Offer in Compromise

IRC Section 7122(f) Deemed Acceptance review

The United States Tax Court in Michael D. Brown v. Comm’r of Internal Revenue, at 158 T.C. No. 9, filed on June 23, 2022 ruled that the time during which the IRS Appeals Office reviews the return of an Offer in Compromise is not included as part of the 24-month “deemed acceptance” period of IRC 7122(f).  The rule at issue states that “[a]ny offer-in-compromise submitted under this section shall be deemed to be accepted by the Secretary if such offer is not rejected by the Secretary before the date which is 24 months after the date of the submission of the offer.”  See IRC section 7122(f).  In this case, taxpayer filed for a Collection Due Process (CDP) hearing after the filing of a tax lien.  Right away, the taxpayer filed for an Offer through IRS Appeals.  The collection specialist that reviewed his file returned the Offer because other investigations of the taxpayer were pending. He owed about $50 million in taxes.  During the actual CDP hearing, the taxpayer urged the Settlement Officer to override this decision.  The Settlement Officer would not do it and proceeded to close the CDP case.  It was approximately 28 months from the time the CDP hearing was filed until the IRS issued a notice of determination.  Taxpayer argued that the IRS exceeded the rule for deemed acceptance and the Offer should be accepted.  The Court analyzed the statute and regulations associated with it.  In part, the taxpayer tried to argue that even though the Offer unit “returned,” the Offer, it was only Appeals that can make the determination to return the Offer. As such, it should be deemed accepted.  The Court didn’t buy it. Rather, they point out that the relevant procedures explaining the deemed accepted provision specifically state that the “period during which the IRS Office of Appeals considers a rejected offer-in-compromise is not included as part of the 24-month period.” The Court explained that this would be true even outside of the CDP setting. In other words, if an Offer is rejected and a taxpayer Appeals that rejection, nothing about the Appeal extends the 24-month period in the rule. 

Offer in Compromise

IRC Section 7122 

The United States Court of Appeals for the Third Circuit in Estate of Kwang Lee, Deceased, Anthony J. Frese, Executor v. Comm’r of Internal Revenue, Case No. 21-2921 handed down an opinion on August 23, 2022 in which the Court ruled that the denial of an Offer in Compromise for estate taxes by the IRS was appropriate and that the Executor could be held personally liable for non-payment of the Estate taxes.  The decedent in this matter passed away many years ago – in 2001.  The Executor, Anthony J. Frese miscalculated the estate tax on the estate and ultimately received a notice of deficiency in 2006 and a formal deficiency from the IRS in 2010.  However, between 2004 and 2010, the Executor distributed over $1 million in assets to the beneficiaries, including $640,000 after receiving the notice of deficiency.  The Estate filed an Offer in Compromise and tried to settle for the remaining assets of the estate.  The IRS rejected the Offer, arguing that their reasonable collection potential was higher than what was offered, in part because IRC section 3713(b) allows the government to hold the executor personally liable when the executor transfers property before satisfying a known estate tax. As such, the argument by the estate that the IRS Office of Appeals had abused its discretion in denying the Offer based on payment of the remaining assets of the estate, fails. 

Offer in Compromise

IRC 6320 Hearing

The United States Court of Appeals for the Seventh Circuit in Craig L. Galloway v. Comm’r of Internal Revenue, No. 21-2269 decided February 9, 2022 that because the issue at hand was outside of the authority of the Tax Court to decide, then the issue also fell outside of the authority of this Court to review.  

