IRS Form 656: Settle Your Tax Debt Wisely
Demystifying IRS Form 656: Your Tax Relief Gateway
Facing a mountain of tax debt can feel overwhelming. Fortunately, the IRS offers a potential solution: IRS Form 656, the application for an Offer in Compromise (OIC). This form provides a legitimate way to potentially settle your tax debt for less than what you owe. Let's explore how Form 656 can be your gateway to financial relief.
Understanding the Offer in Compromise
An OIC isn't a magic fix, but a strategic negotiation with the IRS. It's an agreement where the IRS accepts a reduced payment to settle your tax liability.
This happens when the IRS believes full collection is unlikely or when enforcing full payment would create undue hardship. Sometimes, the IRS prefers accepting a partial payment rather than pursuing a long and expensive full collection process. This makes Form 656 a viable option for certain taxpayers.
You might be interested in this helpful resource: How to Master the IRS Offer in Compromise.
Who Qualifies for an OIC?
Several financial situations might make you a good candidate for an OIC. If you're experiencing genuine financial hardship, where your assets and income are significantly less than your total tax liability, you might qualify.
Also, if you dispute the amount or validity of the tax debt, you might qualify under "Doubt as to Liability." Even if you have the resources to pay, an OIC might be considered if full payment would create exceptional hardship.
Using the Pre-Qualifier Tool
One important aspect of IRS Form 656, the Offer in Compromise form, is the qualification process. Taxpayers can use the IRS's Offer in Compromise Pre-Qualifier Tool to see if they are eligible.
Eligibility is based on your adjusted gross income (AGI), which must be below a certain limit. This limit depends on family size and location.
If your AGI falls within the eligible range and you meet other criteria, like filing all required tax returns and making estimated tax payments, you might be able to skip the application fee. This ensures the program is accessible to those who truly need it.
Find additional helpful information here: OIC FAQs.
Why Choose an Offer in Compromise?
Form 656 offers several potential advantages. It can substantially reduce your tax burden, providing a fresh financial start. It can also stop aggressive collection actions from the IRS, giving you some breathing room.
A successful OIC provides a resolution to your tax issue. This allows you to move forward without the constant worry of IRS actions. While not a guaranteed solution, IRS Form 656 can be a vital tool for achieving financial peace of mind when dealing with substantial tax debt.
Do You Qualify? The Real IRS Form 656 Requirements
Submitting an Offer in Compromise (OIC) using IRS Form 656 without understanding the qualifications can lead to disappointment. It's similar to applying for a mortgage without knowing your credit score – potentially costly and likely frustrating.
Let's explore the three qualifying pathways for an OIC, based on insights from experienced tax professionals.
Three Paths to Qualification
The IRS considers three main reasons for accepting an OIC:
Doubt as to Collectibility: This applies when your financial situation makes full payment impossible. Your assets and income simply can't cover your tax liability. For example, consider someone facing a $50,000 tax debt with only $10,000 in assets and a limited income. This individual might qualify under Doubt as to Collectibility.
Doubt as to Liability: This pathway is for cases where the tax assessment itself is in question. Perhaps there was a calculation error, or you have evidence challenging the initial assessment.
Effective Tax Administration: This less frequent scenario applies when paying your full tax liability, despite having the resources, would create significant hardship. This could be due to unexpected medical bills or other extenuating circumstances.
Prerequisite Conditions for Consideration
Before the IRS considers your offer, certain conditions must be met:
Filing Compliance: You must have filed all necessary tax returns. Submitting an OIC without being current on filings will likely result in rejection.
Estimated Tax Payments: You must be current on estimated tax payments for the current year, if required. This shows a good faith effort and current compliance.
Honest and Accurate Information: All information on Form 656 and supporting documentation must be truthful and accurate. Discrepancies can raise concerns and jeopardize your offer.
Red Flags That Lead to Rejection
Certain problems can lead to automatic rejection of your IRS Form 656:
Incomplete Financial Disclosure: Hiding assets or income will hinder your OIC. The IRS has effective methods for detecting hidden finances.
Unrealistic Offer Amounts: Offering a very low amount without a solid justification is likely to be rejected. The IRS uses a formula called Reasonable Collection Potential (RCP) to calculate the minimum acceptable offer.
Ongoing Compliance Issues: Continuing to accrue new tax liabilities while pursuing an OIC demonstrates a lack of commitment to resolving your tax issues.
