The IRS Can Make Offers in Compromise
IRC Section 7122 authorizes the Internal Revenue Service to compromise any civil or criminal case arising under the internal revenue laws unless it has been referred to the Department of Justice for prosecution or defense. The Internal Revenue Service may compromise any tax controversy when there is doubt as to tax liability or collectibility, or it is in the best interests of the government. Compromise results in taxpayer paying less than asserted liability and closes taxpayer’s entire tax liability for covered period. A compromise may be set aside in limited circumstances.
What is an Offer in Compromise
A compromise is a particular type of settlement of a tax controversy. Compromises usually take place at the collection stage. They are agreements between the Internal Revenue Service and a taxpayer allowing the taxpayer to pay the government less in taxes than the asserted tax liability. Compromises are governed by the rules applicable to contracts.
Grounds for an Offer in Compromise
The Internal Revenue Service has complete discretion whether to enter into a compromise, and will entertain an offer in compromise only if it is based on one or both of the following grounds:
- doubt as to the taxpayer’s liability for the tax
- doubt as to the collectibility of the tax; or
- if it is in the “best interests” of the government.
Most compromises allow a taxpayer to pay the government less in taxes than owed, and are based on the taxpayer’s inability to pay the admitted tax liability (including penalties and interest).
Covers All Tax Matters
A compromise is generally not limited to one issue or transaction. Rather, a compromise is deemed to close the taxpayer’s entire tax liability for the period covered, including liability for taxes, penalties, and interest. Thus, compromise as to part of a tax liability (a penalty, for example) may have the result of foreclosing the right to dispute other parts of the tax liability.
Procedure for an Offer in Compromise
Form 656 – The Cover Page
An offer to enter into a compromise agreement is called an Offer in Compromise. Offers generally are made by the taxpayer and must be made on Form 656 This serves as the “cover page” for the written position statement and supporting documents usually included to bolster the taxpayer’s arguments.
Waive Statute of Limitations
As part of the offer in compromise, taxpayers are required to waive the benefit of the statute of limitations on assessment or collection of the tax, thereby affording the Internal Revenue Service time to review the offer. This gives the IRS more time to collect the taxes if the Offer is rejected. The waiver is effective during the time the Offer in Compromise is pending plus one year. This is a significant deterrent to submitting an Offer in Compromise especially when the tax is older and the statute of limitations on collections may expire within the next year or two.
20% Non-Refundable Deposit
Remittance of the amount offered in the proposed compromise, or a non-refundable deposit of 20% must accompany the offer. This non-refundable deposit requirement makes many offers impractical.
For offers based on inability to pay, taxpayers must submit a statement of financial condition (Form 433A – individuals or Form 433B – businesses) to enable the Internal Revenue Service to analyze the taxpayer’s ability to pay. The Internal Revenue Service will require that the amount offered reflect the maximum amount collectible from the taxpayer’s current income and assets, and may also require, as additional consideration for entering the agreement, that the taxpayer execute one or more collateral agreements to secure additional payment from his future income or to provide that the taxpayer forgo certain other tax benefits. The 433A asks if the taxpayer made any transfers within the past 10 years for less than the Fair Market Value. If the IRS determinesa the taxpayer dissipated assets, the IRS will include the value of the assets as subjec to the Offer.
Enforceability of a Compromise
After an offer is accepted by the Internal Revenue Service official who has been delegated the authority to do so, the agreement is binding and is enforceable as a contract, according to its terms. Neither party may reopen a compromised case. The only grounds upon which a compromise can be set aside are:
- mutual mistake of fact as to the agreement
- falsification or concealment of assets by the taxpayer
- grounds sufficient to set aside a contract generally.
A requirement of an accepted compromise is that the taxpayer timely file and timely pay all required tax returns for a period of 5 years. If the taxpayer files late or pays late, the IRS can void the compromise agreement.