The Taxpayer in this case had an unpaid income tax liability of $64,315.43.  Taxpayer submitted an Offer in Compromise which was rejected by the IRS because they believed the taxpayer could pay the liability based on the reasonable collection potential.  Rather than appeal this decision, taxpayer filed another Offer in Compromise. It was rejected for the same reason.  He appealed, but the decision of the Offer unit was sustained.  After the appeal, the IRS issued a Notice of Federal Tax Lien Filing with rights to a Collection Due Process hearing under IRC 6320. Taxpayer requested a hearing and during that hearing the Officer advised that he could submit a new Offer directly to the Offer Unit, but that if it was the same Offer, it would be rejected.  No Offer was filed and the Tax Lien was sustained.  Taxpayer then appealed the decision to sustain the filing of the Notice of Federal Tax Lien to the Tax Court.  The IRS won in Tax Court by correctly arguing the taxpayer was prohibited from raising a challenge to the Offer in that setting – which he was trying to do.  Taxpayer then appealed to this Court.  This Court indicated that their review would be based on whether there was an abuse of discretion by the settlement officer in sustaining the federal tax lien – not a review of the underlying rejection of the Offer. This was because the taxpayer had participated meaningfully in his appeal of the Offer rejection.  Because the Tax Court was limited in reviewing the underlying debt, so too is this Court of Appeals.

Offer in Compromise

I.R.C. Section 7122

The United States Tax Court in Swanberg v. Comm’r of Internal Revenue handed down an opinion on August 25, 2020, as docket No. 10266-19L, in which it ruled that the IRS had properly included taxpayer’s Veterans Affairs benefit and excluded his life insurance premium in calculating an ability to pay for Offer in Compromise purposes. This matter was started in a Collection Due Process hearing filed as a result of the issuance of a Final Notice of Intent to Levy. The taxpayer submitted a collection information statement reflecting monthly income of $6,352 and expenses of $6,854. On review, the Settlement Officer noted that the taxpayer’s bank statements reflected a disability benefit from the VA. The Officer increased his income by the amount of this benefit. Further, she disallowed a $600 per month expense for whole life insurance. The Taxpayer argued that his VA benefit should not be included since it was not taxable. The Court ruled that the Settlement Officer had abided by the provisions of the Internal Revenue Manual (IRM) regarding these issues. The IRM provides that all household income will be used to determine taxpayer’s ability to pay. Income is included even if not subjected to taxation. Furthermore, the IRM supports disallowance of the whole life insurance expense. No abuse of discretion was found by the Court. 

Dissipation of Assets

Offer in Compromise

In John F. Campbell v. Comm’r, T.C. Memo 2019-4, Filed February 4, 2019, the Tax Court ruled that an IRS Appeals officer, in the context of reviewing an Offer in Compromise during a Collection Due Process hearing, abused his discretion when including certain dissipated assets in the calculate of Reasonable Collection Potential (RCP). The Court explained that the Internal Revenue Manual (IRM) sets forth when dissipated assets should be included in RCP.  Per IRM, dissipated assets are only included in RCP where “it can be shown that the taxpayer has sold, transferred, encumbered or otherwise disposed of assets in an attempt to avoid the payment of the tax liability,” or otherwise used the assets “for other than the payment of items necessary for the production of income or the health and welfare of the taxpayer or their family, after the tax has been assessed or during a period up to six months prior to or after the tax assessment.”  The IRM instructs that the Appeals officers should use a three-year look-back period, from the date the offer is made, to determine whether it is appropriate to include dissipated assets in the RCP calculation.  The officer may look beyond this period if there is a transfer of assets within six months before or after the assessment of the tax liability.  The Court deemed it an abuse by the Appeals officer to include assets transferred 6 years before the assessment and 10 years before the Offer was submitted.  The Court was further disturbed by additional IRS allegations that the taxpayer sought to “waste his wealth,” rather than pay his tax liabilities. There was no evidence on the record, or otherwise, supporting this contention.   

How do you decide if an Offer In Compromise is a good way to resolve your IRS debt?

In the past couple of years, the IRS has dramatically changed its formula for calculating the amount a taxpayer must pay to settle a tax debt.  Fundamentally, the changes were favorable for the taxpayer and the IRS appears to better understand that acceptance of an Offer in Compromise likely results in collection of more tax dollars than simply continuing to enforce collection efforts through levies and lien filings.  However, the movement towards a more favorable calculation by the IRS of the taxpayer’s ability to pay, and thus the taxpayer’s reasonable collection potential, has actually been further adjusted in a manner that removes some of the initial excitement about formula changes to Offer calculations.

