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The Internal Revenue Service Has Relaxed its Offer-in-Compromise Criteria
Justin M. Hardy
THE INTERNAL REVENUE SERVICE HAS RELAXED ITS OFFER-IN-COMPROMISE CRITERIA
The Internal Revenue Service offers two distinct programs to assist struggling taxpayers in repaying or settling their tax debt. One is called the Installment Agreement Program, through which a taxpayer and the IRS can agree that the taxpayer will pay back its tax debt in monthly increments over time. The other is called the Offer-in-Compromise Program, through which a taxpayer and the IRS can agree that the taxpayer’s tax debt will be considered satisfied upon the taxpayer’s payment of something less than the full amount of the debt. Effective May 21, 2012, the Internal Revenue Service implemented substantial changes relaxing the way it calculates acceptable Offer-in-Compromise amounts.
The key to the Offer-in-Compromise Program is that the IRS will not accept an offer that is below the taxpayer’s “reasonable collection potential.” A taxpayer’s reasonable collection potential is the sum of two components. The first component [“equity component”] is the taxpayer’s equity in all of its assets after discounting the fair market value of non-cash assets by 20%. The second component[ “net income component”] is the taxpayer’s monthly net income calculated using allowable monthly expenditures (as opposed to actual expenditures) and multiplied by a specified number, which number is based upon how long it will take the taxpayer to fully pay the offer amount.
The recent changes affect the computation of both the equity component and the net income component, such that the IRS’ computation of a taxpayers reasonable collection potential will be substantially reduced. In other words, the IRS is now willing to accept offers that are significantly lower than previously.
With respect to the equity component, there are three significant changes:
- Equity in cash and bank accounts will now be reduced by $1,000 and the amount of the taxpayer’s allowable monthly expenditures.
- Equity in vehicles will now be reduced by $3,450 per vehicle so long as the vehicle is used for work, the production of income, or the welfare of the taxpayer’s family. This additional reduction in equity is only applicable for up to two vehicles per household.
- With respect to business-taxpayers, the equity component will now exclude entirely equity in income-generating assets that are essential to the viability of the business venture. Further, where an income-generating asset is not essential to the viability of the business venture, the IRS has the discretion to include either the equity in the asset or the income produced by that asset, but not both.
With respect to the net income component, there are four significant changes:
- Monthly payments of student loans will now be considered an allowable expense to the extent that the payments are actually being made.
- Monthly payments of state and local taxes will now be considered an allowable expense, with certain limitations.
- If the taxpayer’s vehicles are six years old or older, or have mileage in excess of 75,000, the taxpayer will now be entitled to claim an additional $200 for operating expenses as an allowable expense.
- Once the taxpayer’s monthly net income is determined, the multiplier used to determine the net income component has been drastically reduced. For offers that will be fully paid within five months, the multiplier is now 12 (down from 48). For offers that will be fully paid in more than five months but less than 24 months, the multiplier is now 24 (down from 60). All offers must be fully paid in less than 24 months.
These changes make it much more realistic for many taxpayers to settle their outstanding Federal tax debt by significantly reducing the amount of an Offer-in-Compromise that the IRS will deem acceptable. If you have outstanding Federal tax debt and would like to discuss pursuit of an Offer-in-Compromise or Installment Agreement, feel free to contact me.
Justin M. Hardy is an associate attorney at Bell, Davis & Pitt, P.A. His principal areas of practice are general business, copyright and trademark, tax controversy, and property tax appeals.
John A. Cocklereece is a director at Bell Davis & Pitt, P.A. His principal areas of practice include general business, estate planning and administration, tax controversy, and property tax appeals.