Does an IRS Offer in Compromise Take Away Your Tax Refunds?

Latest Facts and News

• The IRS received 30,163 Offer in Compromise applications in fiscal year 2023
• The average acceptance rate for IRS Offer in Compromise applications is around 40%
• The IRS recently updated Form 656-B for Offer in Compromise applications
• New tax relief measures may affect offer in compromise IRS eligibility for some taxpayers

When you’re already dealing with so many challenges—business struggles, day-to-day expenses, and the pressure of providing for your family—the weight of it all can feel overwhelming. You’re doing everything you can to stay afloat, but then you find yourself facing a new hurdle: the need to settle your tax debt with an IRS Offer in Compromise (OIC).

In moments like these, the last thing you want to worry about is losing your tax refund, which could be the lifeline you need to get back on track. It’s hard to focus on anything else when you’re in such a tough spot.

That’s where we come in. We’re here to guide you through the process, answer your questions, and help you make the right decisions for your finances and your future.

Understanding the IRS Offer in Compromise Program

An IRS Offer in Compromise is a way to work with the IRS for the tax debt settlement and pay less than the total amount owed. It’s devised for people who can’t afford to pay everything they owe and need a manageable solution.

But just sending an offer doesn’t guarantee the IRS will approve it. They’ll look at your finances and any special circumstances to decide if you qualify. The IRS will only accept your offer if they think it’s a fair amount based on what you can afford.

Types of Offer in Compromise

There are three main types of IRS Offer in Compromise (OIC), plus one option that not many people know about. Here’s what we mean:

• Doubt as to Collectibility (DATC): This means you don’t have enough money to pay all the taxes you owe. The IRS looks at what you own and how much you earn. If they believe they can’t collect the full amount, they might agree to let you pay less.
• Doubt as to Liability (DATL): This is for when you think the IRS made a mistake. Maybe you don’t actually owe the amount they say you do. If there’s a good reason to question the amount, you can ask the IRS to check it again and possibly have a tax liability reduction or even erase the debt.
• Effective Tax Administration (ETA): This one is a bit different. It’s for people who technically can pay their taxes but shouldn’t have to because it would cause serious problems. For example, if paying your taxes means you can’t afford basic things like food or medicine, the IRS might cut you some slack.
• DATC with Special Circumstances (Hybrid): If you can’t pay and are dealing with something really severe—like a serious illness or another major hardship—the IRS might consider that too.

How an Offer in Compromise Affects Your Tax Refunds?

When you submit an IRS Offer in Compromise to the IRS, it’s important to know how they handle your tax refunds. While your offer is being reviewed, the IRS may take any refunds you’re due and apply them to your tax debt. 

However, there are certain rules and exceptions you should be aware of.

Refund Offset During OIC Consideration

The IRS can offset your tax refunds while they are reviewing your IRS Offer in Compromise. Here’s what that means:

• The IRS offsets tax refunds while they are reviewing an IRS Offer in Compromise. This is a standard process based on IRS regulations (sec. 301.7122-1(g)(5)) and section 6402 of the tax code.
• This offset applies to all types of offer in compromise IRS that uses your refund to reduce your tax debt as they consider your offer.
• If you’re facing serious financial hardship, you might be able to request an Offset Bypass Refund (OBR). This could allow you to get your refund even while your OIC is still under review.
• Many taxpayers wonder if asking for an OBR will affect their OIC. The worry is that it could violate the terms of the OIC agreement, which might cause the IRS to reject the offer.

Refund Treatment After OIC Acceptance

Once your IRS Offer in Compromise is accepted, the rules around your refund change. Here’s what happens next:

• Once the IRS accepts your OIC, they will keep any refund that you are owed for the year in which the offer is accepted.
• If you receive a refund for any period after submitting your OIC, and it falls within the year of acceptance, you must return the refund within 30 days of being notified by the IRS.
• However, there are exceptions for certain types of offers. For example, refunds might not be offset for Effective Tax Administration (ETA) or Doubt as to Collectibility with Special Circumstances (DATC-SC) offers.

Eligibility for an IRS Offer in Compromise

To apply for an IRS Offer in Compromise, you need to meet some basic rules. Here’s what they are:

1. File All Tax Returns: You need to have filed all the tax returns that the IRS expects from you. If you haven’t done that yet, you’ll need to catch up first.
2. Make Required Payments: If you’re supposed to pay estimated taxes (like self-employed people often do), make sure those payments are up to date.
3. No Bankruptcy Cases: You can’t apply if you’re currently in an open bankruptcy case. You’ll need to wait until it is fully resolved.
4. For Current Year Taxes: If you’re applying for an offer related to this year’s taxes, you need to have a valid extension to file your tax return.
5. For Employers: If you’re an employer, you need to have made all your payroll tax deposits for the current quarter and the one before it.

If you meet these requirements, you can check your eligibility further using the IRS Offer in Compromise Pre-Qualifier Tool. It’s an easy way to figure out if you can apply before getting started.

