What is an Offer-in-compromise (“OIC”)?
An offer-in-compromise is an out of court agreement between a taxpayer and the taxing authority that resolves the taxpayer’s tax liability. Taxing authorities have the ability to settle, or compromise, tax liabilities by accepting less than full payment under certain circumstances.
Under what circumstances can an OIC be made?
The Internal Revenue Service recognizes three (3) circumstances by which an taxpayer’s liability can be compromised:
- Doubt as to Liability – Doubt exists that the assessed tax is correct.
- Doubt as to Collectibility – Doubt exists that you could ever pay the full amount of tax owed.
- Effective Tax Administration – There is no doubt the tax is correct and no doubt the amount owed could be collected, but an exceptional circumstance exists that allows them to consider the taxpayer’s offer.
Doubt as to Collectibility
The most common reason for an OIC is doubt as to collectibility. The inquiry in this type of OIC is substantially similar to the inquiries made in a bankruptcy; i.e. Income is lower than acceptable expenses, Insufficient assets to satisfy the debt if liquidated, etc. Many taxpayers file an OIC after receiving a discharge in bankruptcy in order to settle non-dischargeable tax debt.
How much do you have to Offer when filing an OIC for doubt as to collectibility?
An amount must be offered greater than or equal to the taxpayer’s reasonable collection potential (RCP). The RCP equals the net equity of the taxpayer’s assets plus the amount the authority could collect from the taxpayer’s future income.
Important steps to take in anticipation of making an OIC
A taxpayer is not eligible for consideration of an OIC on the basis of doubt as to collectibility or effect tax administration if:
- They have not filed all tax returns; or
- The taxpayer is involved in an open bankruptcy proceeding.
Why is it more advantageous to have an attorney represent the taxpayer in their offer as opposed to handling it on their own?
Attorney representation is important in an OIC because of the intricacies of the paperwork required and to make sure that correspondence is timely satisfied when deadlines and limitations have been set by the taxing authority. In addition, dealing with the taxing authorities is rarely pleasurable and having a professional representation in these matters eases much of the stress that these situations can create. A good attorney should also be able to contemplate how an offer will affect the future dischargeability of certain tax debts in contemplation of a possible future bankruptcy. (the statutes of limitations governing tax debts and their dischargeability in bankruptcy are stayed while an offer is pending)
What types of information will the taxing authority ask for?
In addition to the typical Offer form (656 for the IRS) and the detailed financial information sheet (433-A for the IRS), the taxing authority will typically ask for the following information:
- Appraisals of all property of the taxpayer including a detailed appraisal by a licensed appraiser with market comparables for any real property;
- Bank Statements and copies of canceled checks for the year preceding the OIC;
- Copies of all insurance policies maintained by the taxpayer;
- Statements and Affidavits attesting to the truth of certain statements;
- Copies of pay stubs;
- Copies of all federal and state tax returns for any years covered by the OIC;
- Copies of the Discharge Order and all paperwork from the taxpayer’s previous bankruptcy filing if there was one;
- Hardship Letters detailing the reasons for the taxpayer’s non-compliance with the taxing authorities;
- All the preceding information for the taxpayer’s spouse if married.
One important item to remember is that unlike a bankruptcy proceeding, an OIC is strictly voluntary for the taxing authority which means that they can request any and all information that they wish. Obviously their requests are going to be limited to items that help them assess the taxpayer’s financial situation but can still be quite reaching and evasive.