How the IRS Decides Whether or Not to Accept Your OIC

How the IRS Decides Whether or Not to Accept Your OIC

• Mar 29, 2022

An offer in compromise (OIC) is a tax settlement option that the IRS offers to taxpayers who cannot pay their tax bill with their current assets and monthly income. This is often a very difficult payment option to qualify for, but if the IRS accepts your settlement offer, you can clear your tax debt for less than what you owe. How does the IRS decide which offers to accept and which to reject? Here’s a little look at how they determine whether or not it is in their best interests to accept an OIC application.

Why Are OICs So Hard to Get?

For starters, why is an OIC so hard to get anyways? The requirements for an OIC are quite strict, and require that you prove beyond any doubt that you cannot pay your tax liability before the IRS’s collection statute expires. (This typically happens 10 years after the tax is assessed.) However, the IRS isn’t looking just at your disposable monthly income; they’re examining all of your assets and income when determining what you can afford to pay.

So, while you may feel like there’s no way you could reasonably afford your $20,000 tax debt based on your current income and expenses, the IRS may look at your retirement accounts and see plenty of savings that could be liquidated to settle that debt. Of course, this isn’t something anybody wants to do, but assets like these are the main reason that most people won’t qualify for an OIC.

In addition to this, an OIC can actually be difficult to afford. Even though it allows you to settle your debt for less than what you owe, an OIC requires you to pay that settlement amount in one lump sum. Producing that much upfront is difficult for many taxpayers.

How Do They Decide to Accept an Offer?

If you do qualify for an OIC, there’s still the matter of whether or not your offer will be accepted—qualifying is not the same as actually receiving the settlement offer. With an OIC, it is the taxpayer that proposes a settlement amount, and the IRS will determine whether or not to accept that amount in place of the full tax debt.

As we already mentioned, the IRS will carefully examine every detail of your finances when deciding whether or not to accept your offer, and ultimately, it comes down to whether or not your offer is the most they can reasonably expect to collect from you before the collection statute expires. This amount is known as the “reasonable collection potential,” or RCP, for your account, and it provides the base formula for determining whether or not your offer will be accepted.

While the exact formula and calculations are a bit more complicated, here are the basics: Your RCP is equal to the equity in your assets, plus a portion of your future monthly disposable income. (Typically, the IRS will look at anywhere between 12 and 24 months of your income during these calculations.) If your offer is close to the RCP that the IRS calculates on your debt, odds are high that your OIC will be accepted.

An Example for Calculating a Settlement Amount

We know this can all sound a bit vague and confusing, so let’s nail it down with an example. Let’s say you owe $50,000 in taxes, your only asset is your home, and you have a monthly income of $5,000. The IRS would assess the quick sale value of your home—let’s say $230,000—and subtract your remaining mortgage loan amount—$210,000—to calculate the realizable equity of your assets—in this case, $20,000.

They would then examine your income and expenses. As already mentioned, we’ll say your monthly income is $5,000, but you also have $4,800 in allowable living expenses. (These expenses can include categories such as food, clothing, housing, utilities, transportation, medical, child care, and more.) This leaves you with $200 in monthly disposable income.

So now, we have your NRE: $20,000 in equity, plus $200 per month. Let’s say the collection statute on that $50,000 tax debt only has 6 years left on the collection statute, or 72 months. This means that by the time the statute expires, the IRS could reasonable expect to collect $34,400 from you ($20,000 in equity, plus $200 a month for 72 months). In this example, you would qualify for an OIC, and if your offer is near enough to your NRE, you’re very likely to have your offer accepted.

We know that these calculations can seem daunting, and we want to ensure you have the best chance possible of settling your tax debt. Contact the IRS Advocates today to speak with an expert and learn more about submitting an application for an offer in compromise.