Picking the Right Form for Your Offer in Compromise

Before you start applying for an IRS Offer in Compromise, you need to choose the right form based on your situation. Here’s how to know which one to use:

1. For Individuals: If you’re applying for yourself, use Form 433-A (OIC). This form will ask for details about your finances and assets.
2. For Businesses: If you’re applying for a business, use Form 433-B (OIC). This is the version for businesses to report their financial details.
3. If You Have Both Personal and Business Debts: You’ll need to fill out separate Form 656 for each—one for personal debt and one for business debt (like if you have a Corporation, LLC, or Partnership).

Once you have the right forms, you’re ready to start the application process.

The Offer in Compromise Application Process

The process of an IRS Offer in Compromise application is pretty streamlined. Here’s what we mean:

Step 1: Gather Your Details

Start by collecting all the information about your finances. This includes your cash, investments, available credit, assets, income, and debts. You’ll also need details about your household’s monthly income and expenses. Your household includes everyone who helps cover bills like rent, utilities, or groceries.

Keep in mind that the IRS doesn’t count things like private school tuition, college costs, donations, or unsecured debt payments when they look at your expenses.

Step 2: Fill Out Form 433-A (OIC)

This Form 433-A is for individuals, sole proprietors, or anyone submitting an offer for an estate. If you’re married but live apart, both you and your spouse will need to fill out separate forms. This form calculates your offer based on what you own, how much you earn, and what you spend.

If you have any special circumstances affecting your finances, you can explain them here.

Step 3: Fill Out Form 433-B (OIC)

If your business is a Corporation, Partnership, or LLC, you’ll need this Form 433-B. It calculates the offer based on your business’s income, assets, and expenses. If your business owns tools or equipment it needs to make money, like a tow truck, the IRS might not count those in the calculation.

Step 4: Add the Required Documents

Attach all the documents the IRS asks for with your forms. You’ll find a checklist at the end of each form to guide you. Only send copies, not originals.

Step 5: Fill Out Form 656

This 656 form tells the IRS what taxes and years you want to settle. It also shows how much you’re offering to pay and the payment terms. Make sure the amount matches or is higher than what you calculated in the earlier forms.

Step 6: Include Your First Payment and the $205 Fee

Send a check or money order for your first payment. If you’re paying in a lump sum, include 20% of your offer. If you’re paying in installments, send the first monthly payment.

Keep the fee and payment separate by sending two checks or money orders. They should be made out to the “United States Treasury.” If you qualify for Low-Income Certification, you don’t need to send any money with your application.

What Happens After You Send Your Application?

Once you’ve sent your IRS Offer in Compromise application, the IRS will review it and get in touch with you. If they ask for more information, respond quickly and within their deadline. If you don’t, your offer could be sent back, and you won’t be able to appeal.

If your offer is accepted, here’s what you need to do to keep the agreement:

1. File and Pay on Time: You must file all tax returns and pay any federal or estimated taxes on time going forward.
2. Stick to the Rules for 5 Years: For five years after the IRS accepts your offer, you must stay on top of your taxes. If you miss a payment or don’t file your taxes during this time, the IRS can cancel the agreement.

If your OIC is canceled, things get serious. You’ll owe the full amount of your original tax debt (minus any payments you’ve already made), plus any interest and penalties that have built up. Remember, the IRS will keep adding interest and penalties until your entire debt is paid.

Additional Information →

If your final payment is more than what you agreed to pay, the IRS won’t refund the extra. Instead, they’ll apply it to your remaining debt.

Finally, the IRS has the right to revoke your offer if you fail to pay taxes that were not covered by your agreement for years prior to your offer.

Alternatives to an Offer in Compromise

If an IRS Offer in Compromise isn’t the right option for you, there are other tax relief options to handle your tax debt. These options might offer some relief by lowering the amount you owe or giving you more time to pay.

Pros and Cons of Pursuing an Offer in Compromise

Considering an IRS Offer in Compromise to settle your tax debt? Here’s a breakdown of the good and bad sides to help you decide.

Pros of an Offer in Compromise

• Tax Debt Reduction: An IRS Offer in Compromise can lower your total tax bill, sometimes significantly.
• Stops Collection Efforts: The IRS stops collection actions like wage garnishments while your offer is being reviewed.
• Fresh Start: If accepted, you can settle your debt and move on with a clean slate.
• Affordable Payments: The amount you owe is based on what you can actually afford to pay.

Cons of an Offer in Compromise

• Strict Requirements: To qualify, you need low income and little to no assets.
• Time-Consuming: The process can take a long time, delaying other options for solving your debt.
• Freezes the Collection Clock: The IRS stops the 10-year limit for collecting your debt while they review your offer.
• Strict Tax Compliance for Five Years: If your offer is accepted, you must stay fully tax-compliant for the next five years.

Final Thoughts!

As we’ve come to an end, there are a few key factors that can add more meaning to the success of your offer in compromise IRS acceptance and help protect your refund. 

While the IRS has the right to offset refunds during the IRS Offer in Compromise process, understanding the rules and exceptions can make a significant difference. Plus, it is extremely important to update the IRS if your financial situation changes, as they’ll need the most current information.

If all of this seems like a lot to handle, that’s perfectly fine. Dealing with an IRS Offer in Compromise and understanding how refunds work can be tricky. That’s why Hall’s IRS is here to help. Our team will guide you through every step, making sure you have the best chance for success while protecting your refund.