Offer In Compromise Mistakes That Can Cost Taxpayers Time And Money

On Behalf of the Law Offices of Sammy Kim

Quick Summary

An Offer in Compromise allows a taxpayer to settle an IRS tax liability for less than the full amount owed. The IRS accepts OIC applications when it concludes that accepting less is in the government’s best interest, either because full collection is unlikely or because requiring full payment would create an economic hardship. Most OIC applications are rejected. Understanding the common mistakes that lead to rejection helps taxpayers decide whether to apply and how to submit a defensible offer.

Applying Without First Checking Eligibility

The IRS uses a formula to calculate a taxpayer’s reasonable collection potential, which is the minimum offer amount it will consider. That formula takes into account assets, monthly income, necessary living expenses, and the remaining collection period.

A taxpayer who submits an offer below the calculated reasonable collection potential is likely to be rejected without the IRS giving meaningful consideration to the submission. The IRS applies this formula mechanically. Submitting below that threshold wastes the application fee and the collection statute tolling period, the OIC submission pauses the collection clock, but that pause is wasted if the offer was not viable to begin with.

Calculating collection potential before applying tells you whether an OIC is worth pursuing. In many cases, an installment agreement or another collection alternative is a better fit. An attorney can run the calculation before an application is submitted.

Submitting With Unfiled Returns

The IRS will not process an OIC if the taxpayer has unfiled tax returns. All required returns must be filed before submitting. There is no exception to this requirement.

A taxpayer who is behind on filings must become current before applying. This means filing all delinquent returns, even if the taxpayer cannot pay the resulting balance. The IRS distinguishes between failure to file and failure to pay, failing to file while an OIC is pending is treated as a compliance failure that can result in the offer being returned or rejected.

In some cases, the process of getting current on filings changes the OIC calculation because the additional balances affect the total liability and the collection potential analysis. Having an attorney review all the periods before submitting ensures the offer reflects the full picture.

Failing To Make Current Tax Payments

The IRS also requires that the taxpayer maintain current compliance during the OIC process. For self-employed taxpayers, this means making required estimated tax payments for the current year. For W-2 employees, it means ensuring withholding is sufficient.

If a taxpayer misses a required estimated payment while an OIC is pending, the IRS can return the offer. Current compliance is required from the date of submission through the date the IRS accepts or rejects the offer. An OIC that takes six months to process is six months during which estimated payments and filing obligations must be maintained.

Taxpayers who fall behind on current obligations while their OIC is pending often lose the offer and have to start over. Establishing a sustainable payment schedule for current taxes before submitting the OIC prevents this failure mode.

Omitting Assets Or Understating Income

The IRS investigates OIC applications. It cross-references the financial information on the application against tax return data, third-party reporting, and public records. Omitting a bank account, understating business income, or failing to disclose an asset will result in rejection and can escalate to a fraud referral.

Every asset and every income source must be disclosed on the OIC financial statements. This includes assets that are not in the taxpayer’s name but that the taxpayer effectively controls, interests in businesses or real estate, retirement accounts, and any expected inheritance or other asset. The IRS verifier knows what to look for.

An attorney reviewing the application before submission can identify disclosure issues before they become a rejection reason. A rejected application due to omission is recoverable, but a fraud referral is a significantly more serious problem that can lead to criminal investigation.

Not Understanding The Lump Sum Versus Periodic Payment Options

An OIC can be structured as a lump sum cash offer or as a periodic payment. With a lump sum offer, the taxpayer submits 20 percent of the offer amount with the application and pays the balance within five months of acceptance. With a periodic payment offer, the taxpayer makes monthly payments during the evaluation period and for up to 24 months after acceptance.

The collection potential calculation differs between the two offer types. A lump sum offer uses a lower multiplier on future income, which means the minimum acceptable offer is lower. Choosing the right payment structure based on the taxpayer’s actual financial situation, rather than whichever sounds easier, can mean the difference between an accepted and a rejected offer.

When An Offer In Compromise Is And Is Not The Right Tool

The Offer in Compromise is the most advertised IRS collection alternative, but it is not always the most appropriate one. A taxpayer who owes a modest amount and has stable income may be better served by an installment agreement than by an OIC process that can take a year or more to resolve. The question is not whether the OIC exists but whether the taxpayer’s collection potential calculation makes it a viable option.

Taxpayers who have both examination disputes and collection issues sometimes benefit from resolving the examination first through an IRS appeal before submitting an OIC. If the audit dispute reduces the underlying liability, the OIC calculation changes, the reasonable collection potential applies to the correct final liability, not to an inflated proposed adjustment. Sequence matters.

The IRS also considers doubt as to liability as a separate basis for an OIC, distinct from doubt as to collectibility. A taxpayer who genuinely disputes whether the liability was correctly assessed, but who did not successfully appeal or whose appeal rights have expired, may still have a path to an OIC on doubt-as-to-liability grounds. This category is narrower and harder to qualify for, but it exists for cases where the examination record supports the position.

Understanding all available tools, appeals, installment agreements, OICs, penalty abatement, and Currently Not Collectible status, and how they interact is the basis of a comprehensive resolution strategy. No single tool works in every situation, and the right combination depends on the taxpayer’s specific facts.

Working With A Tax Attorney On OIC Applications

The Law Offices of Sammy Kim prepares and submits Offer in Compromise applications for taxpayers who have a genuine basis for compromise. Call now at (703) 202-1005 to evaluate your collection potential before submitting an offer.