Photo by Nataliya Vaitkevich on Pexels
Dealing with outstanding tax debt owed to the Internal Revenue Service (IRS) can be a significant source of stress, impacting financial stability and peace of mind. Fortunately, the IRS provides several avenues for taxpayers to resolve their liabilities.
Among the most common are the Offer in Compromise (OIC) and the IRS Payment Plan, also known as an Installment Agreement. While both programs are designed to help taxpayers manage and eventually clear their tax debts, they operate under distinct principles and suit different financial circumstances.
Choosing the correct path is crucial for a successful financial recovery and maintaining future compliance with tax obligations. The IRS continues its efforts to improve taxpayer services and streamline operations, making it more critical than ever for taxpayers to address their debts proactively.
Understanding IRS Tax Debt and Your Options
The accumulation of tax debt can occur for various reasons, including underpayment, unfiled returns, or unexpected financial hardships. In Fiscal Year 2024, the IRS collected approximately $5.1 trillion in gross revenues, indicating its significant collection capacity.
An Offer in Compromise allows certain taxpayers to resolve their tax liability with the IRS for a lower amount than they originally owed, primarily when they can demonstrate that paying the full amount would cause significant economic hardship. Conversely, an IRS Payment Plan permits taxpayers to pay their full tax debt over an extended period through monthly installments, making it a more accessible option for those who can afford to pay the full amount over time but not as a lump sum.
What is an IRS Offer in Compromise (OIC)?
An Offer in Compromise program can provide substantial relief to taxpayers facing overwhelming tax debt they cannot realistically pay. An agreement between a taxpayer and the IRS resolves the taxpayer’s tax liabilities for a lower amount than the total sum owed initially. The IRS carefully evaluates each case to determine if accepting a lesser amount is the most it can reasonably expect to collect. This program is typically considered when there is doubt as to the collectibility of the full debt, doubt as to the liability itself, or if the collection of the full amount would create an economic hardship (Effective Tax Administration).
Defining the Offer in Compromise
An OIC is a settlement with the IRS based on the taxpayer’s current ability to pay and their Reasonable Collection Potential (RCP). The RCP is the amount the IRS believes it could collect from a taxpayer’s assets and future income. When evaluating an OIC, the IRS considers factors such as income, expenses, asset equity, and future earning potential. The IRS will likely reject the offer if the offered amount is less than the RCP.
It’s important to note that the IRS requires taxpayers who receive an OIC to remain in full tax compliance for five years after the offer is accepted; failure to do so can result in the OIC being defaulted and the original tax debt reinstated, plus interest and penalties.
Who is Eligible for an OIC?
Eligibility for an OIC is stringent and depends on several factors. Taxpayers must have filed all required tax returns and made all estimated tax payments for the current year. They cannot be in an open bankruptcy proceeding. The primary grounds for an OIC are:
-
Doubt as to Collectibility: This applies when the taxpayer’s assets and income are less than the full amount of the tax liability, making it impossible to pay the full amount through a lump sum or installments.
-
Doubt as to Liability: This applies if there’s a genuine dispute regarding whether the taxpayer owes the tax debt. This basis is less common than other avenues, like audit reconsideration, which often exist for such disputes.
-
Effective Tax Administration (ETA): Invoking the full tax liability when collecting would create economic hardship or be unfair due to exceptional circumstances. For example, in 2023, the IRS accepted 12,711 Offers in Compromise out of 30,163 offers submitted.”
The OIC Application Process
The OIC application process is comprehensive and requires detailed financial disclosures. Taxpayers must submit Form 656, Offer in Compromise, and Form 433-A (OIC) for individuals or Form 433-B (OIC) for businesses, which provide a snapshot of their financial situation. A non-refundable application fee of $205 (as of 2024) and an initial payment (either 20% of the offer amount for a lump-sum offer or the first proposed periodic payment) are typically required. The application fee and initial payment can be waived for low-income taxpayers who meet specific criteria.
