Offer In Compromise – IRS payment plan in Arizona? You may want to look closely at the IRS Offer In Compromise Rule Changes

Make_me_an_offer-thumb-375x375-55393I have complained in the past about the IRS Offer in Compromise program and with good reason. The vast majority of IRS Offers filed failed at a rate of more than 75% on average nationwide. For most people with serious tax debt the rules just didn’t apply. I saw the program as an IRS method to collect information and little else.

In May of 2012 however, the IRS surprised some people including me. It changed the rules regarding how Offers in Compromise are calculated. These changes will likely result in a higher success rate than before.

The following some important changes that may make a difference in the calculation of the Offer amount and will also likely result in a higher acceptance rate.

IMPORTANT CHANGES

Multiplier Change

In the old days, the formula for determining a taxpayer’s reasonable collection potential looked something like this:

“Excess” Income x 48 + Plus Asset Value = Cash Offer

Now it is:

“Excess” Income x 12 + Plus Asset Value = Cash Offer

This change is big.

Example:

Taxpayer with $180,000.00 in tax debt and $5000.00 in net income post tax withholdings.

If the IRS agrees that the reasonable budget needed to live is $4300.00 per month and the value of all non-exempt assets is $5000.00:

The two formulas would look like this:

Old

$700.0 x 48 + $5000.00 = $38,600.00

New

$700.00 x 12 + $5000.00 = $13,400.00

A difference of $25,200.00.

State Taxing Agency Installment Agreement

In determining the reasonable living expense budget the IRS has agreed to include a percentage of the monthly payment to a State Taxing Agency for delinquent tax debt. We are now including this percentage payment made to the State of Arizona as a budget item as a result.

3 REMAINING PROBLEMS

We find that there are a number of problems that exist in bringing a successful IRS Offer in Compromise to fruition. The 3 most important to understand are these:

1. Budget

The IRS is allowed to decide to a large extent the amount of money that the taxpayer should be living on. It uses a set of standards to determine the amount. See the IRS Standards here.

The problem? The budget used to determine the Offer amount is often not the budget the taxpayer is actually living on. The budget is often higher but is also often lower.

Example:

IRS maximum allowable budget: Two Person Household Budget – Phoenix, Az.

Base Budget

Food 537.00
Housekeeping Supplies 66.00
Clothing 162.00
Personal Care 55.00
Misc. 209.00
Car Payments 1034.00
Car Upkeep/transport 582.00
Housing and Utilities 1834.00
Out of Pocket Med 120.00
Additional Items IRS will likely accept:

Out of pocket medical above standard of 120.00 per month (assuming 100.00 addl)
Health Insurance Monthly (assuming 450.00)
Term Life Insurance Monthly – reasonable (assuming 100.00)
Arizona State Tax Payment % – back tax debt long term (assuming 250)

Total Estimated Monthly Budget IRS Allows: 5299.00

Assume the following is true:

a. Taxpayer household nets $6500.00 post tax-withholding.

The IRS allowable budget total would be 5299.00 and that would be subtracted from 6500.00.

The difference…1201.00 would than be multiplied by 12 and that number would be added to the taxpayer’s non – exempt asset value. Assuming asset value of 0 the cash offer would be 14412.00

 

2. Statute of Limitations

Before any offer amount can be calculated, the IRS will look closely at the income and budget and it will multiply the difference between the two by the length of time left in the Statute Period for Collection which is 10 years from the date of assessment.

So assume the following about the taxpayer described above under Budget.

a. The tax debt is from the 08 tax year and it is related to a failed business.
b. The debt was assessed against the taxpayer in 2010 and there are 7.5 years remaining on the 10-year collection period.
c. The tax debt is 80,000.00

If the income and budget difference were 1251.00 per month and that were multiplied by 7.5 years the amount the IRS would believe it could collect before the statute ran would be 112,590.00.

As a result the IRS would never get to the issue of settlement and the Offer would be rejected.

