Faced with large tax debt and feeling hopeless? Take heart…if you are willing to create a “strategy” and combine it with some hard work and patience, there may be a real solution. The following are the most 5 common methods people use to deal with tax debt.
1. Use the IRS Statute of Limitations to Your Advantage
Congress limited the time the IRS has to figure out how to get paid. 26 U.S.C Section 6502 provides this limit and as a result, the IRS has ten years to get the debt collected. Many people with IRS debt buy the time necessary to get to the 10-year period by negotiating an installment agreement or non-collectible status placement.
Imagine a tax debt of $120,000.00 and that the IRS has let 7 years pass without fully attempting to collect the debt, but they are now at the doorstep. The debt has grown to $200,000.00 with penalty and interest over time, but the taxpayer can only afford to pay $100.00 per month toward the balance. If the taxpayer were able to negotiate such a payment, only $3600.00 of the $200,000.00 would be paid before the debt disappeared.
The above scenario happens more often than you would think. However, there are things people do that stop the ten-year clock from running. Filing an offer in compromise, a bankruptcy, a collection due process appeal, or anything else that stops the IRS’ ability to collect also stops the statute of limitations clock from ticking. It isn’t always advisable to do anything other than to negotiate the payment plan or non-collectible status as a result.
2. Challenge the Tax Debt
What about a situation where the IRS assessed a debt against you that you know isn’t correct.
Usually, this is the result of an audit “gone bad” or the creation of a tax return by the IRS, because you didn’t file it yourself.
IRS Audits that go badly can be appealed. If done right, they can be appealed to the US tax court. If your audit result is wrong, you have a limited amount of time to bring the appeal, so call someone now.
Substitute Tax Return Appeal
Tax returns filed by the IRS come with appeal rights as well. Most people don’t respond in time and lose them, however. Thankfully, the assessment of the tax from the incorrect return can be challenged using the IRS audit reconsideration process.
Challenge Trust Fund Recovery Assessment
There are other things the IRS does to assess tax debt that can result in an incorrect debt amount, like the assessment of the trust fund recovery penalty against a responsible party.
Where the business has withheld the employee portion of the payroll tax but didn’t send it in, the IRS stick the amount on you personally as a penalty if you are the “responsible” party.
There are defenses to this, however, and the assessment of the debt can be challenged as a result.
Innocent Spouse Relief
Sometimes the tax is correct but it just isn’t fair that the spouse should be stuck with it. The law provides the ability to challenge the debt based on some theories about innocent spouses.
3. File an IRS Offer in Compromise
26 U.S.C Section 7122 provides the basis for the settlement or one-time reduction of the tax debt. In essence, you would be making an offer to compromise and settle the back tax liability. But this isn’t horse-trading. The amount that the law requires the IRS to settle for is based on objective criteria. The criteria is called the IRS reasonable collection potential or the RCP.
In theory, the RCP is the amount that the IRS could collect from you before the statute of limitations period on collection runs out.
The vast majority of offers filed in the last several years fail primarily because the RCP calculation is rigged a bit in the IRS’ favor. The IRS is allowed to use as a starting point for calculation purposes, a budget that is based on averages they have created.
For instance, they may have pre-determined that a family of four only needs $1650.00 per month to pay for all housing and utilities expenses. That family may be actually spending $2100.00 per month. If in the end, the IRS were able to use the $1650.00 figure to determine the RCP, then the amount of extra income per their calculation would be at least $450.00 per month.
If the statute of limitations period remaining on collections is 8 years than the RCP, just based on this number could be as high as $43,200.00
Typically, the IRS must use a smaller multiplier than the statute period, but even then, you can see how quickly the RCP can grow.
Successful Offers in Compromise, require much thought and planning as a result. They shouldn’t be entered into lightly.
Bankruptcy and its relation to tax debt are misunderstood. Many people including many attorneys believe that bankruptcy can’t resolve income tax debt. Nothing could be further from the truth.
In fact, the treatment of the tax debt is not up to the IRS. The Bankruptcy Code governs the treatment of the debt. The Bankruptcy Code says that income tax and certain other tax debts can be wiped away in bankruptcy, if it meets certain date requirements and the taxpayer didn’t cheat.
Sometimes the date requirements haven’t been met yet and we guide our clients in negotiating a payment plan or non-collectible status to help them avoid collection activity while they wait for those dates to arrive.
5. Penalty Abatement
As a taxpayer, you have the right to request the cancellation of any IRS penalty. There are more than 140 penalty provisions and they all have a good faith exception.
If you have been penalized for something like a failure to pay the tax on time, but you acted in good faith and there exists some reasonable basis for the failure, then the penalty can be removed along with interest on it. This removal often makes it easier for you to deal with the underlying debt.
Michael S. Anderson, Attorney
2158 N. Gilbert Rd. Ste 101
Mesa, Arizona 85203
Phone: (480) 507-5985
Fax: (480) 507-5988
Email: [email protected]