Understanding these requirements is essential for navigating the OIC process. To help illustrate the eligibility requirements, let's take a look at the table below:
IRS Form 656 Eligibility Requirements A comprehensive overview of the key eligibility criteria required to qualify for submitting an Offer in Compromise using Form 656
| Requirement Category | Specific Criteria | Additional Notes |
|---|---|---|
| Doubt as to Collectibility | Insufficient assets and income to fully pay tax liability | Must provide comprehensive financial documentation |
| Doubt as to Liability | Questionable tax assessment due to errors or new evidence | Requires strong supporting documentation to challenge the original assessment |
| Effective Tax Administration | Full payment would create exceptional hardship despite having resources | Must demonstrate significant hardship due to unforeseen circumstances |
| Filing Compliance | All required tax returns must be filed | Failure to file will result in rejection |
| Estimated Tax Payments | Current on estimated tax payments for the current year (if applicable) | Demonstrates good faith effort and current compliance |
| Honest and Accurate Information | All information on Form 656 and supporting documents must be truthful and precise | Discrepancies can jeopardize the offer |
The table above summarizes the key requirements for an OIC. Ensuring you meet these criteria is crucial for a successful outcome.
Learn more in our article about IRS Offer in Compromise Resources. By carefully reviewing your situation and addressing potential red flags, you can improve your chances of a favorable outcome and resolve your tax debt.
Navigating the IRS Form 656 Journey: From Submission to Decision
Submitting IRS Form 656, the application for an Offer in Compromise (OIC), isn't simply filling out paperwork. It's a strategic negotiation with the IRS. This section will guide you through the process, from completing the form to gathering the necessary documents.
Completing Form 656: A Step-by-Step Guide
Successfully completing Form 656 requires careful attention to detail. Let's break down the key sections:
Section 1 & 2: Identifying Information: Provide accurate personal or business details. This includes your tax ID number (SSN, ITIN, or EIN). Clearly identify the specific tax debts you want to be considered for the OIC.
Section 3: Reason for Your Offer: This is crucial. Select the basis of your offer: Doubt as to Collectibility, Effective Tax Administration (Economic Hardship or Public Policy/Equity), or Doubt as to Liability. Provide a detailed explanation to support your choice.
Section 4: Your Offer Amount: Specify whether you are proposing a lump-sum payment or a periodic payment plan. This choice significantly impacts your minimum offer amount and the payment schedule.
Sections 5 & 6: Source of Funds and Filing Requirements: Detail the source of the funds for your offer. Certify that you've filed all required tax returns and made the necessary estimated tax payments.
Section 7: Offer Terms: Carefully review the terms and conditions of the OIC. Understand your obligations if the offer is accepted.
Sections 8 & 9: Signatures: Sign and date the form. If a tax professional assisted you, they will also sign.
Supporting Documentation: Building a Strong Case
The success of your offer hinges on compelling supporting documents. Gather all relevant financial records:
Tax returns for the years included in your offer
Proof of income (pay stubs, bank statements, 1099s)
Financial statements (bank statements, credit card statements, investment statements)
Documentation of living expenses (rent/mortgage statements, utility bills, medical bills)
The IRS Evaluation Process: What Happens Behind the Scenes
The IRS evaluates your offer based on your Reasonable Collection Potential (RCP). This calculation assesses your assets, income, expenses, and future earning capacity. The IRS also reviews the validity of your chosen basis for the offer and the completeness of your supporting documents.
The OIC process generally takes between seven and twelve months. During this time, taxpayers typically make monthly payments based on their proposed offer. A decision usually comes within six months of receiving the application.
In 2018, for example, the IRS accepted about 27,000 offers out of nearly 60,000 received. The average accepted offer was around $6,100. The process involves detailed financial evaluations. For more detailed statistics, check out OIC Insights.
Monitoring Your Application and Next Steps
After submission, maintain contact with the IRS to monitor your application's progress. Respond promptly to any requests for additional information.
This proactive approach shows your commitment to resolving your tax debt and can help expedite the process. Understanding these steps can improve your chances of a favorable outcome with IRS Form 656.
Form 656 vs. 656-L: Choosing Your Best Path to Tax Relief
Dealing with IRS forms can be daunting, especially when you're facing tax debt. Choosing between Form 656 and Form 656-L can feel particularly tricky.
Picking the right form is essential for successfully resolving your tax issues. This section will help you understand the key differences and figure out which form best suits your situation.
Understanding the Core Difference
The main difference between the forms comes down to why you're making an offer to the IRS. Form 656 is the standard Offer in Compromise form. You typically use it when you genuinely can't afford to pay your full tax bill.
