When tax debts climb into the hundreds of thousands or millions of dollars, the accumulating penalties and interest will significantly worsen the situation, causing it to spiral out of control.

Although ignoring the problem may be tempting, aggressive IRS collectors (known as Revenue Officers or “ROs”) are relentless and unforgiving, so ignorance is definitely not bliss in this scenario.

It is far better to engage with the IRS and seek a tax settlement through an Offer in Compromise (OIC), a powerful tool available to individuals with large tax debts. The key to the IRS accepting an OIC lies in understanding how the IRS evaluates a delinquent taxpayer’s ability to pay.

1] Using Form 433-A (OIC) as a Road Map

Submitting an OIC requires completing Form 433-A (OIC), which lays out all the factors the IRS considers when evaluating a settlement offer. Much more than just necessary paperwork, this multi-page form serves as a guidebook for generating a successful OIC.

Information requested includes:

• balances of bank and investment accounts
• value of real estate holdings
• value of assets such as vehicles
• value of artwork and other expensive items (note that the IRS often requires a professional appraisal for these types of assets)
• current and expected income

Due to the unique challenges taxpayers with six or seven-figure debts face when calculating and assembling the required figures, it is recommended to work with an elite tax advisor experienced in handling these larger IRS cases.

As reflected in Form 433-A (OIC), the IRS considers the relevant value of most assets to be 80% of fair market value minus the amount of any loans encumbering the asset. The form also provides for the reporting of ongoing monthly expenses such as food, housing costs (rent or mortgage, utilities, etc.), vehicle, and medical. The maximum expense the OIC applicant may report within each category is determined by the IRS’s published “National Collection Financial Standards”, some of which are regionally adjusted to reflect differences in cost of living across various demographics.

The IRS uses the information submitted on Form 433-A (OIC) to estimate the total amount the taxpayer can afford to pay, within the remaining time left on the statute of limitations for collecting the taxes. This figure, called reasonable collection potential (RCP), is the point of reference used by revenue officers in all ensuing negotiations with the taxpayer.

Providing the IRS with an accurate and complete Form 433-A (OIC) is essential, and will require extensive gathering and organizing of information. Recognizing this process can take considerable time and effort, the IRS may provide delinquent taxpayers with a brief respite in the form of a temporary payment plan, providing some much needed breathing room.

2] Temporary Relief Under the One-Year Rule

When delinquent taxpayers do not demonstrate a genuine willingness to cooperate, revenue officers are unsympathetic in their pursuit of collecting the tax debt. Seizing bank accounts, issuing tax liens on homes and other property, and garnishing wages are all common IRS enforcement measures. In the face of such an onslaught, it can be difficult for even well-meaning delinquent taxpayers to gain a foothold and begin the process of setting things right.

The one-year rule allows those entering into an installment agreement payment plan the necessary time to put together a viable longer-term strategy to address the situation. Generally, the individual is allowed to make much smaller payments during this initial 12-month period than will likely be required in subsequent years.

For example, under the umbrella of the one-year rule, a taxpayer might wind up paying only $4,500 per month on a tax debt of $2 million for the first 12 months. Much larger payments of approximately $35,000 a month would then be required, beginning with the 13th month, in order to repay all tax, penalties, and interest owed within the collection timeframe. This is typically a maximum of a six years for an installment agreement.

In the eyes of the IRS, the one-year rule primarily exists to allow time for individuals with very large tax debts to make lifestyle changes that would allow them to begin making far greater monthly payments in the near future. Examples of such changes might be the sale of infrequently used cars or summer homes, or moving to a smaller primary residence in order to reduce monthly mortgage payments. Realistically, even with good-faith efforts to free up funds and cut expenses, most taxpayers will be ill prepared to handle such a huge jump in required tax payments when year two of the collection period begins.

Hence, most taxpayers who owe the IRS a huge amount would be best served by using the one-year rule reprieve to prepare a realistic OIC application, including thorough and transparent reporting on Form 433-A (OIC) with detailed supporting documentation. Ideally, the OIC application should be submitted several months before the one-year rule expires, to allow time for further negotiations if the IRS finds the initial offer inadequate but is willing to discuss it.

3] Submitting an Offer at (or Near) Reasonable Collection Potential

When assembling the information requested on Form 433-A, a taxpayer must consider “dissipated assets”, which are assets of significant value that were sold off after initially incurring the tax debt. Many asset dissipations—such as selling a vehicle in order to purchase a similar but newer model—will be considered appropriate and reasonable by the IRS, and therefore not relevant to the taxpayer’s RCP.

However, revenue officers do take a keen interest in dissipated assets sold off at well below market value, sold to friends or business associates, or sold for the purpose of funding extravagant expenditures. To the IRS, transactions like these suggest an intention to dispose of property specifically to avoid paying off tax debts.

Dissipated assets were in fact a major sticking point in the highly publicized failed negotiations between actor Wesley Snipes and the IRS in 2018. Nevertheless, the much larger problem with Snipes’ unsuccessful OIC—and the reason why the IRS showed no willingness to negotiate after rejecting it—was that Snipes offered to pay less than 5% of his multimillion-dollar tax debt. In other words, his offer was nowhere near his RCP.

Simply put, the better an OIC aligns with the IRS OIC Specialist’s assessment of the taxpayer’s RCP, the more likely those OIC experts are to accept it. An offer close to the RCP threshold will likely cause the taxpayer a fair amount of financial strain, but unwillingness to deal with that inconvenience in order to settle the debt may lead to far more devastating consequences.

4] What to Do If an OIC Is Rejected: Other Options

If an OIC based on honest reporting and thoughtful completion of Form 433-A (OIC) is still rejected by the IRS—and IRS personnel assigned to the case are unwilling to negotiate or approve an affordable payment plan option—the taxpayer is left with few viable options. One alternative is to seek discharge of the tax debt through a Chapter 7 bankruptcy declaration.

Filing for bankruptcy necessarily involves many problems of its own. Since an accepted Chapter 7 filing generally carries with it a requirement to sell off property, this last-resort strategy for tax debt relief only makes sense if the taxpayer has very few assets with equity.

5] There Is a Way Out

The importance of staying in full tax compliance is paramount. The IRS will not negotiate with a tax debt “snowballer.” Filing all tax returns and making all required tax payments, either through federal withholding from W-2 wages or quarterly estimated tax payments for income from business ventures, is absolutely mandatory.

Then, when approached with a solid combination of realistic expectations, sound advice, and conscientious disclosure, an accurately prepared Offer in Compromise packet, coupled with A-list professional advice, can result in a settlement that both satisfies the IRS and gets the taxpayer back on the road to financial freedom.

This article is not tax, legal, or other professional advice and cannot be relied upon for any purpose without consultation and advice from a retained professional.

As one of the most knowledgeable and well-connected tax & accounting professionals in the world, Harvey Bezozi's mission as a CPA and CFP ® is to provide concierge-level work product and service, along with seamless communication, high energy, and a super-positive attitude. Located in Boca Raton, Florida, Bezozi has been in business since 1994, and serves clients in all 50 states and internationally. More information can be found at YourFinancialWizard.com