Knowing a few things going into an Offer as a result will be very important:

– Tax debt amount
– Statute Period Remaining
– Highest and lowest possible “excess” income amounts

3. IRS Can Reject for other reasons

Just because you meet the criteria to make a successful offer in compromise from a financial standpoint, your offer won’t necessarily be accepted. The IRS rejects Offers in Compromise for other reasons.
In our office, every attempt is made to qualify a client for the IRS’ Offer in Compromise program. If it does not appear that it will make sense to file one, we fall back on using the IRS payment plan program in combination with the IRS Statute of Limitations Rule and/or bankruptcy to deal with the debt.

We typically don’t take a case unless we believe that with some planning, the client can substantially reduce or eliminate tax debt.

Image Credit: Flairbuttons.com

Bankruptcy Means Test – High Tax Debt May Be the Key to Avoid It

super duper test-thumb-375x250-55236The Bankruptcy Code requires the taking of a test to determine “means” or ability to pay debt. If the test is failed, a Chapter 7 bankruptcy can’t be filed unless…a designated exception exists. We will get back to that later.

First, lets be clear about the Bankruptcy Means Test.

Many people pass it. Not just those with low income. If a bankruptcy filer has relatively high income but also has a large mortgage debt, car loans, priority tax debt, child support, spousal maintenance, high medical expenses, or some combination of the above, he or she may be rewarded with a passage of the test and entrance into the world of Chapter 7 Bankruptcy.

In fact, the upper income earner may be able to pass the means test more easily than a middle-income earner who has been careful not to incur certain debts.

Yes…it happens.

There is even a way to avoid the means test altogether. That’s right…. just avoid the whole stinking thing and step right into a Chapter 7 Bankruptcy without having income and budget closely scrutinized.

How?

Make sure that the majority of your debt is “Non-Consumer”.

What is “Non-Consumer” Debt? Lets define it in a backwards fashion.

If the money borrowed was than used to pay a personal, family or household expense or to purchase personal, family or household goods, it is probably a consumer debt.

Otherwise, it is probably “non consumer”.

Debts used for business purposes are non-consumer debts.

Tax Debt is non-consumer debt because it is not incurred voluntarily to pay for household expenses.

To be repetitive: A person with more tax debt or business debt or a combination of both than all other consumer debt… can avoid the means test in Arizona.

Example:

Fred has a home that is worth $100,000.00. The first mortgage debt is $200,000.00. He has $50,000.00 in credit card debt, a car loan for $20,000.00 and a $75,000.00 income tax debt as a result of a failure to properly calculate income taxes for a few years when he was in business. (Penalty and interest have doubled it).

The tax debt meets the requirements for discharge if a Chapter 7 Bankruptcy can be completed.

Fred has a steady job that has been paying a good income and he has decided that the house isn’t worth saving. He didn’t like it anyway and want’s to “short sell” it.

Fred also has a large payment plan with the IRS because when he negotiated it the IRS limited his budget to it’s own standards and didn’t use the amounts that Fred actually spent per month to determine his ability to pay. They didn’t allow for the credit card payments either.

The IRS payment plan is making his life miserable and he has fallen behind on the credit card payments as a result. The calls have started to arrive.

He begins to think about bankruptcy. He does some research online and takes a means test on a means test calculator he found. He thinks he failed the means test and cannot file for chapter 7 Bankruptcy.

At a party, his friend refers him to an attorney who suggests that the home be short sold so that the overall consumer debt from the mortgage, credit cards and the car loan is reduced to an amount that is lower than the potentially dischargeable debt. Fred was going to sell the home anyway and rent.

Fred later files for bankruptcy and discharges his legal obligation on the credit cards and the tax debt.

End of Example

If you have serious tax debt and consumer debt and are starting to contemplate a chapter 7 Bankruptcy, but you are concerned that you will not qualify to file because of the bankruptcy means test…determine exactly what debts you have and what is owed. Look at whether the tax or business debt totals are greater than all of your consumer debt by at least 1 red cent.