The basis of acceptance of most Offers in Compromise is doubt as to collectability.  Basically, the IRS performs an analysis of a taxpayer’s financial situation and if the taxpayer’s ability to pay is less than the amount they owe, then the taxpayer could theoretically qualify for an Offer in Compromise settlement.  The ability to pay analysis consists of the calculation of both a taxpayer’s equity in assets and “future income potential.”

A taxpayer’s future income potential for a settlement is typically calculated by performing a monthly financial analysis in which the IRS compares gross earnings to allowable expenses to determine if there is any excess monthly income remaining from which the taxpayer could pay the IRS.  If so, this excess income was historically multiplied by a factor – either 48 or 60, to determine the future income potential portion of a settlement Offer.  The taxpayer would be allowed to multiply the excess monthly income by 48 if the Offer was for a lump sum settlement, and 60 if the payments were to be made over a couple of years.

Recently, a favorable adjustment was made to the multiplier.  Rather than asking the taxpayer to multiply excess income over expenses by 48 for a lump sum Offer, the IRS dramatically adjusted this number down to 12!  And, rather than multiplying by 60 for a short term payment Offer over up to a couple of years, the multiplier was altered to 24! 

This seemed almost too good to be true. And in part, it was. The IRS clarified, through the adoption of guidance in its Internal Revenue Manual, that even if a taxpayer calculates that he or she qualifies under the new formula, the taxpayer will not qualify for a settlement Offer if the IRS could collect the entire debt through establishment of an Installment Agreement over the statutory period of collections, unless there are special circumstances.

What this means is that at the time of analyzing a taxpayer’s situation, it is important to be aware that even though the formula indicates a taxpayer would qualify for a settlement, if the monthly excess income over expenses would retire the debt under the statute of limitations, then the taxpayer is wasting time submitting an Offer.  Furthermore, the taxpayer will be putting the statute of limitations for collection on hold while the defective Offer is under review, and for a period of time after rejection.

Here’s a simple example of how this would work.  Assume a taxpayer owes $50,000 in tax debt.  If the taxpayer just filed the return, the IRS will have 10 years, or 120 months to collect the debt, with exceptions for extensions of time – such as when an Offer is filed. If the taxpayer has no equity in assets, but a financial analysis shows an ability to pay $1,000 a month, the taxpayer might think a lump sum Offer would be a good way to put the debt to rest forever.  Under the lump sum analysis, the future income potential would be $1,000 x 12 or $12,000.  With no equity in assets, this is less than the tax debt and would make this look viable.  Even the short term Offer looks good as the future income potential would be $1,000 x 24 or $24,000.  The settlement would be paid over 24 months, or $1,000 per month.

The reality in the above example is that the Offer will be rejected, absent special circumstances, because the monthly future income potential of $1,000 multiplied by the life of the collection statute exceeds the tax debt as follows: $1,000 x 120 months (or 10 years as the return was just filed) = $120,000.  The exception to this is if special circumstances exist as disclosed on submission of the Offer.  Generally, special circumstances would include creation of economic hardship, or alternatively, compelling public policy or equity factors, such as health concerns or age, could tip the analysis in favor of settlement, in spite of the above.

Fundamentally, and especially because of the fact that the statute of limitations is placed on hold during a lengthy analysis period (several months), a taxpayer has to be careful to review their particular situation so that submission of an Offer in Compromise doesn’t do more harm than good.  If you would like assistance with your tax matter, or the tax situation of a client, please don’t hesitate to contact us.

Why do I have to owe over $10,000 to get help with my IRS tax debt?

Everyone has seen on television, or heard on the radio, advertisments for assistance with owing the IRS back taxes.  Turn on the TV late at night to watch reruns of your favorite show and you’re bound to see at least one. But they all have that caveat, saying that you must owe the IRS over $10,000 for them to help you, but why?

