Offer in Compromise.....Are You A Candidate?

You know those ads that say, “...settle with the IRS a few cents on the dollar...” ?

Whether you qualify or not, what's the deal? Let's start by looking on the menu of IRS negotiation options available if you owe back taxes to the IRS. You may have to negotiate an Installment Agreement with IRS to pay your tax debt. This means you acknowledge that you will pay the full amount but on monthly installments. What's the benefit of that?

Basically you are asking the IRS to give you time. Penalties and interest continue to accrue but they will not take collection actions against you as long you pay.

Better yet, you may be able to make an offer to the IRS. I am sure you have heard tax resolution companies advertise “settle for a few cents on the dollar.” On further investigation, you may discover you are not one of the lucky ones that take advantage of this tax settlement, which the IRS calls Offer In Compromise.  So, again, what's the deal?  Is there a method to the madness? Yes, there is. Let's start by saying that tax resolution companies should have said “ Few cents on the dollar if you qualify.”  The key addition that should be inserted to this commercial is “if you qualify.” Offer in compromise is a conditioned gift. It is a gift for those whose financial positions afford them the opportunity to benefit.

There are two broad strokes we need to be aware of when we are dealing with the IRS to settle our tax debt through an offer in compromise. The first stroke is income and expenses, the second is assets and liabilities. These two hurdles are the ones taxpayers must overcome in order to negotiate a successful offer in compromise tax resolution. Basically, the IRS sees the difference between income and expenses and that will define what you have left to pay the IRS from your cash flow. 

In calculating expenses, the IRS goes by what they call expense standards. They use what they call local standards and National Standards.  The standards are the maximum expenses that they will allow.  To explain the importance of those standards from the IRS point of view, let us assume that two taxpayers who are unrelated, Kathy and John, both owe $10,000 of back taxes to the IRS.  John is a Dr and makes $15,000 a month. His  mortgage is $13,000 and his Mercedes payment is $1,500.  So after the house and the car payment he has 500 to pay IRS assuming he does not have any other expenses and he is entitled to no other benefits (realistically, there are other expenses that can be deducted but for the purpose of this exercise we assume no additional expenses.  In this case John can make an installment agreement for 500/mo.

Kathy makes $2000 per month.  Her Rent is 1,000 and car and other expenses $500 a month.  According to the IRS and absent the expense standards, she should pay 500/mo as an for an Installment Agreement to settle her back taxes. 

So we have John making $15,000 a month and paying the IRS $500/mo to settle his IRS debt and Kathy paying $500 a month and is making only 2,000 a month.  Obviously you see the disparity or the injustice if you will.  That is why the IRS has those expense standards.  Under those standards the doctor and Kathy will be allowed the same housing expense.  So if the doctor pays $13,000 per month for mortgage, the IRS will only allow him say $1,500 for mortgage and the same for Kathy.  The rest goes to IRS to pay the tax debt. 

We go back to Offer in Compromise.  As we said there are two factors for a successful OIC.  The first factor cash flow: cash flow boils down to the fact that the difference between income and expense is small enough to allow you to pay less than amount owed.  The second track is added to the first and modifies it as follows: What is left of monthly income and expenses every month plus what you have of assets is less than amount owed.  That is the crux of the audit.  Remember that the statute of limitation has a bearing on the calculation.  When we talk about assets we are talking about net assets.  Net assets means the difference between what you own and what you owe.