Practitioners considering making an offer in compromise to the Internal Revenue Service on behalf of a client are faced with significant changes to the program. While negotiating an OIC has not been an option for most taxpayers, the changes in several key features mean that it will no longer be a feasible option for some.Topping those new OIC guidelines is a rule in which taxpayers filing a lump-sum offer must pay a non-refundable deposit of 20 percent of the offer amount with the application.
That upfront payment may be too steep for many taxpayers in trouble, say experts. "The 20 percent nonrefundable deposit will stop all offers funded by a mortgage on property, or large-dollar offers where the deposit exceeds $250,000," said Dave Levine, an enrolled agent in Reno, Nev., and a former IRS revenue officer. "For the past few months, I've been telling my clients that if the debt is over $100,000, plan on going through the appeals process, since large-dollar offers are seldom approved at the lower levels."
Among other changes is a redesigned checklist to help taxpayers determine whether they are eligible to file an OIC before they invest time in preparation. If they feel they are, and choose to go this route, Levine recommended consulting a tax professional.
"The program is tough, and self-prepared OICs have a very low rate of approval," he said. "On the other hand, it's workable with a highly trained professional."
Robert Brennan, CPA and a director in the litigation department at the Philadelphia office of CBiz, agreed. Brennan, who also is a former IRS agent, said that most revenue agents have the attitude that, "'We're here to collect the tax, not to forgive it.' It goes against the grain of what they're taught."
"However, if you get the right person across the table, you can negotiate a good OIC," he added.
The 20 percent down-payment rule was enacted as a "pay for" in the Tax Increase Prevention and Reconciliation Act of 2005, and became effective for offers submitted on or after July 14, 2006. The measure has been criticized for discouraging use of the program, since the IRS has up to two years to consider the offer, and the deposit will not be returned even if the offer is refused.
Other OIC changes center around the proposed payment schedule, in which the taxpayer is mandated to comply with his own proposed payment schedule for a periodic payment offer while the offer is being considered, and the authorization of the IRS to allow offers from certain low-income taxpayers.
An offer is deemed accepted if the IRS does not make a decision with respect to it within two years from the date that the offer was submitted.
"These changes don't benefit anyone," remarked E. Martin Davidoff, CPA, Esq., chair of the American Association of Attorney-CPAs. "The new law discourages many offers that were accepted before, so taxpayers are much less likely to get a fresh start and the IRS will see fewer funds collected."
"That's the killer," agreed Brennan. "You don't get [the down-payment] back."
"If you owe a million, [and] you make an offer of $160,000, now you need a $32,000 down-payment which you don't have," he explained. "Your brother-in-law might be willing to lend you the money, but he says, 'What if you don't get it back?' He won't lend it to you if he knows you won't get it back."
However, it can still be a good tool if everything lines up, according to Brennan. "The right candidate might be someone whose health is not the greatest, whose income is declining and who's getting older," he said. "They have a large liability and would like to get it over with and offer a lump sum. Those are good ingredients. Seizing assets is not as easy as you might think. So you're saying to the IRS, 'Instead of you trying to seize assets, here's everything I have, and I'll give you a percentage of that.'"
"The IRS has an aversion to the advertisements that claim you can pay 'pennies on the dollar' to the IRS, because it makes the general public think they don't have to pay their full tax liabilities," Brennan said. "In actuality, only a very few fit the specific pattern that might be accepted."
"That's not to say that a younger guy in his 30s who was hurt in the dot-com bust won't have his offer accepted," Brennan said. "The IRS has 10 years to collect. Their position is, 'Do we wait 10 years, or do we make a deal today?' The older guy in bad health with his income declining seems like a better deal to the IRS, whereas a younger taxpayer who had a few great years but is now down on his luck may make a recovery and have good years ahead of him. It's very much a judgment call on their part."
One of the factors used by the IRS is reasonable collection potential, which is the difference between monthly income and monthly expenses. "The problem is that what you think is a reasonable expense is not necessarily an expense in the judgment of the IRS," said Brennan. "They will do everything they can to make it small compared to what you have."
"For example, your average mortgage payment is $2,500, but they'll take the average of where you live, which might be $1,500. The difference between your income and what they allow as monthly expenses is multiplied by 48 or 60, depending on the type of offer. That's where all the problems come in the system. Your value may be one thing, but the IRS says it's more. It requires tremendous paperwork in appraisals."
Brennan said that it's relatively easy for a W-2 taxpayer to show income, but what if he's self-employed? "It varies from year to year, and the IRS will generally use the most current year if it's high, but if it's low, they'll take an average," he explained.
"Income can be a problem, but 90 percent of the problems are on the expense side," he said. "They won't allow anything that's higher than the average in the area. My experience is that those standards are always substantially lower than actual payments of the taxpayer. Basically, they're telling you to find a borrowing source to pay them the money and then pay back that source. They don't allow a lot of movement off those standards."
Meanwhile, the national standards, which apply to food, housekeeping supplies, apparel and services, and personal care products and services, haven't been revised since January 2006.
"These tables are normally revised each January 1 based on the prior year's statistics," said Davidoff. According to the IRS, the new tables were scheduled to be ready at the end of April. Until the new tables are ready, revenue officers had been advised to continue to use the 2006 tables without any adjustment in determining installment agreements and OICs.
Assuming a 2.5 percent rate of inflation, Davidoff said that up-to-date tables would make a difference of $139 a month based on standard expenses, housing and transportation for a family of four in suburban Rockland County, N.Y. "That may not seem like a lot, but when the IRS is eliminating all discretionary spending, it can be a pinch," he said.
Said Davidoff, "However, the real impact is on offers in compromise where these numbers are magnified by a factor of 48. Thus, an offer in compromise evaluated during the first quarter of 2007, using tables that are 2.5 percent too low, will overtax the applicant by $6,672. That can make the difference between a person being able to do an OIC and not being able to do so."
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