The fact of the matter is that you don’t need to owe a certain amount to have representation to assist with your tax debt – at least not from our firm.  If you listen to the television or radio you would think that there is no way to help someone who owes less than this amount.  Most of the businesses that advertise in this way are looking to submit a settlement proposal, known as an Offer in Compromise, to the IRS on your behalf.  This may or may not be possible, but generally that is the only service these businesses provide.  What they know is that due to the manner in which the IRS settles debt, it is nearly impossible to settle a small tax debt.  However, here are several situations that our office sees frequently where taxpayers have a small tax debt, but still need help sorting through their options to come into compliance:

  • Sometimes a client may owe the government a small amount, but has unfiled returns and is preparing to file bankruptcy to discharge health care debt or other obligations.  The bankruptcy code requires the taxpayer to file their last three returns in order to qualify for the bankruptcy.  After filing, the client anticipates owing more.  Perhaps that is a small amount or a large amount.  Regardless, this client needs help with those taxes because they will not be discharged in the bankruptcy.
  • A client may owe a small amount based on a return filed by the government – known as a Substitute for Return (SFR).  However, the client will owe much more later when a proper return is filed.  This can happen when a client is self-employed and receives a few 1099’s that comprise a small amount of the taxpayer’s overall revenue.  Once the return is properly completed, there may be a different picture.
  • Sometimes a client owes tax debt that their spouse created and it is simply unfair for them to be held responsible for the debt.  That client may want to be relieved from the obligation – no matter how small – through the Innocent Spouse Relief process.  Alternatively, a spouse may be harmed because his or her refund was offset to their spouses tax debt.  In this instance, this client may need assistance filing an Injured Spouse claim.
  • A client may have a few thousand dollar tax debt created by automated Exam at the IRS, but if the client merely pays it or sets up a payment agreement to resolve the balance, the taxpayer may be setting himself or herself up for problems with future tax return positions.  If your expense or other deduction is valid and the IRS disallowed it, it may be worth fighting to substantiate it so you do not create a record showing you agreed with the claim or deduction being disallowed.  Therefore, your representative could make arguments to assist in your exam and protect your position for later.
  • Some clients owe less than $10,000 and are interested in relieving themselves from the burdens of a tax lien.  It is now possible to establish a Direct Debit Installment Agreement and apply for a withdrawal of the tax lien.  There are specific procedures for this doing this must be met to qualify, but it is possible.  As a matter of fact, it is now possible to accomplish this if you owe up to $25,000.
  • A client may owe a small tax debt which was originally much larger and triggered the filing of a tax lien.  Though the debt is paid down, it is preventing the sale of a piece of real estate because there is not enough equity to retire the tax debt at closing.  These clients need assistance with a request to Discharge Property from Federal Tax Lien.  This will clear title to the property and allow for the closing, even though the entire tax debt is not being paid off in full.
  • Some of our clients only owe a couple of thousand dollars, but have many years of unfiled tax returns and anticipate owing much more.  A settlement proposal, Offer in Compromise, may be appropriate.  However, it is impossible to know if that is the case until the taxpayer knows the total owed and a financial analysis is performed which includes a review of income, expenses and equity in assets.
  • A client may need assistance when a wage levy is in place, but the balance on their total tax debt is not larger than $10,000.   In those instance, it is very likely that the taxpayer can be moved to a voluntary payment agreement if all returns are filed.  Even if all returns are not filed, substantiation to the IRS of income and expenses could likely result in a partial levy release to relieve the client of some, or all of the wage levy.
  • If any of the above is similar to your situation, or you have some other tax problem, we will be happy to help you, regardless of the size of your debt.  Just give us a call.

Under an IRS levy and think there is nothing you can do about it?

Unfortunately, this feeling of hopelessness is an all too common feeling of clients in this situation.  This blog intends to provide educational articles about tax topics, rather than playing on emotions as many firms do in the tax controversy area.  The reality is that these issues are emotional.  Unfortunately, an emotional issue can trigger irrational decisions.  One irrational decision is buying into the promise of a solicitor that your tax problems are easily resolved because you “qualify” for a settlement.  The fact is that everyone can “qualify” for a settlement.  That’s the wrong analysis to start with.  And, when a firm is approached with a levy situation, it is premature to analyze whether or not a client qualifies for a settlement.

