government at all levels (Federal, state, and local) will be reducing benefits and increasing taxes to help pay for it all. An article published last month on CNN Money discusses this development at the state level:  http://money.cnn.com/2009/12/04/news/economy/state_tax_increases/index.htm

In this environment, it is imperative that you have a good handle on tax issues and know how your decisions affect your taxes. The name of the game is reducing your tax debt to protect your money from these higher tax rates we all know are coming. Here I'll tell you about a little-discussed tax topic to ensure you keep your money with your family and not hand it over to the IRS: financial gift giving.

Did you know that you can give anyone up to $12,000 a year completely tax-free? It's true. The IRS allows gifts of up to $12,000 without any taxes due. And if you're married, between you and your spouse you can give $24,000 to any individual before taxes. 

This is called the annual gift tax exclusion, and it is very useful in many practical ways. First, it can be an effective way to pass your wealth to the next generation without having estate tax problems, which are currently being discussed for increases in Congress. For example, if you're married and have 3 children, you and your spouse can each give each of you children $12,000 a year tax free. That means you can effectively give $72,000 each year ($24,000 combined to each child) to your children without worrying about paying Uncle Sam. Talk to a tax representative to set this up, as it may involve establishing a trust depending on how you want things arranged. As you see, it pays to know the rules and plan ahead.

There are also several types of gifts that are not subject to this tax: gifts for qualified education expenses, qualified medical expenses, gifts to charities, gifts to your spouse, or gifts to political organizations. So paying your child's tuition or a loved one's medical expenses does not count as a gift that could be taxed. Another good point to know is that if you give a present to someone, like a car, you must report the free market value of the gift at the time of the transfer on Form 709. I often talk to people who assume they can subtract the amount they spent on the car as their cost for the gift, but this is not true. 

You have to fill out Form 709, the Individual Gift Tax Return, if your gift to any one person or group is greater than $12,000 (including a future interest), you and your spouse are splitting gifts, or if you gave your spouse interest in property (like your house) that will be ended by some future event (like death). 

Just knowing about this exception is powerful tax knowledge as you plan your tax savings and try to hold onto your wealth in these trying times. You now know something most people don't when it comes to taxes. There are a few details about gift giving you should know about before you give someone a large gift, and I don't want to get into them here for the sake of all readers. However, I do recommend you discuss your specific situation with your tax representative before you start making big moves to make sure you're doing things correctly.

Offer in Compromise - 80% Rejected by IRS

Let us start by defining what an offer is. An offer is one of three solutions, no fourth (unless you pay the full amount of debt in cash.) If you have a tax problem with the IRS, you will end up doing either an installment agreement, seek to be declared uncollectible or non-collectible classification as sometimes they refer to it, or make an offer in compromise.

Offer in compromise is then one of IRS debt settlement solutions whereby we offer IRS an amount less than what you owe. The question is how much and how do we determine that? In general, you must think as follows: The IRS will not accept any amount less than they can grab from you. IRS is not in the business of charity. I have seen IRS seizure of cars of people who are on social security and have kidney failure!!  Ruthless? In this instant, yes. Is there a way to avoid this? Of course, and that is another animal unto its own.

So, we offer the IRS what they think they can take. If we have $500 that they see in our bank we must offer them that plus any thing else that they see we have equity in. To calculate the equity, we will only offer them 80% of the fair market value of the assets that we are reporting minus liability on it.

Here's an example:

John is unemployed with no income and owes the IRS $150,000. He has $750 in the bank. He owns his house with a fair market value of $100,000. The loan on the house is $75,000. His equity on the house according to this calculation is $25,000 (value of $100,000 minus $25,000 loan.) So, at first glance one may think that we should offer IRS $25,000 for the equity in the house and 700 for what we have in the bank for a total of $25,700. Correct? If you have done that, I have a water front property in Arizona, as they say to sell you. If we were to do that offer we will make an offer on the $150,000 IRS problem for only $5,700.

How did we figure the $5,700? Remember that I said that we will offer IRS only 80% of the fair market value of the house. Since the fair market value of that house was 100,000.  80% of this amount is $80,000.  Since we don't own the house outright and that the bank owns $75,000 in that house (the mortgage amount), what is left really is 5,000 after the bank gets his cut and title company when well the house. Add $700 which is in the bank to the offer of $5,000, that brings the offer to settle amount owed to IRS for back taxes to $5,700.

Notice in the example above that I said that John is unemployed. I did that not make an assumption that the IRS feels sorry for unemployed folks and thus accepts lower offer in compromise just for that, but the purpose was to say that he has no income that the IRS takes a stab at, either voluntarily or via income and wage garnishment. 

So, now we are ready to give John some monthly income to make the picture more realistic. Let us say that John makes $5,000 per month and his expenses are $4,900 a month.  That means he has $100 to spare every month. Does the IRS look for an amount as little as $100 per month. You bet. You will be surprised to know that the $100 a month could be worth $12,000 of debt owed to IRS, more of explanation to come later. Let us assume that the collection statute of limitation is still available in full to the IRS (10 years in which the IRS can chase the takes payer.)

In this case the IRS looks at the $100 as I stated above to be worth $12,000. How is that? $100 of monthly surplus means $1,200 a year. Since the IRS can take this amount via wage garnishment or by a negotiated settlement for 10 years then you are looking at $12,000. In this instance, John who has owes IRS 150,000 for back taxes and has a house worth $100,000 and $700 in the bank, we can offer the IRS the following:

Amount from house equity as we explained                                            $5,000

Amount from $100 monthly surplus that we must offer                             12,000

Amount we currently have in the bank                                                      700

The total for the offer then must be                                                    $17,700

To summarize, our offer now is composed of amount of income over expenses and the net assets.

More to come on following blogs