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How the IRS Calculates Tax Settlements 2022

Many American taxpayers experience owing money to the IRS each year. According to the IRS, more than 14 million Americans owe a combined total of over $131 billion in back taxes. This amount was calculated back in 2018, so it’s safe to assume that it’s only grown since then.

The IRS will often allow taxpayers to repay their outstanding taxes in the form of an Offer In Compromise. Not everyone will be eligible for this option, and it will probably require some negotiating. However, consulting with a tax resolution company can help increase your chances of the IRS accepting your offer and reduce at least some of your overall tax bill. 

What Is an Offer In Compromise?

The IRS provides this program to help taxpayers repay and eventually settle their back taxes. It’s not uncommon for tax bills to pile up and reach large sums of money, especially once you factor in penalty fees and interest. 

As a result, it can be very difficult for taxpayers to pay off their back tax bills in full. Since they cannot afford to pay off the entire bill, the taxpayer will offer a smaller and more affordable amount of money to settle the amount. The IRS would prefer you repay some taxes back rather than none, so they usually accept these offers. 

The Offer in Compromise is either paid as one lump sum or can be set up as an installment payment over a set amount of months. Once you pay back the agreed-upon money, the IRS will forgive the remaining balance and officially settle the amount owed. 

How Do You Know if You Qualify for an Offer in Compromise?

It’s important to keep in mind that the IRS is under no legal obligation to reduce your back taxes by any amount. They reserve the right to refuse any offers made to them for a variety of reasons. 

The first hurdle in the process will be determining if you even meet the qualifications for making an offer. These are a few of the factors that will instantly disqualify you from proposing an Offer in Compromise:

  • You are currently in an open bankruptcy proceeding.
  • You have not filed all of your required tax returns.
  • You have not made any of the required estimated payments. 
  • A court ruling has upheld your back tax.
  • Your case has been sent to the Justice Department.

In addition to these requirements, you will need to prove to the IRS that the overall amount is too much for you to repay. They will look into your income, expenses, and assets to determine if you cannot repay the tax liability in full. 

If you can prove that paying the amount owed will cause you to experience substantial economic hardships, your offer will be much more likely to be accepted. 

How Often Are Offers in Compromise Accepted?

Despite requiring several qualifications and meeting specific criteria, it’s fairly common for the IRS to accept reasonable Offers in Compromise. In 2017, the IRS received roughly 62,000 offers and accepted around 25,000 of them. While that success rate is only around 40%, it can mean the difference of a few thousand dollars and is probably worth a try if you are eligible. 

You can go about the process on your own and successfully negotiate an Offer in Compromise with the IRS. However, consulting with a tax professional will determine an amount that is fair to you and the IRS, therefore increasing your chances of the IRS accepting your offer.

It can be very challenging trying to negotiate with seasoned IRS representatives, especially when it’s so much money on the line. It’s best to leave the process and negotiations to the professionals.

What Is the Process for Submitting an Offer in Compromise?

The process for submitting an Offer in Compromise will look similar whether you have decided to go it alone or hire a tax professional. The process can typically be broken down into four separate steps:

  • Gather all relevant information. The IRS will need a lot of your financial information to determine if an Offer in Compromise is acceptable. You will need to gather personal documents that include your recent bank statements, living expenses, gross income, assets, available credit, and investments.
  • Fill out the correct form. There are three different forms available when applying for an Offer in Compromise, and you will need to fill out two of them. Depending on your specific details, you will need to fill out the proper forms to formally request an Offer in Compromise.

    The first form is Form 656 and will be required for all situations. The second form will either be Form 433 A or Form 433 B. If you are attempting to request a settlement for yourself as a wage earner, self-employed individual, or on behalf of a deceased person, you will need to use Form 433 A. If you are looking to settle the back tax of a business, corporation, partnership, or LLC, you must use Form 433 B.  
  • Attach the necessary documents. Once you have gathered all relevant financial documents and filled out the proper form, you would attach them and send them to the IRS. This can either be done via the mail, online, or delivered in person. When attempting to procure an Order in Compromise, it’s best to move the process along as quickly as possible, so online or in-person delivery is the smarter option.
  • Pay the application fee. Applying for an Order in Compromise isn’t free and will require a one-time fee. The fee is currently $205, is non-refundable, and it will not go toward any outstanding amount that you owe. The IRS doesn’t like to waste time or money, so make sure that your offer is reasonable, or you will have wasted this fee for no reason. 

How To Determine a Reasonable Offer in Compromise

You won’t just be able to throw out some random number in your Offer in Compromise and hope that the IRS accepts it. There is an unofficial formula used that will help determine a reasonable amount for an IRS settlement

Based on your financial documents listed above, the IRS will calculate a minimum acceptable amount for a settlement and not accept anything lower. The formula is a bit complicated but will involve the following factors:

  • The total realizable value of all of your current assets.
  • Your average gross monthly income.
  • The total amount of your monthly living expenses. 

The IRS will add up these assets plus your monthly income and subtract your living expenses from this total. This value is your monthly cash flow and will play a critical role in determining the settlement amount. 

There will still be more math required once this number is found, so let’s say that you have $300 of monthly cash flow.

  • If you elect to pay the settlement as one lump sum, the IRS will multiply your cash flow by 12. For this example, the settlement would be $3,600, and you would have five months to pay off the amount owed.
  • If you elect for installment payment, the IRS will multiply your cash flow by 24. The example would then reach $7,200, and you would have 24 months to pay off the amount owed. 

It’s important to note that if the offer is accepted, you will be required to make an initial non-refundable payment immediately. For a lump-sum payment, you would need to pay at least 20% of the offer or the first monthly payment if you plan to pay in installments.  

The Takeaway

Millions of Americans owe taxes to the IRS, and getting out of back taxes can be challenging. The IRS offers several different tax forgiveness programs, and one of the most common is the Offer in Compromise. There’s a roughly 40% chance that your offer will be accepted. If it is selected, then you might be able to save quite a bit of money while settling your tax bill once and for all. 

The process can be stressful and will cost you some money, so you must get it right the first time. Consulting with tax professionals like the ones at Coast One Tax Group can help you create an Offer in Compromise that is more likely to be accepted by the IRS. Instead of trying to handle this rigorous and agonizing process by yourself, leave it to the professionals to help you get a fresh start that’s free from back taxes. We have helped hundreds of individuals with their financial wellbeing, and we can help you, too.  

Sources:

Americans Owe More Than $131 Million in Back Taxes—Platinum Tax Defenders Details Why You Should Remain In Good Standing | PRWeb.com

What is an Offer in Compromise? – Legal Aid Society of Cleveland | LASClev.org

Offer in Compromise Pre-Qualifier | IRS

IRS Offer in Compromise: What to Know | Credit Karma

What will my IRS settlement be in an offer in compromise? | HowardLevyIRSLawyer.com