At the time a taxpayer is under levy, the proper analysis is whether or not the taxpayer can get immediate relief of some sort from the levy.  If the levy is affecting the taxpayer’s wages, then the taxpayer’s representative should work through a detailed and documented financial analysis to determine if there is an opportunity for either immediate relief from the entire levy or partial levy relief.  If a taxpayer substantiates that the levy creates economic hardship, then relief may be possible.

Sometimes clients under levy have not prepared all of their tax returns and as such, believe that there is no way to remove the levy until their tax returns are filed.  This simply is not true.  While it may or may not be possible to acquire full relief, an analysis of income and expenses utilizing IRS standards will allow for the taxpayer to obtain at least partial relief to pay for many expenses.  These expenses can include basic necessities such as food, clothing, medicines and health insurance premiums.  Payments for housing and utilities will be allowed up to a maximum amount based on county of residence and household size.  Additional expenses such as car payments and vehicle operational expenses, like gas and insurance, will also be allowed up to a standardized amount.

After seeking partial levy relief, it is then appropriate to file tax returns as soon as possible.  Once the taxpayer has filed all outstanding tax returns, the IRS then makes available a variety of options that are not available when a taxpayer has failed to file all returns.  At that point, the representative can assist the taxpayer with an analysis of their income, expenses and equity in assets to determine if the taxpayer is a good candidate for an installment agreement, a partial payment installment agreement, an Offer in Compromise (settlement), or currently not collectible status.  It is ALWAYS best to go through this analysis as there are opportunities to come into compliance with the tax laws, move yourself out from under the enforcement action, such as a wage levy, and still address the old tax debt.  Many would be surprised to learn that the IRS does work with taxpayers to resolve many issues in a way that isn’t nearly as traumatic as believed.

Obviously, the best case scenario is to take action before a levy is in place, however, once that occurs, there is always something that can be done to make the situation more bearable.  We encourage you to contact our firm if you have any questions or concerns about these matters.

Just filed a tax return and have a balance due you can’t pay?

You have many opportunities to deal with this situation – but the most important thing to remember is that taking action sooner is better than waiting.  Your timely response can provide you with an opportunity to review your financial situation and determine if it is best to use other resources to retire your tax debt.  Tax liens are not filed right away and as such, it may be in your best interest to borrow against the equity in your real estate.  Once a tax lien is filed, which happens in many cases, your likelihood of getting a loan is greatly reduced.

 Should you not have the ability to borrow money to pay off the tax debt, the time immediately after filing your return is the best time to analyze your financial situation to determine what options you have.  Once the IRS begins to send you notices, they will ultimately issue a Final Notice of Intent to Levy and then they have the right to seize assets and levy income.

 If a professional is assisting you with your financial analysis, they are working to put together a Collection Information Statement.  This document will allow the person assisting you to determine if you are a candidate to submit a settlement proposal to the IRS – known as an Offer in Compromise.  Nobody can tell you that you are a good candidate for a settlement unless they complete a full financial analysis and know how much you owe in taxes, interest and penalties.

 The Collection Information Statement is not only utilized to determine if you are a candidate for an Offer in Compromise settlement, but this document is also used to determine what you can pay on an Installment Agreement, a Partial Payment Installment Agreement, or if you are a candidate for the Currently Not Collectible Status.

 An Installment Agreement is an agreement to full pay your outstanding balance plus interest and penalties over a period of time.  There are instances where you do not have to disclose all of your financials in order to set up an Installment Agreement.  This is typically based on the amount you owe the IRS and the amount of time remaining for the IRS to collect the debt – the statute of limitations on collections.

 A Partial Payment Installment Agreement is an agreement where you will pay the IRS a monthly payment, but that payment amount would not pay off the entire debt before the IRS statute of limitations to collect runs out.  Because there is a possibility that the IRS will not collect all of the tax liability from you, they reserve the right to review your financial situation every couple of years.