This is officially known as Doubt as to Collectibility. If, however, you believe the tax amount itself is incorrect, you'll need Form 656-L. This form is for Doubt as to Liability, meaning you disagree with how much you owe, not just your ability to pay it.
Documentation Requirements: A Tale of Two Forms
The paperwork needed for each form is quite different. Form 656 requires detailed financial records, showing your assets, income, and expenses to prove you can't afford the full amount.
Think bank statements, pay stubs, and documented proof of your expenses. Form 656-L, on the other hand, requires evidence to back up your claim that the tax amount is wrong. This might include proof of income discrepancies, incorrect tax calculations, or any new evidence the IRS hasn't seen before.
Doubt as to Liability Offers and Form 656-L
Offers in Compromise based on 'Doubt as to Liability' (DATL) use Form 656-L. This form addresses situations where there's a legitimate disagreement about the amount of tax owed. You'll need supporting evidence and a detailed written explanation of why you believe the debt is incorrect.
The IRS might accept a DATL offer if there's enough doubt, such as when contesting reported income or disputing an audit's findings.
However, not all DATL offers are accepted, as they must meet specific criteria and may require further investigation. Learn more about Form 656-L.
IRS Evaluation: Distinct Criteria
The IRS evaluates each form with different standards. For Form 656, they look at your Reasonable Collection Potential (RCP). This calculation determines the maximum the IRS believes it can collect from you.
For Form 656-L, they investigate the validity of your liability dispute based on the evidence you provide. This could involve reviewing tax records, conducting interviews, or even consulting with experts.
When to Choose the Liability Dispute Route
Disputing the tax liability itself (using Form 656-L) can be a good move in certain situations. If you have solid evidence of an IRS calculation error, or if you've recently found documentation that supports your claim, Form 656-L might be your best option.
Successfully proving the tax is incorrect can eliminate the debt completely, a much better result than just reducing the amount owed.
Pursuing Both Forms: A Strategic Consideration
Sometimes, using both forms might be the right approach. This usually happens when you dispute a part of the liability but can't afford the remaining balance even if your dispute is successful.
However, this is more complex and involves more documentation. Learn more about offers in compromise. A tax professional can help you decide the best course of action for your unique circumstances.
Crafting Your Winning Offer Amount on IRS Form 656
The most critical aspect of your Offer in Compromise (OIC) on IRS Form 656 is the offer amount. Proposing too much means overpaying, while offering too little guarantees rejection.
This section breaks down how to determine a winning offer amount based on the IRS's Reasonable Collection Potential (RCP).
Understanding the RCP Formula
The RCP is the maximum amount the IRS believes it can collect from you within a reasonable timeframe. Think of it as the IRS's internal assessment of your financial situation. It's a complex calculation based on four main factors:
Assets: This includes real estate, vehicles, bank accounts, investments, and other valuable possessions. The IRS considers the equity in these assets – not their market value. For instance, a car worth $20,000 with a $15,000 loan has an equity of $5,000.
Income: This encompasses your current income from all sources. This includes wages, self-employment income, rental income, and investment income.
Allowable Expenses: The IRS allows deductions for certain necessary living expenses. Examples include housing, food, transportation, and medical expenses. These deductions are based on national standards and vary by location.
Future Earning Capacity: The IRS considers your potential to earn income in the future. Factors like age, education, skills, and work history are taken into account. This reflects the long-term collectability of your tax debt.
Lump-Sum vs. Periodic Payments: Choosing Your Strategy
IRS Form 656 allows two payment structures for your offer: lump-sum and periodic payments. Your choice impacts the minimum required offer and initial payment. Let's take a closer look at both:
Lump-Sum Offer: Requires full payment within five months of acceptance. A 20% initial payment is often required with the offer submission (though this may be waived for low-income taxpayers). This quicker resolution for the IRS might allow for a slightly lower overall offer amount.
Periodic Payment Offer: This option spreads payments over six to 24 months. The first payment is due with the submission (also waived for low-income individuals). While potentially requiring a higher total offer due to accrued interest, it's more manageable for some.
To help illustrate the key differences, let's look at the following comparison:
Offer in Compromise Payment Options Comparison A side-by-side comparison of the lump sum and periodic payment options for IRS Form 656 submissions
| Payment Option | Required Initial Payment | Calculation Formula | Timeline | Advantages | Disadvantages |
|---|---|---|---|---|---|
| Lump-Sum | 20% (often waived for low-income) | Based on RCP | Within 5 months of acceptance | Potentially lower overall offer amount, quicker resolution | Requires full payment within a short timeframe |
| Periodic Payment | First monthly payment (waived for low-income) | Based on RCP + Accrued Interest | 6–24 months | More manageable payments | Potentially higher total offer due to interest |
As you can see, each option has its own set of benefits and drawbacks. Choosing the right strategy depends on your individual financial circumstances.
