Negotiating an offer in compromise (OIC) with the IRS can be confusing and frustrating for individuals with substantial tax liabilities. To help, we’ve compiled a few tips to simplify and streamline the process of determining the true value of your assets and negotiating the best possible OIC for you and your family.
If you would like professional help with your OIC application from our team of tax attorneys and paralegals, please complete the form on this page or call our Baltimore office directly at (410) 793-1231 to schedule your free, no-obligation consultation.
What Is the Offer in Compromise Program?
The Offer in Compromise program (again, OIC — the program and the offers it generates have the same name) is a part of the IRS Fresh Start program that’s meant to help taxpayers with significant tax liabilities who cannot satisfy their debts in full. OIC is a valuable program that can really work for people with major tax liabilities who are serious about getting back into compliance.
In most cases, when making an OIC, the State of Maryland or the IRS will negotiate a figure that is close to the greatest amount they could possibly recover over a defined period of time but still less than the taxpayer’s actual liability.
Specific eligibility requirements do exist, but in general, individuals who aren’t in bankruptcy proceedings and whose tax filings are current may qualify for the program. Additionally, if you are already enrolled in a payment program or installment agreement, you are likely not eligible until you have completed the requirements of that arrangement. Businesses are also eligible for the program, but their tax filings must be current, they must have paid estimated payments, and submitted employees required federal tax deposits.
Keep reading to learn how the IRS determines an OIC repayment figure and how you can get the most savings.
The Asset-Equity Formula
There are two primary components to every offer in compromise: 1) the amount the IRS believes you can pay in monthly installments; and 2) your net realizable equity (NRE).
The method the IRS uses to determine your NRE is known as the “asset-equity formula.” When applying this formula, the IRS will account for the fair market value of each of your assets, then subtract the following:
- Quick Sale Value: The IRS reduces the value of your assets by a certain amount (usually 20%) to arrive at the price you would get if you had to sell those assets quickly, without time to consider lots of different offers and get the best price.
- Mortgages and Bank Loans: If you have any liens or mortgages on your assets, the IRS will subtract the value of those liens or mortgages from the quick sale value.
- Property Exclusions: The IRS sometimes excludes the value of an asset on public policy grounds. For instance, the IRS isn’t going to punish individuals with income-producing property (such as a snowplow truck or video production materials) or force people to sell their house and live out of a small apartment to pay off their tax debt.
Determining the Equity in Your Assets
The asset-equity formula relates to each taxpayer in numerous ways, depending on their unique circumstances. Below are some examples.
Home Equity for Offer in Compromise: If you own a home with a fair market value of $200,000, the IRS would reduce that number by 20% (multiply by .8) to $160,000 to arrive at the quick sale value.
Let’s say you still owe $120,000 on the mortgage; that would make the initial value of your OIC $40,000 ($160,000-$120,000). However, if you don’t have any equity in the home, you cannot offer the IRS anything toward a settlement. If you can show the IRS two rejection letters from different banks where you attempted to withdraw funds to pay your tax debt, this might also satisfy this element.
Vehicle Equity for Offer in Compromise: The same formula applies to any vehicles you own, but the IRS demands an additional exclusion of $3,450 for all cars, planes, and boats.
So, if you own a car with a value of $20,000, but you still owe $10,000 on your loan, the net equity of the vehicle is $2,550 ($20,000 x .8 ─ $10,000 ─ $3,450 = $2,550). Again, if there’s no equity in the vehicle, you cannot offer the IRS anything toward a settlement.
Personal Possession Equity for Offer in Compromise: As with your home and vehicle(s), the first step is to determine the quick sale value of each item by subtracting 20% from the value of your personal possessions. From the total quick sale value of these possessions, the IRS allows an additional exclusion of $6,250 per person.
So, if your total possessions have a $40,000 fair market value, they are automatically knocked down to a quick sale value of $32,000 ($40,000 x .8). Now let’s say there are two people living in the home who jointly own all the property. This would mean there would be $12,500 ($6,250 x 2) in total exclusions, leaving the net equity toward an offer in compromise at $19,500 ($40,000 x .8 – $12,500 = $19,500).
Cash Equity for Offer in Compromise: The IRS will consider all the cash you have on your person and in your bank account(s) as an asset toward determining an offer in compromise. In most cases, the IRS examines your most recent banks statements to arrive at an average daily balance over the previous three months (six months for self-employed individuals). They will then add any cash you have on hand or in the home to determine the full value of your cash assets.
The IRS automatically allows an exclusion of $1,000 to account for living expenses. If average living expenses exceed this amount, additional exclusions could be allowed based on the IRS’ allowable living expense guidelines.
Considering an Offer in Compromise? S.H. Block Tax Services Can Help!
As you can see, negotiating the best possible amount with the IRS or the State of Maryland during the offer in compromise process can get complicated in a hurry. If you are interested in learning more about this valuable program or would like additional help calculating the value of your assets, please contact our offices by calling (410) 793-1231 or completing the brief form on this page.
We offer free consultations and have helped thousands of taxpayers lessen or even eliminate their tax debts, and we would love to help do the same for you!