 In addition to the above, many taxpayers qualify for placement in Currently Not Collectible status.  This status is given when you substantiate to the IRS through financial disclosure on a Collection Information Statement that you do not have any equity in assets, nor do you have the ability to make a monthly payment.  When placed in this status your debt continues to grow from accrual of interest and penalties.  The IRS will review your financial situation from time to time to determine if you can begin paying something toward the tax debt.

 Given the fact that the IRS has the power to levy your wages or seize assets if they issue a Final Notice of Intent to Levy, it is important to be aware of the status of collections of your tax debt.  When the Final Notice of Intent to Levy is issued, the taxpayer has the right to have the matter reviewed by Appeals Division of the IRS.  This review is independent of the Collection Division and the reviewing officer has the ability to establish one of the plans above.  Sometimes this is advantageous as the taxpayer’s matter is assigned to a single caseworker rather than a service center where the taxpayer has less of an opportunity to work directly with an IRS employee.

 As can be seen from the above, there are many options to deal with your tax obligations.  The situation can only get better by dealing with it sooner.  If you have tax liabilities you can’t pay, please contact us.  We would be happy to provide you with guidance to determine how best to proceed.

“Fresh Start” Changes to the Offer in Compromise Program

The airwaves are inundated with television and radio ads promising delinquent taxpayers an easy solution to their tax problems: the Offer in Compromise. What these ads fail to disclose is that this program has rigorous guidelines for calculating a proper offer amount, and that in recent years, few offers have been accepted by the Internal Revenue Service. Often, taxpayers believe these slick sales pitches and find themselves no closer to a real resolution after hiring an “offer mill” that does not do the proper analysis to determine a correct offer proposal. 

Despite the misleading advertisements of offer mills, the Offer in Compromise is a valid program. Fortunately, the Internal Revenue Service has made changes to the financial analysis required by the program to make it easier for taxpayers to participate in the program and settle their outstanding tax debt. These changes include: 

Reducing the calculation for taxpayers’ future income

Previously, the IRS would look at 48 months of future income potential for lump sum offers and 60 months of future income for short-term deferred offers. The “Fresh Start” changes have reduced these timeframes to 12 months and 24 months, respectively. The bottom line is that the calculation of an offer has been reduced substantially. For example, a taxpayer with a monthly “ability to pay” of $500 previously would have this amount multiplied by 48 months as part of a lump sum calculation, totaling $24,000. Now, the same $500 ability to pay is multiplied by 12 for the same offer, totaling $6,000. In this example, this change reduces the required offer amount by $18,000—a substantial difference! 

Allowing taxpayers to repay their student loans 

One of the most common misconceptions taxpayers may have about the Offer in Compromise program is that the Internal Revenue Service will consider all of a taxpayer’s current expenses. This is simply not true. The IRS only considers necessary and allowable living expenses in the calculation of an offer. Often, this results in the IRS having a very different view of what a taxpayer can afford in the context of an offer! By allowing taxpayers to repay their student loans, the IRS is making a concession that student loans may be necessary and allowable, and these payments can be considered to determine a taxpayer’s future ability to pay. 

Allowing taxpayers to pay state and local delinquent taxes 

Frequently, when a taxpayer is unable to pay their federal taxes, they are also unable to pay their state taxes as well. Because state and local taxing entities do not halt their collection activities when a federal tax debt is present, coordinating resolutions of multiple tax debts can create unique problems for taxpayers seeking to come into compliance with all levels of government. By allowing taxpayers to pay state and local delinquent taxes when calculating an offer amount, the IRS now considers the difficulty of paying federal, state, and local taxes simultaneously. The result is that many taxpayers requesting an offer with the IRS will see a reduction to the final calculation of their offer. 

Expanding the Allowable Living Expense allowance category and amount 

Previously, the IRS did not allow for credit card payments or bank fees and charges to be allowed as living expenses in the calculation of an offer amount. Recent changes not only allow for these payments to be claimed, but also expand the “miscellaneous” category of living expenses to further account for these common expenses. 

These changes to the Offer in Compromise program will give many delinquent taxpayers new hope for resolving their tax matters in a quick and affordable manner.