The IRS then conducts a thorough investigation, which can take six to nine months or longer. During this time, the IRS will verify all financial information. Accuracy and completeness are crucial, as discrepancies can lead to rejection.
Pros of an OIC
The most significant advantage of an OIC is the potential to settle your tax debt for substantially less than the full amount owed, providing a fresh financial start. Once an OIC is accepted and the agreed-upon amount is paid, the IRS releases any federal tax liens associated with the settled debt, which can improve creditworthiness and relieve financial burdens. Additionally, an OIC stops most IRS collection actions, such as levies and wage garnishments, while the offer is being considered and, if accepted, during the compliance period. For many, an OIC resolves long-standing debt and offers significant peace of mind.
Cons of an OIC
The OIC application process is complex, lengthy, and requires extensive financial documentation, which can be daunting for many taxpayers. There is no guarantee that an OIC will be accepted, as the IRS applies strict criteria, and many applications are rejected. If an OIC is rejected, the application fee and initial payment are generally non-refundable (though the initial payment may be applied to the tax debt). While an OIC is pending, the statute of limitations on collection is typically suspended, and a federal tax lien may remain until the OIC terms are fully met. Taxpayers must also comply with all tax laws for five years post-acceptance; failure to do so may result in the default of the OIC and the reinstatement of the full tax debt, along with penalties and interest.
What is an IRS Payment Plan (Installment Agreement)?
An IRS Payment Plan, officially known as an Installment Agreement, allows taxpayers to pay their full tax liability in smaller, more manageable monthly payments over an extended period. This option is available to taxpayers who cannot fully pay their tax debt by the deadline but can cover it over time. Unlike an OIC, an Installment Agreement does not reduce the principal amount owed; however, it does stop aggressive collection actions such as levies, provided the taxpayer adheres to the agreement. Individuals owing a combined total of under $50,000—covering tax, penalties, and interest—may be eligible to set up a payment plan online without needing direct contact with the IRS.
Defining the IRS Payment Plan
An IRS Payment Plan is a formal agreement with the IRS to pay the full amount of tax debt over a set period—typically up to 72 months (6 years). While the underlying tax debt is not reduced, establishing a payment plan prevents the IRS from pursuing enforced collection actions like bank levies or wage garnishments as long as the taxpayer makes all agreed-upon payments and stays current with future tax obligations. However, interest and penalties continue to accrue on the unpaid balance, meaning the total amount paid will exceed the original debt.
Who is Eligible for a Payment Plan?
Eligibility for an IRS Payment Plan is generally broader and less complex compared to an OIC. Taxpayers must have filed all required tax returns. For streamlined installment agreements, individuals owing $50,000 or less in combined tax, penalties, and interest, and businesses owing $25,000 or less, can often receive automatic approval when applied online. Additional financial information may be required for larger debts or longer payment terms. Still, the primary standard is the taxpayer’s ability to afford the proposed monthly payments until the debt is fully repaid. Even taxpayers with considerable assets or higher incomes, who might not qualify for an OIC, can often secure a payment plan. The IRS offers various installment agreements, including guaranteed, streamlined, and partial payment installment agreements (PPIAs).
The Payment Plan Application Process
Applying for an IRS Payment Plan is relatively straightforward, especially for those who qualify for a streamlined agreement. Taxpayers can apply online using the IRS’s Online Payment Agreement (OPA) tool, by phone, or by mail using Form 9465, Installment Agreement Request. For debts under $50,000, online approval can be nearly immediate. Short-term payment plans (up to 180 days) are available for taxpayers who owe less than $100,000 in combined tax, penalties, and interest. Setup fees vary depending on the application method and payment type. For example, direct debit applications online are generally cheaper than those set up by phone or mail without direct debit. The IRS advises taxpayers to respond promptly to notices to avoid further complications.
