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Korntved & Associates notes in BLUE and Red. We have provided notes to the IRS data regarding OIC acceptance rates.

The Impact of the Tax Increase Prevention & Reconciliation Act of 2005 (TIPRA) on the IRS’S Offer In Compromise (OIC) Program

By accepting a reasonable offer to compromise a tax debt, the IRS collects money it would not otherwise collect. We feel this statement is incorrect because the IRS should accept ALL offers. They spend too much time trying to reject offers and ultimately collect much less than they would if they just worked all offers for realistic amounts. It also turns a noncompliant taxpayer into a compliant one by requiring the taxpayer, as a condition of the offer agreement, to timely file returns and pay taxes for the following five years. Thus, reaching a reasonable offer in compromise (OIC) is a win-win solution for the taxpayer and the government.

IRS note: An IRS study found that about 80 percent of taxpayers in its sample with accepted OICs remained substantially compliant during the requisite period.).

TIPRA, enacted on May 17, 2006, requires any taxpayer seeking an OIC to submit a nonrefundable partial payment, equal to 20 percent of the offer, along with any offer to be paid in a lump sum or in five or fewer installments (called “lump sum” offers).

The National Taxpayer Advocate is concerned that the new partial payment requirements, and the IRS’s implementation of them, have reduced the accessibility of the OIC program to taxpayers who would otherwise submit good offers, particularly middle class taxpayers who have homes or qualified retirement plans. Such a reduction in OIC accessibility could, in turn, increase the number of unresolved IRS collection accounts, decrease federal revenue, and lessen voluntary compliance.

To better gauge the potential impact of the partial payment requirement on OIC submissions, in October 2006 TAS reviewed 414 OICs that the IRS accepted before the implementation of TIPRA. TAS determined that in about 70 percent of the accepted offers, the 20 percent partial payment was not available from liquid assets

IRS note: For purposes of the study, “liquid assets” included assets that could be liquidated and used for the TIPRA payment (e.g., cash, bank accounts, certificates off deposit, stock and securities) without incurring significant costs. For example, individual retirement accounts were excluded because a 10% additional tax on early distributions applies to early withdrawals.

The IRS brings out an important notes regarding collectivity of so-called liquid assets. Notice how the IRS calls cash-in-hand and bank account cash liquid assets. The IRS should take note that most people have just enough cash to pay bills and that is all. The cash in banks is always cycled to zero to pay monthly bills. So the IRS should never include cash from banks toward settlement. This part of IRS collectibility is really unfortunate and quite ridiculous – and it needs to be fixed to exclude operating cash for necessary monthly bills.

In other words, most taxpayers who submitted good offers that the IRS accepted would have had difficulty submitting those offers if the partial payment rules had been in place. 

We may already be seeing the initial effects of the 20 percent partial payment requirement.  The number of offers received and accepted has significantly declined since TIPRA was implemented in July of 2006. The number of offers submitted dropped by about 20 percent over the first eight months of FY 2007, from 37,764 in FY 2006 to 30,306 in FY 2007. Similarly, the number accepted over this same period has decreased by about 22 percent, from 10,083 to 7,842. Thus, TIPRA, or the IRS’s implementation of it, appears to be reducing good offer submissions.

Look at the statistics closely. The number of submitted offers dropped 20% in 2007.The acceptance rate is 26% (7,842 accepted / 30,306 submitted).

Keep in mind the acceptance rate does NOT include offers kicked back as non-processible (see below regarding down payment and other non-processible issues). See notes below for the actual calculation from IRS data!

The partial payment requirements may discourage good offer submissions by requiring payments that taxpayers cannot afford, and by increasing the cost to taxpayers when the IRS returns an offer without determining whether to accept or reject it. If a taxpayer fails to submit a partial payment along with the OIC or to meet various other requirements, the IRS returns it to the taxpayer as “not processable”.

See notes below for the dramatic affect non-processible offers have on the acceptance rate. The IRS likes non-processible offer situations because it makes their job a lot easier. So non-processible offers are VERY common.

