The economy is fighting madly to recover. Yet many folks, especially business owners, are still suffering. Quite a few have delinquent income tax liabilities. If the amount you owe is staggeringly unmanageable, you might believe you'll never be able to repay the debt. You fear liens, levies and knocks on the door.
Then one day you hear a radio commercial: "Step right up! Pay pennies on the dollar to get rid of your tax liabilities!" Sounds like a miracle answer. But if you're smart, you're skeptical. Does the IRS really compromise with taxpayers? Will it really let you off the hook that easily? And can the firms that make these claims really help, or are they scamming taxpayers?
Five years ago, the IRS issued a warning (IR-2004-17) to taxpayers to check carefully before applying for Offers in Compromise. The IRS commissioner at the time, Mark W. Everson, said, "This program serves an important purpose for a select group of taxpayers. But we are increasingly concerned about unscrupulous promoters charging excessive fees to taxpayers who have no chance of meeting the program's requirements. We urge taxpayers to not be duped by high-priced promises."
As of this writing, the IRS accepts only 24 percent of all presented offers. Here's how to determine whether you meet the program's requirements.
If you are looking to compromise payroll tax liabilities, forget about it. The payroll taxes you failed to pay are considered a "trust" fund made up of employees' withholding taxes, which was never your money to begin with. For that reason, the IRS will not compromise. If you have a choice, always pay your payroll tax liabilities before you pay your income tax liabilities. And if you can only pay part of a payroll tax liability, add up the trust fund portion (the withholdings) and pay those. Be sure to indicate "trust fund-employee withholdings" on the memo line of your check.
You also need to consider the reason for the compromise request. There are two categories the IRS looks at: Doubt as to collectability and doubt as to liability. The first category is obvious--you don't have the money now and you won't have it by the time the statute of limitations--10 years from date the IRS assessed the tax liability--runs out. The second category pertains to an innocent spouse (my flaky ex owes this, not me) or involves changes to your tax return creating a new liability as the result of an audit or other adjustments. However, most offers in compromise fall under the heading of doubt as to collectability.
The IRS expects you to pursue other routes before trying for an offer in compromise. If you have room on a credit card, it expects you to use that means to pay up. It wants you to tap into family members and friends for loans, or refinance your house. It may want you to try for an installment agreement. This involves completing IRS form 9465, Request for Installment Agreement, and form 433-A, Collection Information Statement for Wage Earners and Self-Employed Individuals. From the data collected here, the IRS will determine whether you can comfortably make monthly payments toward your tax liability.
If it decides you cannot afford an installment agreement, it may deem you uncollectible. When that official designation comes down, you will be left alone for an entire year. No collection efforts, no garnishments, no liens, no levies; you enjoy a reprieve. Penalties and interest will continue to accrue, of course. But you won't have to worry about Roscoe and Vinnie showing up at your door. Once the year is up, the IRS will send you a threatening letter, designed to make you shudder and cry. But don't be alarmed. It's spit out from a computer and it's just the agency's way of getting your attention, of making you respond. Do so. Re-evaluate your financial status. Go for the installment agreement if you're able, get deemed uncollectible again or, if it looks like your dire straits will continue unchecked forever, consider an offer in compromise.
Stay tuned. In the next column I'll discuss how to complete form 433-A. You might be surprised to find that the IRS has a different take on your finances than you do.
Bonnie Lee is the founder of Taxpertise located in Sonoma, CA, a firm providing bookkeeping, payroll services, QuickBooks Training, income tax preparation, and tax problem resolution including audits, offers in compromise and other representation issues. She is also the author of Taxpertise: The Complete Book of Dirty Little Secrets and Tax Deductions for Small Business the IRS Doesn’t Want You to Know (Entrepreneur Press, 2009).