The average offer in compromise the IRS accepted in 2015 was $7,585. That doesn’t sound bad, does it? Well that depends on how much you owe!
How do we get to that amount? In 2015, the IRS approved 27,000 offers in compromise with a total value of $204.8 million. (Source) Divide $204.8 million by 27,000 and, presto, you get an average offer in compromise of $7,585.
Of course, that number is meaningless. The real question is “how much will the IRS settle for in my case?” Not some hypothetical average. This article will look into how the IRS determines eligibility for the Offer in Compromise program and how it calculates the minimum offer it can accept.
What is an offer in compromise?
The Offer in Compromise program is a powerful tax relief program designed to reduce the tax liability of struggling taxpayers. When used correctly it can save you thousands of dollars. Unfortunately, not everyone with tax debt qualifies for the program.
In a nutshell, the Offer in Compromise is a settlement or agreement between you and the IRS. The IRS is like any other creditor. If you can convince them that you can’t afford to pay your entire debt, they prefer you pay something over nothing. Let’s say you owe the IRS $50,000 and there is no way you can afford to repay that amount before the 10 years the IRS has to collect taxes ends. You have two options. You can wait out the 10-year statute of limitations or pay an offer in compromise.
Although just waiting for the statute of limitations to expire may seem like an attractive option, few people go down that route. Remember the IRS can seize all your assets, including your wages and savings, and you will probably have bad credit for years.
What are the chances the IRS will approve your Offer in Compromise?
In 2015, the IRS received 67,000 offer in compromise requests, but only approved 27,000 of them.
That is a rejection rate of 59.7%! Or, if you’re an optimist, an approval rate of 40.3% The good news is the IRS is approving more and more applications every year. In 2014, the approval rate was 39.7%.
Again, these are just averages and don’t carry any weight when it comes to your personal application. The IRS approval rates are dragged down by frivolous applications of taxpayers who simply apply in the hope they catch an IRS officer who is asleep at the wheel.
Professional tax relief firms often have acceptance rates of 90% and higher. This is because they only submit applications when they know the taxpayer meets the requirements and they knwo the IRS has to say yes. Using a professional tax relief company could help you save time and money on pointless applications.
How does the IRS calculate the minimum offer in compromise it will accept?
The IRS formula to calculate your offer in compromise is a two-step process based on your monthly cash flow and the value of your assets. The formula looks like this:
Let’s break that formula into its two main components.
First, the IRS needs to determine how much you could afford to pay every month if you were to arrange a standard installment agreement. To calculate this the IRS asks for your paystubs or a recent profit and loss statement if you own a business.
The IRS then needs to know the dollar amount of your allowable living expenses. These are basic monthly expenses, such as housing, utilities, car (non-luxury) payments, clothing, and food. Notice the IRS may require you to limit your living expenses to levels it considers “reasonable.”
The IRS then subtracts your allowable living expenses to your income to see how much you could afford to pay every month. This amount will be used to determine the offer in compromise.
To illustrate, let’s say you have a monthly income of $3,000 and monthly living expenses of $2,500. Your monthly balance would be $500.
If you choose to pay your offer in compromise in five months, multiply your monthly balance by 12. That would amount to $6,000, if we are using the example above.
In cases when taxpayers can’t pay the settlement in five months, the IRS multiplies the monthly balance by 24, which using the example above amounts to $12,000. Yes, the IRS is willing to give you a larger discount if you pay your settlement back faster. Of course, at this stage you don’t know how quickly you can repay the offer in compromise. You still need to calculate the value of your assets, which leads us to step 2.
Second, the IRS estimates the value of your assets. This includes your car, house, retirement plan, jewelry, and other valuables. How is your stuff valued? First the IRS deducts any loans or mortgages you have on each asset and reduces its value by 20%. Let’s say your own a house worth $200,000 but you still owe $195,000 on it. For the purposes of your offer in compromise, your house is worth $4,000 ($5,000 x 0.8). Add to that the $1,000 you have in your bank account. Your car is worth $10,000 but you still owe $8,000. Apply the 20% asset value reduction and your car is worth $1,600. Your total asset valuation is $6,600.
That’s it. Just add your monthly cash balance – multiplied by 12 or 24 – to your asset value and you have an offer in compromise the IRS can live with.
On average, that formula yields a total of $7,585, but it could be more or less in your case.
Should you apply by yourself or hire a professional tax relief firm?
If you owe less than $5,000, you probably should try to negotiate with the IRS directly. Although tax relief firms are valuable assets to have on your side when negotiating a settlement with the IRS, their fees can outweigh the savings they generate when dealing with small tax debts.
However, if your tax debt is larger or you’re concerned about a tax audit, you should seriously consider hiring a certified tax relief company that has tax attorneys and CPAs on staff. Click here to get a free consultation with a senior tax professional. Find out, for free, what tax relief programs you qualify for.
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