1/23/2013 1:45 PM ET|
Negotiating with the IRS gets easier
New tax rules mean that you may be able to settle a large tax debt for a fraction of what you owe. But it still may not be the best option.
If you owe the federal government a tax debt, you may be able strike a deal to settle your debt for less than the full balance through a so-called "offer in compromise" more easily than in past years.
When considering a taxpayer's proposed offer in compromise to settle a tax debt, the IRS looks at the taxpayer's total equity in assets that it could seize for payment, as well as the present value of the amount it believes the taxpayer can pay each month toward the outstanding balance.
"While the rules about calculating the first part of the equation have not changed, the IRS has made a significant and favorable change to how it calculates the 'present value' of a taxpayer's ability to pay monthly," explains Larry Heinkel, a Florida tax lawyer. "Previously, the monthly ability to pay was multiplied by 48; now it is multiplied by 12."
Heinkel says this change is "gigantic."
Let's say your income is $4,000 a month and your allowable expenses (explained below) are $3,000 monthly. That means the IRS will assume you can pay $1,000 a month toward the debt you owe the agency. Under the old OIC formula, the IRS would multiply that $1,000 a month by 48 to arrive at the present value of your income stream and insist that you come up with at least $48,000 (plus equity in assets) to settle the debt.
But under the new rules, they will multiply that amount by 12 months. So, in the example above, the taxpayer would have to come up with only $12,000 (plus equity in assets) to settle the debt.
Practically speaking, it would be a lot easier for someone with few assets to, say, borrow $12,000 from a relative to resolve the debt than it would be to get their hands on $48,000.
Heinkel points out, however, that the IRS will not allow all of the taxpayer's living expenses in determining the ability to make monthly payments. Rather, only living expenses deemed necessary, based on state and national standards, are allowed. If your actual monthly expenses are higher, too bad. (For the self-employed, the IRS will look at the last six months of income and expenses to get an average monthly income figure.)
Does that mean this program is a slam dunk for taxpayers who can find the money to settle? Unfortunately, no. An OIC is unlikely be accepted if the taxpayer has transferred assets into someone else's name, or if accepting the offer would be against public policy -- such as settling a tax debt after a taxpayer is convicted of fraud. Additionally, the IRS may refuse to accept an OIC if it believes the taxpayer has other assets it can seize to pay the debt. And a lot of things are fair game, including IRAs and home equity.
To apply for an OIC, you must pay a $150 nonrefundable application fee and include 20% of the amount you are proposing to settle with upfront. If the application is not approved, that payment will go to the tax debt.
If the offer is approved, you'll have to pay the agreed-upon amount in no more than five payments over five months. If you need a longer installment plan, you'll have to multiply the amount you have available monthly to pay the IRS by 24 instead of 12, and pay the compromise amount over those 24 months.
"I still think bankruptcy is better than OIC in many cases, but if you have certain civil penalties, such as being responsible for unpaid payroll taxes that can't be discharged, maybe the OIC is good," Heinkel advises.
Finally, if you do pay off your tax debt through an offer in compromise, you'll be on what he refers to as "five-year probation." He warns: "For the next five years you must file your taxes on time and pay in full. If you don't, then the deal is off. The IRS keeps all the money you gave and you owe the rest of what you owed, plus whatever you now owe as a result of the new problem."
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My wife died the end of December 2010. When preparing my Income Taxes for 2010 three months later, I was still not thinking straight and made several obvious mistakes which reflected my distress. I under reported our joint income by $48,000.
I received a notice from the IRS, a bill for amounts unpaid and interest on the delinquent amounts. I had an accountant check it and when he confirmed the accuracy of the IRS claim I paid it in full.
My point is that an honest mistake or one made under the stressful conditions which I was encountering, are treated with fairly by the IRS. The IRS does not "cheat" the citizen like some citizens try to "cheat" the government and those who willingly pay what they owe.
So basically the message is that if you are a deadbeat who chooses not to pay your taxes you will get to pay a reduced amount. Gee, I wonder why anyone would want to pay on time.
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