If it is – you may be on your way to a fresh start.

IRS Lien – 6 ways to deal with it

elephant leaning on mom-thumb-375x282-55228The IRS Likes to Record Liens

The IRS enjoys recording a Notice with the County Recorder that a Tax Lien exists. This is how it protects its ability to get paid as to any assets that exist. It likes to do it so much that it will file a Notice of Federal Tax Lien with Arizona County Recorder’s Office where the taxpayer lives, even if the Taxpayer has no assets.

IRS Lien Notice Recordings are Trouble

These Notices can wreak some havoc. The recording will lower the credit score making it more difficult to borrow money, they make job-hunting more complicated, and they can ruin the sale of a home.

Fortunately, there are some legal options to deal with IRS Lien recordings.

There are a number of legal methods to help alleviate the IRS lien recording. The most common ones we use are listed for your enjoyment.

1. Pay up or Negotiate

The simplest thing to do is just to pay the debt. If the debt is paid, the lien is worthless. The IRS will usually remove the lien filing when the balance is 0. Sometimes you have to push them.

If you don’t have the funds available to pay it…like most people, you may be a candidate for an IRS Offer in Compromise. This process is formal and legal and requires that you meet certain criteria.

If you do and the whole thing works out the payoff can be huge. We have successfully used this program to help our clients get rid of thousands of dollars in tax debt. As an added bonus, if the Offer in Compromise is successful and paid, the lien will be removed.

2. Lien Discharge – Removing the Lien From the Home to Facilitate the Sale

The Mortgage Company has recorded its lien before the IRS does. The Mortgage Company Lien has dibs on the equity and the IRS gets what is left if any if the home is foreclosed on or sold.

These days…this is an issue when the homeowner is trying to short sell the home.

Example:

Taxpayer owns a Mesa, Arizona home that is worth $50,000.00 less than what is owed on the mortgage. The home is listed and a buyer is found. The buyer sees the IRS lien on the Title History and is concerned that he or she may have to purchase the home subject to the Lien or at least that the Lien is going to make the purchase of the home much more difficult.

If the IRS agrees that there is nothing in it for them, it will agree to discharge the lien as to the home so that the buyer is comfortable and the sale can go through more easily. The IRS doesn’t want to get involved in a quiet title action over nothing.

The Notice of Lien remains in place as to the Taxpayer’s other assets.

3. Withdrawal of the Tax Lien.

The IRS will agree to “withdraw” the IRS Lien if it can be convinced that the withdrawal of the lien will facilitate the payment of the tax. This is difficult to do as you are trying to get the IRS to agree that no record of the lien on the County Recorder Site AND on the Credit Report will increase ability to borrow or to get a job. This involves a bit of speculation unless you actually have a credit turn down letter citing the lien or an employer notice that indicates the job requires you to be lien free.

It will also withdraw the lien if your tax debt is less than $25,000.00 – read more by visiting this page.

Withdrawing the lien therefore is a better option than releasing the lien if it can be done as the history of the lien recording is removed from the credit report. When the lien is just “released” the fact that it existed remains on the credit report for several years.

4. IRS Lien Subordination

The IRS will agree to move its priority downward in relation to other creditors and the subject property if it thinks that this will result in faster payment of the underlying debt.

Example:

Home is valued at $150,000.00 and a mortgage is recorded at $225,000.00. A bankruptcy is out of the question and the homeowner loves the home and doesn’t want to move. A modification is proposed and the bank agrees to reduce the monthly payment by $350.00

The catch? The IRS’ Notice of Lien causes the bank to hesitate about recording the new modification, as it may end up in second position to the IRS.

If the IRS can be convinced that the reduction in the mortgage payment will increase it’s monthly take from the taxpayer, it will agree to “subordinate” the lien behind the new mortgage recording.

