Have you ever seen those TV ads that promise to magically clear away tax debt for “pennies on the dollar”? When you’re struggling with overwhelming debt, that’s a very tempting prospect. But is it too good to be true? Are these ads just another tax-related scam?
The answer is both yes and no. This kind of debt cancellation really is possible. The IRS’s Offer in Compromise program allows you to cancel your tax liability for an amount that’s far less than you owe.
However, an offer in compromise isn’t the magic solution the ads suggest. The program isn’t open to everyone, and it’s a long and arduous process with no guarantee of success. But for those who qualify, it truly does offer a chance to wipe the slate clean and start over.
Pro Tip: If you’re unsure if an Offer in Compromise is the best fit for you it’s best to work with a qualified tax professional. H&R Block has tax professionals available to help you with your tax needs and everything can even be handled virtually.
What Is an Offer in Compromise (OIC)?
An offer in compromise, or OIC, is a form of debt settlement specifically for income taxes. It allows you to wipe out your tax debts for less than the full amount you owe.
However, this option isn’t open to all taxpayers. The IRS considers offers in compromise only in three situations:
- Doubt as to Collectibility. You can prove to the IRS that it’s impossible to pay your full tax liability. Even if you handed over everything you own and all the income you can spare, you’d still come up short. The majority of OICs fall into this category.
- Doubt as to Liability. It’s not clear that the amount of tax the IRS billed you for is correct. Proving to the IRS that it made a mistake isn’t easy, so this kind of OIC is rare.
- Effective Tax Administration. Your tax liability is correct, and it’s technically possible for you to pay it, but it would cause financial hardship. This type of OIC is rarely requested and even more rarely approved.
If you apply for an offer in compromise based on the first or third reason, the IRS thoroughly reviews your finances before deciding whether to grant it. The bureau considers various factors, including your income, living expenses, other assets, and ability to pay.
How to Apply for an IRS Offer in Compromise (OIC)
Applying for an offer in compromise is a complex, time-consuming process. You have to pay a certain portion of the money upfront, and there’s no guarantee the IRS will accept your offer. However, as long as you submit it properly, the bureau must at least consider it.
1. Check Your Eligibility
The IRS generally considers offers in compromise only for people who can’t possibly afford to pay the full amount they owe. So unless you have very low income and few to no assets, there’s not much point in applying for one.
Additionally, you must meet these requirements to qualify for an OIC:
- You have filed all required tax returns.
- If you are self-employed, you have paid estimated taxes as required.
- If you are a business owner with employees, you have made all required federal tax deposits.
- You are not in an open bankruptcy proceeding.
If you do not meet any of these requirements, the IRS will immediately reject your application and return your application fee. However, it will keep your initial payment and put it toward your tax bill.
To check your eligibility for an OIC, use the IRS Offer in Compromise Pre-Qualifier tool. This tool can also help you develop a suggested amount for your offer in compromise.
2. Submit an Application
To apply for an offer in compromise, you send the IRS an offer package. For OICs based on either doubt as to collectibility or effective tax administration, this package must include:
- Form 433 (OIC), Collection Information Statement. This form provides detailed information about your financial situation. In most cases, you must support this info with documentation. There are two versions of the form: Form 433-A for individuals and Form 433-B for businesses.
- Form 656, Offer in Compromise. This form summarizes the terms of your offer in compromise. If you’re seeking to wipe out both personal and business tax debt, you must file a separate Form 656 for each debt type.
- Application Fee. The $205 application fee is nonrefundable. However, if the IRS rejects your offer, it will apply the $205 toward your tax liability.
- Initial Payment. Lastly, you must provide an initial payment toward your offer in compromise. This payment is also nonrefundable. If you filed multiple Forms 656, you must provide a separate payment for each copy of the form.
You can find all these forms in Form 656-B Booklet, Offer in Compromise. The booklet also provides instructions on how to fill them out.
If your income is low enough, you do not have to pay the application fee or submit an initial payment. The dollar cutoffs for low-income certification depend on your family size and where you live. For instance, in 2021, a single person in the lower 48 states would need an income of $31,900 or less to qualify. A table outlining the guidelines appears in the booklet.
If you’re seeking an OIC based on doubt as to liability, the paperwork is different. Instead of Forms 433 and 656, you submit a copy of Form 656-L, Offer in Compromise (Doubt as to Liability). In this case, you do not need to pay an application fee.
3. Choose a Payment Option
The initial payment you make depends on the payment option you choose. There are two ways to pay an offer in compromise:
- Lump Sum. You offer to pay the full amount of your OIC in no more than five payments over no more than five months. In this case, your initial payment should be 20% of the total offer amount. If the IRS accepts your offer, it will send you a written confirmation.
- Payment Plan. You offer to pay in monthly installments over six to 24 months. The initial payment is your first monthly installment. You continue making monthly payments while the IRS considers your offer. If it accepts, you keep making them until you’ve paid the full amount. However, if you qualify for low-income certification, you do not need to make monthly payments while awaiting a decision.