Completing Form 656’s Financial Information
Accurately completing Form 656's financial sections, including the Collection Information Statement (Form 433-A or 433-B), is crucial. These forms provide the data the IRS uses to calculate your RCP.
Here’s a step-by-step guide:
Gather Documentation: Compile records of your income, expenses, and assets. This includes tax returns, bank statements, pay stubs, investment account details, property valuations, and loan documents.
Complete Form 433-A (individuals) or 433-B (businesses): This statement details your complete financial picture. Accurate and complete disclosure is essential; omissions or inaccuracies can significantly impact your chances of acceptance.
Calculate Your Minimum Offer: Use the worksheet in Form 433-A or 433-B to calculate your minimum acceptable offer based on the IRS's RCP formula. Offering below this figure generally results in rejection.
Transfer Information to Form 656: Ensure consistent and accurate transfer of key financial data to the corresponding sections of Form 656.
Presenting Your Financial Reality: Honesty and Strategy
While honesty is paramount, presenting your financial situation clearly and strategically is equally important. This means:
Maximize Allowable Deductions: Document all eligible expenses to reduce your calculated RCP. Use the national and local standards provided by the IRS to ensure you claim the maximum allowed amounts.
Address Potential Red Flags: Anticipate and address any areas of concern the IRS might have. For example, provide clear explanations for recent asset transfers or unusual income fluctuations.
Consider Professional Guidance: Navigating Form 656 and the RCP calculation can be complex. A qualified tax attorney specializing in offers in compromise can provide personalized guidance and strategic insights to maximize your chances of a favorable outcome. They can help you present your financial situation accurately and effectively, increasing your likelihood of approval.
Insider Strategies for IRS Form 656 Approval Success
Navigating the IRS Form 656, the Offer in Compromise (OIC) application, can feel overwhelming. It's more than just filling out the form; it requires a strategic approach to present your case convincingly.
This section, drawing from the experience of tax professionals, reveals insider strategies to increase your chances of OIC approval.
Preparation Tactics for a Strong Application
A successful OIC application begins with thorough preparation. This involves meticulously organizing your financial documentation. Gather all necessary records, including tax returns, income verification, bank statements, asset valuations, and expense documentation.
Addressing potential red flags before submitting your application is critical. For example, if you recently transferred assets, providing a clear and legitimate explanation can prevent suspicion. This proactive approach demonstrates transparency and builds credibility.
Crafting a Compelling Narrative
Beyond the numbers, the narrative portions of your application are crucial. Clearly and concisely explain your financial hardship, focusing on the factors that limit your ability to pay your full tax liability.
Highlight any extenuating circumstances that contributed to your situation, such as unexpected medical expenses or job loss. Maintain a professional tone and focus on presenting a factual and objective account of your financial reality. For further strategies, check out our guide on reducing tax debt.
Avoiding Common Pitfalls
Several common mistakes can derail an OIC application. Incomplete financial disclosure is a major red flag. The IRS has sophisticated tools to uncover hidden assets, so transparency is paramount.
Submitting an unrealistic offer amount is another frequent reason for rejection. The IRS uses the Reasonable Collection Potential (RCP) formula to determine the minimum acceptable offer. Offering significantly below this amount without strong justification will likely result in rejection.
Finally, ongoing compliance issues, such as failing to file current tax returns or make estimated payments, demonstrate a lack of commitment to resolving your tax debt.
Navigating Rejection and Exploring Alternatives
Even with meticulous preparation, an OIC might be initially rejected. Don't give up. The appeals process allows you to challenge the rejection, especially if you believe the IRS made an error.
Consider submitting a revised offer, perhaps increasing the amount or adjusting the payment terms. If the OIC proves unsuitable, explore alternative resolution paths. An installment agreement might be a viable option, allowing you to manage your tax debt through a structured payment plan.
Securing Your Financial Future
Successfully navigating an OIC can significantly impact your financial well-being. A reduced tax burden can provide a fresh start. By implementing these strategies, you can improve your chances of a positive outcome.
For expert guidance tailored to your situation, consider consulting with Attorney Stephen A. Weisberg. With over 10 years of experience representing individuals and businesses in tax debt matters, he can provide the strategic insights and support you need to navigate IRS Form 656 and achieve the best possible resolution.
➥ Contact Attorney Stephen A. Weisberg for a free Tax Debt Analysis.
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