5. Discharge the underlying debt in Bankruptcy – “Stripping the Lien”

If the underlying tax debt is discharged in a bankruptcy and the property that is subject to the lien is worth less than the tax debt amount, the lien is effectively stripped as a result of the bankruptcy discharge.

Example:

Taxpayer’s assets are worth $5000.00 total. Tax debt that meets criteria for discharge in Bankruptcy is $125,000.00. Chapter 7 bankruptcy is filed, obligation on underlying debt is discharged and lien is worth only $5000.00 at the conclusion of the case.

Example:

Taxpayer’s assets are worth $5000.00 total. Tax debt that meets criteria for discharge in Bankruptcy is $125,000.00. Chapter 13 bankruptcy is filed, obligation on underlying debt is treated as dischargeable debt but taxpayer pays value of lien or $5000.00 over the life of the case to the IRS, 3 to 5 years.

6. Just Ignore It

If the lien is ignored, the law will kill it. The IRS can collect its debt if it does so within 10 years from the assessment date. When the underlying debt has been wiped out by the 10-year statute on collection the lien goes with it.

This is more common than imagined by most. Many taxpayers arrange a payment plan or other agreement that pays less than the overall debt by the time the 10 years is up and let the statute take care of the rest.

 

Photo Credit: The Catholic Realist

If you qualify for a Chapter 7 Bankruptcy, why in the world would you want to file a Chapter 13 Bankruptcy? 5 Common Reasons

bills-thumb-375x325-49437Chapter 13 Bankruptcy in Arizona. We have helped a few hundred clients over the years navigate one. They are strange creatures and require a good understanding of basic bankruptcy ideas in order to fully grasp how they work.

The most common question I get about them other than what it is?… “why would a person want to file one IF he already qualifies to file what should be a simpler chapter 7 case”.

In my opinion, here are the five most common reasons why a person would want to consider a chapter 13 bankruptcy if he already qualifies to file a chapter 7 case.

1. Foreclosure

If his home is being foreclosed upon, and he thinks that he can afford the underlying payment and basic living expenses AND if he can’t work anything out with the bank, a chapter 13 bankruptcy will stop the foreclosure process and allow him time to spread the arrears out over 3-5 years.

2. Tax Debt – Chapter 13 payment plan better than IRS payment plan

The IRS may have rejected an offer in compromise. It may be trying to force a payment plan that is just too big considering an actual budget.

In a chapter 13 bankruptcy, a payment plan can be “forced” on the IRS in regards to the non-dischargeable tax debt and the payment may be friendlier than the one the IRS wants.

The chapter 13 will also allow for the treatment of civil penalties on income tax debt as dischargeable i.e. it is possible that the IRS would receive little or nothing on the penalty portion of the debt and the interest that goes along with it.
3. Get rid of your second mortgage

His home is upside down and is worth less than he owes on the first mortgage. A chapter 13 should allow him to treat the second mortgage as unsecured and “strip” it off the home.

4. Cram down other property to it’s market value

He may own a car that is worth much less than he owes on it and/or that has a very large interest rate attached to it. In a Chapter 13 case, he may be able to pay only the value of the car at a reduced rate and treat the remainder of the debt as unsecured.

5. You have an asset that you just don’t want to lose or sell

Sometimes people qualify for a chapter 7 bankruptcy but they own something that is very important to them and that they don’t want to lose to the chapter 7 trustee for liquidation or sell prior to filing a case.

A Chapter 13 case allows for the asset to be kept as long as the market value of that asset is paid so that creditors get at least it’s market value.

This only makes sense if the amount paid to keep the asset is less (far less) than the amount paid to creditors.

Conclusion

There are other reasons to use a chapter 13 bankruptcy case instead of a chapter 7 case. Many in fact. Most people find themselves in one of the predicaments above. If you do, see an experienced Chapter 13 bankruptcy attorney.