Offer in Compromise While in Collections Reference Guide
Understanding the Collections Context
An Offer in Compromise proposes settling a tax debt for less than the full balance. Mailing an offer does not itself stop collection: the offer must become pending after the IRS accepts it for processing. Levy restrictions generally apply while a processable offer is pending and during protected rejection and timely appeal periods, subject to exceptions. An existing levy is not automatically released.
A pending offer does not prevent every collection measure. The IRS may file a Notice of Federal Tax Lien, and existing liens ordinarily remain until the offer terms permit release. Contact the IRS promptly about any existing or new levy; whether it must be released depends on the applicable collection restrictions and release grounds.
Success depends on understanding that Collections and the OIC unit operate separately, and your actions during the review period can strengthen or weaken your negotiating position.
Who Should Use This Guide
This guide applies to you if the IRS Collections division has sent you notices or is actively pursuing payment, if you have received a levy notice, wage garnishment notice, or bank levy, if you owe back taxes and cannot pay the full amount, or if you want to propose paying a lower settlement amount while collection activity is ongoing. Use this guide if you have received a Final Notice of Intent to Levy or if you are self-employed or a small business owner with unpaid payroll or income taxes.
This guide addresses assessed IRS collection debts. An open bankruptcy makes you ineligible to apply for an OIC, and open audit or innocent-spouse issues should be resolved first. An existing installment agreement does not itself bar an offer; the IRS booklet explains when payments on that agreement are suspended while the offer is considered. Criminal matters and questions about the validity of a liability need case-specific advice.
What the IRS Evaluates
The IRS Collections function prioritizes immediate payment. Filing an OIC signals that you cannot pay immediately. The IRS will measure your reasonable collection potential, which is their estimate of what you can actually pay, before considering any settlement.
The IRS focuses on your current income, assets, and monthly living expenses when calculating your reasonable collection potential. The IRS verifies whether you have filed all legally required tax returns. The IRS checks whether you are current on estimated taxes or payroll deposits if self-employed. The IRS evaluates your assets that can be used to satisfy the debt.
Your leverage changes when you demonstrate that your financial situation has genuinely worsened since the debt arose, when you provide documentation that the IRS's estimate of what you can pay is too high, or when you offer a lump-sum payment that settles the case faster.
Missing filing deadlines, failing to submit required returns while the OIC is pending, failing to respond to requests for financial information from the OIC unit, incurring additional tax debt after you have filed the compromise offer, or ignoring collection notices make the situation worse.
Essential Steps When Filing During Collections
- Verify whether the IRS Collections division is actively pursuing you by reviewing all written notices you have received in the past 12 months. Look specifically for words like "Final Notice of Intent to Levy," "Notice of Federal Tax Lien," "Levy," or contact from a Collections Revenue Officer.
- Verify you have filed all legally required tax returns. Obtain your IRS transcripts and compare them with your records. If the IRS shows unfiled returns, file them immediately before submitting an OIC, because the IRS will not process an offer from someone with open filing obligations.
- Calculate your reasonable collection potential using the applicable IRS financial forms and allowable-expense standards. The IRS considers available asset equity and future income. Being able to pay more than a modest amount does not by itself disqualify you; the central issue for a collectibility offer is whether you can fully pay the debt through assets and payments, with special circumstances considered where applicable.
- Gather three months of current financial documents. Collect recent pay stubs for the past two months, bank statements for the past three months, mortgage or rent statements, utility bills, car payment records, insurance bills, and proof of any child support or alimony. Incomplete financial documentation is a common reason OICs are rejected outright.
- Document why you cannot pay the full debt and why you deserve a compromise. Provide a concise statement detailing the reasons for the debt and explaining why your current financial situation makes full payment unfeasible. Include dates and details.
- Choose the correct offer basis and form. Form 656 is used for doubt as to collectibility or effective tax administration. If you dispute whether you owe the tax, review Form 656-L for doubt as to liability instead. Do not submit both types at the same time; resolve the liability question first.
- Calculate your opening offer amount using the IRS formula. For lump-sum offers, future income equals monthly disposable income multiplied by 12. For periodic payment offers, multiply the monthly disposable income by 24 months, or by the number of months remaining under the collection statute, if fewer. Add the net realizable equity in your assets to determine your reasonable collection potential.
- Confirm that the IRS has accepted the offer for processing and marked it pending; merely mailing it does not establish protection. Ask the assigned IRS contact about levy restrictions and any existing levy. Filing the offer does not automatically release a levy already served.
- For a Form 656 offer, use Form 433-A (OIC) for wage earners and self-employed individuals, and Form 433-B (OIC) for applicable businesses. Include the signed offer, supporting documents and required fee and payment, unless the individual qualifies for Low-Income Certification. Follow the current Form 656-B booklet for the package that fits your situation.
- Track your case status regularly after submission. Check whether the IRS is requesting additional documents. Most issues arise because the IRS sent a request for information that the taxpayer either never received or did not respond to promptly.
- Respond to additional-information requests by the deadline stated in the IRS letter, using the specified address or submission method. If you need more time, request an extension before the deadline. Do not assume every request gives you 30 days.
- Understand your appeal rights if the IRS denies your OIC. You have 30 days from the date of the rejection letter to file Form 13711 to request an appeal with the IRS Office of Appeals.
Common Mistakes to Avoid
● Missing required returns can cause the IRS to return an offer without appeal rights, rather than issue an appealable rejection. Verify filing compliance before applying and follow the current Form 656-B instructions.
● Submitting an OIC with insufficient or outdated financial documentation gives the IRS grounds to request new documents or reject the offer outright. Missing or vague financial information is interpreted as an incomplete application.
● Incurring new tax debt or failing to file returns while the OIC is pending causes the IRS to view you as non-compliant and may result in denial. The IRS expects taxpayers to stay current on all tax obligations during the review period.
● Offering an amount far below your calculated reasonable collection potential without a precise justification results in denial. The IRS uses its formula, and it expects your offer to align with it or include specific evidence that the formula is incorrect for your situation.
● Missing an information-request deadline can lead to return of the offer. Contact the examiner promptly if documents are unavailable and request more time when needed. A returned offer does not carry the same appeal rights as a rejected offer; read the decision letter carefully.
● Submitting an OIC when you are earning a stable, adequate income can lead to denial. The IRS will calculate that you can afford to pay the full debt on an installment plan. An OIC is intended for situations where genuine financial hardship makes it impossible to make payments.
Actions That Improve Outcomes
Submitting a complete and accurate OIC application, along with current financial documentation, strengthens your position. Timing matters: filing an OIC earlier in the collection process, before aggressive enforcement begins, improves your negotiating position.
Maintaining full tax compliance during the OIC review period by filing all required returns on time and paying any estimated taxes currently due demonstrates your seriousness about resolving the debt. Clear documentation of changed financial circumstances or specific errors in the IRS calculation supports your case.
When to Seek Professional Assistance
Seek professional help if you have received a notice of federal tax lien and a collections notice within the past 60 days, if you have been assigned a revenue officer who is actively pursuing a specific levy or asset seizure, or if your OIC has been rejected once. You believe the IRS calculation of your reasonable collection potential is incorrect if your financial situation changed significantly between the time you submitted the OIC and now, or if you are self-employed, operate a business with employees, or have payroll tax debt in addition to income tax debt.
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This checklist is for educational purposes only and does not constitute tax or legal advice. Always review official IRS instructions and consult a qualified professional for guidance.