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Tax season might be behind us, but for millions of Americans, the stress of unpaid tax bills still lingers. But whether it’s due to an issue with unexpected income, a missed payment to the Internal Revenue Service (IRS) or penalties that have grown out of control, owing money for back taxes can put you in a tough spot. After all, the IRS has powerful tools it can use to try and collect what you owe, so the concern over things like wage garnishments and bank levies, as well as mounting interest, can make you wonder if there’s any way out of the financial hole.
But while the IRS has a reputation for being relentless when it comes to collecting unpaid taxes, the tax agency understands that not everyone has the means to pay off their full tax bill. That’s where the Offer in Compromise program comes in. This lesser-known tax relief option allows qualified taxpayers to settle their tax debt for significantly less than the full amount owed. It won’t make all your tax problems disappear, of course, but it can provide genuine relief and a fresh start.
The catch? The IRS doesn’t hand out these deals to just anyone. They have strict criteria and a thorough evaluation process, so understanding how this program works before applying could be the difference between years of financial stress and finally dealing with your unpaid tax debt.
Find out how to start tackling your unpaid tax debt today.
What is an Offer in Compromise?
An Offer in Compromise is essentially a settlement agreement between you and the IRS. Instead of paying your full tax debt, you negotiate with the IRS to pay a reduced amount — one that the IRS agrees is the most it can collect from you. Think of it as the tax equivalent of settling a credit card debt, except the IRS has much stricter standards and more thorough investigation processes.
The program exists because the IRS recognizes that sometimes collecting the full amount owed isn’t realistic or in anyone’s best interest. So, if you’re genuinely unable to pay your full tax debt without creating financial hardship, and your offer reflects your true ability to pay, the IRS may accept it to close out your case and move on.
Learn what tax relief options are available to you now.
Who qualifies for an Offer in Compromise?
Not everyone qualifies for an Offer in Compromise, and meeting the basic criteria doesn’t guarantee approval. The IRS evaluates your eligibility based on your:
- Ability to pay
- Income
- Expenses
- Asset equity
If your financial records show you could reasonably make monthly payments through an installment plan or pay in full with asset liquidation, your Offer in Compromise will likely be denied. You also must have filed all required tax returns and made any necessary estimated payments for the current year. And, if you’re in an open bankruptcy proceeding, you’re automatically disqualified.
How much should you offer to the IRS?
This is one of the trickiest parts of the process. The IRS has a specific formula for calculating your reasonable collection potential, and your offer needs to equal or exceed this amount. They’ll examine your monthly disposable income and multiply it by either 12 or 24 months, depending on how you plan to pay. Then they’ll add the equity in your assets.
For example, if you have $200 in monthly disposable income and choose to pay your offer over 24 months, that’s $4,800. If you have $10,000 in asset equity, your minimum offer would be $14,800, even if you owe $50,000 in taxes.
The key to having your offer accepted is being realistic and honest about your finances. Lowball offers that don’t reflect your true ability to pay will be rejected and you’ll lose your application fee in the process.
How do you apply for an Offer in Compromise?
Applying for an Offer in Compromise requires substantial paperwork and documentation. You’ll need to complete Form 656 (the actual offer) and Form 433-A or 433-B (detailed financial statements). The IRS will also want to see bank statements, pay stubs, asset valuations and proof of monthly expenses.
There’s also a non-refundable application fee and an initial payment that needs to be made with your offer. If you’re making a lump sum offer, you must include 20% of the offer amount. For periodic payment offers, you must include the first month’s payment and continue making payments while your offer is under review.
The review process typically takes six to 24 months. During this time, the IRS may request additional documentation or propose changes to your offer. They might also send a revenue officer to verify your financial information in person.
What mistakes could lead to rejection?
Most offers get rejected because applicants either don’t qualify financially or make errors in their applications. Some people try to hide assets or underreport income, which leads to automatic rejection and potential fraud penalties.
Others fail to account for all allowable expenses or don’t provide sufficient documentation to support their financial claims. The IRS is thorough in its review, so incomplete or inconsistent information will derail your application. Another common mistake is applying too early. If you’re still able to pay through an IRS-approved installment agreement or other means, the IRS will reject your offer and suggest those alternatives instead.
The bottom line
An Offer in Compromise can provide life-changing relief for taxpayers who genuinely cannot pay their full tax debt, but it’s not a program that will work for (or be available to) everyone. The IRS accepts less than half of all applications, and the process requires patience, honesty and detailed financial documentation.
Before pursuing this option, consider whether you might qualify for other programs, like installment agreements or currently not collectible status, which might be easier to obtain and serve your needs just as well. If you do decide to apply, consider working with a qualified tax debt professional who can help navigate the complex requirements and improve your chances of success.