Pros of a Payment Plan
The primary advantage of an IRS Payment Plan is its accessibility and the more straightforward qualification process compared to an OIC. It allows taxpayers to manage their debt with predictable monthly payments, easing budgeting concerns. By setting up a payment plan, most aggressive collection actions—such as bank levies or wage garnishments—are halted as long as payments are made on time. Although interest and penalties continue to accrue, regular payments prevent the balance from ballooning due to additional non-payment fees. Taxpayers can often choose their payment date and method, such as direct debit, which helps ensure deadlines are met. Additionally, streamlined agreements mean that, in many cases, there is no extensive investigation into your finances if you qualify for the simplified process. Recent IRS data indicated an increase in various forms of taxpayer assistance in fiscal 2024, reflecting enhanced service capabilities, with payment plan options remaining a critical component of debt resolution services.
Cons of a Payment Plan
The most significant drawback of an IRS Payment Plan is that the full tax debt and ongoing interest and penalties must eventually be paid in full. An Installment Agreement does not reduce the principal amount owed, so the repayment will exceed the original liability. Failure to adhere to the payment schedule or maintain current future tax filings can result in a default of the agreement, potentially reactivating aggressive IRS collection actions. Although setup fees are generally lower than OIC application fees, they remain an added cost. Furthermore, the IRS may file a Notice of Federal Tax Lien while a payment plan is in effect, which can negatively impact your credit and future loan eligibility. Interest continues to accrue on the unpaid balance, increasing the total cost.
OIC vs. Payment Plan: Making the Right Choice
Choosing between an Offer in Compromise and an IRS Payment Plan requires carefully assessing your financial situation, the total debt amount, and ability to meet long-term payment and compliance obligations. An OIC offers the potential for significant debt reduction but features a complex application process and strict eligibility criteria. A Payment Plan is more straightforward to secure but ultimately requires full debt repayment, accrued interest, and penalties. Understanding these fundamental differences is essential for making an informed decision that aligns with your financial reality.
Your ability to consistently make future payments is paramount for both options, especially for an OIC, which mandates a strict five-year compliance period. The Collection Statute Expiration Date (CSED)—the time the IRS must collect a tax debt—is another critical factor. The CSED is generally ten years from the tax assessment date, but certain events, such as submitting an OIC or an Installment Agreement request, can suspend this period. If the CSED is approaching, the IRS might be more inclined to negotiate, favoring an OIC or a Partial Payment Installment Agreement. However, if the CSED is many years away, the IRS may push for a complete payment plan.
The Importance of Professional Guidance: Consult Silver Tax Group
Navigating IRS rules and procedures for OICs and Payment Plans can be complex and intimidating. Before engaging with professionals, many taxpayers find it beneficial to utilize an online Tax Debt Calculator to gain preliminary insights into their situation.
This initial assessment can streamline the process when consulting tax professionals, such as those at Silver Tax Group, who possess specialized expertise in dealing with the IRS. They can help you understand your rights, accurately assess your financial situation, and determine the most suitable resolution strategy while correctly preparing and submitting the necessary documentation.
This is especially vital for OICs, where the application process is detailed and subject to strict scrutiny. Professional representation can significantly increase the likelihood of a favorable outcome. Expert guidance simplifies the process and alleviates the stress of dealing with the IRS, ultimately steering you toward a more favorable outcome.
Take Control of Your Tax Debt Today
When confronted with IRS tax debt, understanding the differences between an Offer in Compromise and an IRS Payment Plan is the first step toward choosing a viable solution. An OIC can provide substantial relief by allowing you to settle for less than you owe, though it comes with stringent eligibility requirements and a complex application process. A Payment Plan, while more accessible, requires full repayment of the debt along with accruing interest and penalties.
Your income, assets, total debt, and ability to maintain future payments are critical factors in determining the right path. With the IRS continuing its collection efforts, making an informed decision is more crucial than ever. The guidance of experienced tax professionals can significantly aid you in achieving financial recovery and long-term tax compliance.