When the IRS returns an offer as not processable, it refunds the $150 OIC user fee, but retains any partial payment. Further, if the IRS returns the OIC after accepting it for processing, the IRS retains both the partial payment and the fee.¹⁸ While the IRS will reconsider its decision to return an OIC in certain limited circumstances, the taxpayer cannot appeal the OIC return decision to the Appeals function.

The National Taxpayer Advocate recently recommended several legislative changes that could reduce the impact of the partial payment, which would also reduce non-processible returns, requirement, including:

1. Providing taxpayers with the right to appeal to the IRS Appeals function the IRS’s decision to return an OIC before or after accepting it for processing. This will most likely NOT happen.

2. Providing an exception to the partial payment requirement for taxpayers who do not have immediate access to current income and liquid assets that could be used to fund an offer without incurring significant costs (e.g., taxable income or penalties resulting from the withdrawal of assets from a qualified retirement plan or equity in a home that can only be accessed through a refinancing that requires federal tax lien subordination or release).  For those taxpayers who have immediate access to such funds, the partial payment requirement would be 20 percent (for lump-sum offers) of any current income and liquid assets (bit we would like bank account cash and retirement excluded) that could be disposed of immediately without significant cost; and

3. Applying the low income exception in cases where payment of the combined OIC user fee and partial payment (or borrowing for such payments) would cause an economic hardship.

If adopted, these recommendations would help to increase, or at least stem the decline in, good OIC submissions.

In FY 2007, as of May, the IRS had returned about 42 percent of all OICs either before (21.8 percent) or after (20.5 percent) accepting them for processing.

Keep in mind the IRS likes to give acceptance rates for processible offers so it looks like they are accepting a fair amount of offers. However, the IRS data provides more insight into the actual acceptance rate when ALL submissions are included in the calculations.

The IRS, as noted above, accepts 26% of processible offers. The ACTUAL amount of submitted offers, processible and non-processible,  is much higher at 72,157 (30,306 / 42%). Stated another way, 42% of the total 72,157 offers submitted were simply sent back to the taxpayer. The remaining 30,306 were worked. And 26% of those were accepted.

Now look at the acceptance rate for ALL offers calculated properly:

The ACTUAL acceptance rate is only 11% (7,842 / 72,157)!

This bears repeating. Korntved & Associates had suspected for a long time that only about 10-15% of all offers were actually being accepted. We never had the percentage of returned offers off the top until this Taxpayer Advocate report. Given those numbers, the IRS data actually prove Korntved & Associates assumption by calculation! We were correct all along.

The right to appeal OIC returns would give taxpayers (and the third parties who fund their offers) more confidence that if they play by the rules and submit an offer in good faith, the IRS is unlikely to return the offer unprocessed and retain any partial payments. Additionally, the recommended exceptions for taxpayers who cannot fund the full partial payment out of liquid assets (or cannot do so without experiencing an economic hardship) would enable them to submit good offers.

Even without legislation, however, the IRS could take similar steps to preserve accessibility of the OIC program. We would like to see the IRS become proactive here but do not hold your breath. The IRS could subject OIC returns to an appeals process without legislation. It could also use its discretion not to return offers that contain insufficient partial payment in cases where taxpayers could not make the partial payment out of liquid assets or without triggering an economic hardship. Although the IRS generally returns offers that do not include the TIPRA payment, TIPRA does not specifically require the IRS to do so. TIPRA provides that offers submitted without the partial payment “may be returned to the taxpayer as unprocessable.” Since the statute uses the term “may” rather than “will,” the IRS retains discretion not to return such offers. Indeed, under current procedures the IRS does not return offers that do not include the correct partial payment amount, as long as the taxpayer submits some partial payment. Thus, the National Taxpayer Advocate will urge the IRS and Treasury Department to issue regulations (and other guidance) that include measures, similar to those proposed in her 2006 ARC, to preserve accessibility of the OIC program.

IRS footnote: The conference report reiterates that “offers submitted to the IRS that do not comport with the payment requirements may be returned to the taxpayer as unprocessable.” (emphasis added). IRS also acknowledges such discretion.  It provides that offers received without the required partial payment may still be processed by the IRS if it “determines that continued processing of the offer is in the best interests of the government.”