4. Submit Any Additional Documentation Requested
Form 433 asks a lot of questions about your income, expenses, assets, and home situation. The IRS requires reams of supporting documents to back up your answers to these questions. Depending on your situation, you might need to provide:
- Pay stubs
- Bank records for you or your business
- Account statements for all your investments
- Statements for all other income sources, including Social Security benefits, rental income, alimony, and child support
- Loan statements showing the amount owed and required monthly payment
- Court orders for any alimony or child support payments you reported as an expense
And that’s only a partial list. The Form 656-B booklet has full details.
Form 656-L also requires supporting documentation. For this form, you need to provide evidence to show your tax liability is wrong. That could include proof of your income, business expenses, or anything else related to your taxes for the years in question.
5. Wait for a Response
When the IRS receives your OIC package, it puts your fee and initial payment toward your tax liability. When you submit your paperwork, you may choose to apply these payments to a specific tax year and tax debt.
Next, the IRS may choose to file a federal tax lien. This document lets other creditors know the IRS is making a secured claim on your assets.
At this point, the IRS suspends its other collection activities while it considers your offer. The statute of limitations on your tax debt is temporarily paused during this time.
If you have an existing installment agreement with the IRS, as discussed below, you can stop making payments on it while awaiting a decision. However, if your OIC includes a payment plan, you must keep making monthly payments.
Eventually, the IRS will either accept or reject your offer. If it doesn’t decide within two years after receiving it, it’s accepted automatically. If accepted, you must make all the payments you agreed to in the offer.
Downsides to Applying for an OIC
An offer in compromise is not a magic wand that waves tax debt away. Applying for one has a lot of drawbacks, including:
- It Costs Money Upfront. Even if the IRS rejects your offer, your application fee and initial payment go toward your tax bill. But when you’re really struggling, coming up with even an extra $205 isn’t easy.
- It Costs Money in Interest. While you’re negotiating your OIC, interest on your tax debt keeps building up. That means if the IRS rejects your offer, you’ll be deeper in the hole than ever.
- It’s a Lot of Work. Applying for an OIC involves tons of paperwork and documentation. Doing your yearly taxes pales in comparison to this. And the effort could all be for nothing since the IRS rejects most OIC applications.
- It Takes a Long Time. Legally, the IRS can spend up to two years considering an offer in compromise before deciding. If the IRS rejects your offer and you appeal, that adds several more months to the process.
- It Can Make Tax Problems Worse. Giving the IRS information about your assets is risky. If the IRS rejects your offer, it can use that information against you, seizing those assets to cover your tax debt. So it’s a bad idea to submit an offer if it’s not likely to be accepted.
- It Stops the Clock on Tax Debt. By law, the IRS cannot collect on tax debts that are more than 10 years old. But if you apply for OIC, it “tolls” your debt, stopping the clock while the IRS reviews your offer. If your tax liability is close to the 10-year mark, pursuing an OIC makes it harder to escape your debt by running out the clock.
- The IRS Gets Everything. Typically, an offer in compromise includes pretty much all your assets. If the IRS accepts your offer, you must do whatever is necessary to pay the debt in full, potentially including draining all your accounts, selling your home, and liquidating all your valuables. You might be starting over again from zero.
- It Could Be Revoked. Paying off an offer in compromise may not be the end of your tax problems. For your OIC to be final, you must stay compliant on taxes for five years afterward. Slip up once, and you’re back on the hook for all that canceled debt.
Alternatives to an OIC for Repaying Unsettled Tax Debt
If you want to pay your tax bill but need more time, an offer in compromise is not your only option. Two alternatives worth considering are a payment plan or a temporary collection delay.
With a payment plan, you agree to pay the full amount of your tax liability over time. The IRS offers payment plans for both individuals and businesses. There are two main types: short-term plans and longer-term installment agreements.
With a short-term payment plan, you agree to pay all tax debt within 180 days. This option is open to anyone who owes less than $100,000 in tax, penalties, and interest. You can make your payments by check, money order, credit card, debit card, or direct withdrawal from your bank account.
A short-term payment plan is free to set up, but you continue to pay interest and late fees on your tax debt until you pay off the balance. If you choose to make card payments, there are additional fees.
An installment agreement is a long-term payment plan with monthly payments. You can only use this type of plan if you owe less than $50,000 in taxes and have filed all required tax returns. On debts of $25,000 or less, you can use the same forms of payment as for a short-term plan. You can only pay by direct withdrawal if you owe more than $25,000.
Installment agreements have more fees than short-term plans. A plan with direct withdrawals costs $31 to set up on top of interest and late fees. However, this setup fee can be waived for low-income taxpayers. If you do not use automatic payments, the setup fee is $130, reduced to $43 for low-income taxpayers. Fees for card payments also apply.
Both types of payment plan are much easier to apply for than an offer in compromise. You can apply online with nothing but a photo ID, your bank information, and the number shown on your tax return for the balance due.
Temporary Collection Delay
If you’re facing economic hardship, you can ask the IRS to delay collecting your tax debt until your finances improve. The debt does not go away, but the IRS stops attempting to collect it. However, you continue to accumulate interest and penalties until you pay the debt.
You can request a collection delay by calling the IRS at 800-829-1040 or the phone number on your bill or notice. The IRS may ask you to fill out a Form 433, complete with documentation, before approving your request. However, you do not need to fill out Form 656.
If you delay collection long enough, you can run out the clock on your debt. If the IRS doesn’t succeed in collecting it within the 10-year statute of limitations, it has to stop trying. So if you have unpayable tax debt that’s close to 10 years old, a delay can be better than an OIC.
Your Offer in Compromise Was Rejected — Now What?
If the IRS rejects your offer in compromise, it usually makes a counteroffer saying how much it would accept. You can ask for a copy of the report showing why it rejected the offer.
At this point, you have two choices. If you think the rejection was unfair, you can appeal it within 30 days. You can either use Form 13711, Request for Appeal of Offer in Compromise, or a letter with details about yourself, your offer, and the reasons you think the rejection was inappropriate.
The IRS Independent Office of Appeals provides details about what information to include in your appeal request. Mail the request to the office that sent the rejection letter and wait for a response.
Your other option is to keep negotiating. After you determine why the IRS rejected the offer, you can make some adjustments and resubmit it. The IRS officer who dealt with your case initially may be able to help you come up with an acceptable offer.
If you submit a new offer that’s close to the first one within a month, you don’t need to redo the paperwork. Just write a letter naming the amount of your revised offer. However, if your new offer is dramatically different or your financial circumstances have changed since you submitted the first one, you must submit a new Form 656.
IRS Offer in Compromise (OIC) FAQs
If you’re considering an offer in compromise to clear away tax debt, there are a few more things you need to know. These answers to several common questions will help you decide if an OIC will work for you.
How Much Should My Offer in Compromise Be?
In most cases, the IRS only accepts an offer in compromise if it’s the most you could possibly pay within a given period. Form 455 provides a formula for calculating an offer amount:
- Add up all your household income from all sources.
- Subtract all your essential household expenses.
- Multiply the result by 12 for a lump-sum offer and 24 for a payment plan.
- Add all your personal and business assets. That includes cash in your accounts and the amount you could get for all your other valuables if you sold them quickly.
The total is the minimum amount you can offer in most cases. However, the IRS may consider a lower offer in special circumstances. For example, it often makes exceptions for people who are over 60 or have physical or psychological disabilities that make it hard to earn a living.
To make your case for a lower offer to the IRS, explain your circumstances on Form 656. Add extra pages if necessary, and provide medical records or other documents to support your claims. If the IRS accepts your explanation, your OIC can be as little as $1.
What Percentage of Offers in Compromise Does the IRS Accept?
According to tax firm Jackson Hewitt, the IRS accepts an average of 1 in 3 offers. From 2010 through 2019, acceptance rates ranged from 25% to 43%.
How Hard Is It to Get an Offer in Compromise?
It definitely isn’t easy. Just applying for one is a lot of work, and you have to wait a long time for the IRS to consider your offer. And the IRS only accepts roughly a third of offers. You’re probably better off exploring all other payment options first.
What Happens When You Default on an Offer in Compromise?
If you agree to an offer in compromise and then fail to pay up, the IRS can sue you. It can try to collect the entire balance of the offer or, worse, the full amount of your original tax debt, minus any payments you’ve made already.
If this happens, any penalties and interest the IRS waived as part of your OIC agreement are reinstated. The agency can place liens on your property and levies on your accounts to collect the money by force.
What Is the Offer in Compromise Program?
The offer in compromise program is a federal program that allows you to settle tax debt for less than the amount you owe. If the IRS determines you’re unable to pay what you owe, you can wipe out the debt for as little as $1.
However, the benefits of the OIC Program are not available to everyone. There are strict eligibility standards, and most people who apply for an OIC don’t get it.
What Is IRS Form 656?
Form 656, Offer in Compromise, is one of two forms you must complete to apply for an OIC. It requests personal information like:
- Your name and address
- Your income
- Your business, if the offer in compromise is for a business debt
- The reason you’re requesting an offer in compromise
- The dollar amount and terms of your offer
An offer in compromise can be a chance to free yourself from tax debt and make a fresh start. However, it’s not an easy solution. It’s a lot of work to apply for an OIC, and it doesn’t always succeed. And even when it does, it usually leaves you with nothing.
If you think an offer in compromise is the best option for you, don’t respond to one of those TV ads, which are often bait-and-switch scams. The companies charge high fees, and sometimes, they don’t even bother to submit your OIC paperwork to the IRS. Instead, either fill out the papers yourself or work with a trusted tax professional from H&R Block or an attorney.
And remember, if the IRS accepts your offer in compromise, that doesn’t mean you’re off the hook. You must pay back the money as agreed and stay current with tax payments, or the deal’s off. So before applying, ensure you have a plan to make the payments.