IRS Forgiveness Program: Do You Qualify For One of These 6 Programs?
If there’s one organization you don’t want to owe, it’s the IRS.
The good news is that there are six major ways to get your IRS debt forgiven — IRS forgiveness programs if you will:
- Offer in Compromise
- Partial-Payment Installment Agreement
- CNC Status With Expiring CSED
- Innocent Spouse Relief
- Penalty Abatement
- Liability Contesting
Taxpayers should note that bankruptcy is another option to deal with IRS debt, but bankruptcy is not technically an IRS forgiveness program since it is administered judicially through the legal system rather than administratively with the IRS itself.
Table of Contents
1. Offer in Compromise
Any remaining taxes, penalties, and interest you owe beyond your offer amount are forgiven.
One thing to keep in mind about the offer in compromise forgiveness program is that it is a long process: The average offer in compromise submission package takes some time to prepare and submit to the IRS, and after the IRS receives the package, it generally takes at least seven months for an IRS employee to review it.
How to Qualify For an Offer in Compromise
Another thing to know about the offer in compromise program is that not all tax debtors qualify for it. In order to qualify for an offer in compromise, a taxpayer must show one of these three things:
- They cannot fully pay what they owe, taking into account both their monthly disposable income and the equity they have in assets — both determined based on how the IRS calculates disposable income and equity in assets. This kind of IRS offer in compromise is called a doubt as to collectibility offer in compromise.
- They do not actually owe the amount — or at least the full amount — of the amount the IRS believes they do. This kind of offer in compromise is called a doubt as to liability offer in compromise.
- Despite the fact that you owe the tax in question and also have the ability to pay it, there are some other exceptional circumstances that would justify the IRS accepting some lower amount in satisfaction of your debt. This kind of offer in compromise is called an effective tax administration offer in compromise.
The Most Common Offer in Compromise
The doubt as to collectibility offer in compromise is the most common type of offer in compromise submitted to and accepted by the IRS.
Although you have to disclose all of your financial information to the IRS with this offer type, the beauty of it is that your offer is based more so on what you make and what you own than what you owe.
So even if you owe $5,000,000 to the IRS, if you can prove to the IRS that based on the IRS’s own offer in compromise formula — worked out on Form 433-A (OIC) — you can only afford to pay, say, $5,000, then that’s what you would pay them in an offer in compromise.
2. Partial-Payment Installment Agreement
Now, one thing that trips up and prevents many taxpayers from obtaining an offer in compromise — at least a doubt as to collectibility offer in compromise — is equity in their home.
The Peril of Home Equity
We see this all the time — an individual or married couple who owe a lot of money to the IRS and who would be great offer in compromise candidates based on their income and assets except for the fact that they have significant equity in their home.
You see, whether your equity in your home is accessible or not — whether or not you actually qualify to take cash out of your house in a cash-out refinance or a HELOC or some other financing arrangement — the IRS will absolutely count the equity in your home against you for purposes of an offer in compromise.
Now, just as a sidenote, the IRS does give you a bit of a discount on your home for purposes of valuing it for offer in compromise purposes — the formula is actually the fair market value of your home (taking into account any necessary repairs or anything like that) multiplied by 80% less any mortgages secured by the home.
So if your home is worth $1,000,000 and you have a $600,000 mortgage on it, you in reality have $400,000 in equity in it. But the IRS lets you discount that $1,000,000 to 80% of that amount — or $800,000 — so less the $600,000 mortgage you actually “only” have $200,000 of equity in your home for offer in compromise calculation purposes.
But even with this little break the IRS gives you in the valuation of your home, many people still have an amount of equity in their home as calculated for offer in compromise purposes that preclude them from being approved for a doubt as to collectibility offer in compromise.
Does this mean they are necessarily stuck paying off their full balance to the IRS? Not necessarily.
The Solution to Home Equity
A strategy we use a lot for clients in a situation like this is the partial-payment installment agreement (PPIA).
Let me give you an example.
Let’s take a married couple with three kids who owe $100,000 to the IRS.
And let’s say their only asset is their home, which is worth $500,000 but on which they owe $300,000. For offer in compromise purposes, the value of the house is reduced to $400,000, so they have $100,000 in equity in their home, which is the amount they owe to the IRS.
So they’re already — just based on this fact alone — out of the running and not qualified for a doubt as to collectibility offer in compromise with the IRS.
But let’s say that this married couple can’t access the equity in their home, and they can show that with loan denial letters from a few mortgage lenders.
This opens up the possibility of a partial-payment installment agreement; the IRS does have to deal with the taxpayer’s equity in assets before they will approve a partial-payment installment agreement; but in my experience, they will generally ignore it and consider it addressed except in very extreme circumstances if the taxpayer or taxpayers can show that the equity is inaccessible.
So if their home is their only asset, the only thing we have to worry about now is their income and expenses.
Let’s say the couple takes home $8,000 a month and after subtracting their necessary living expenses according to the IRS’s rules and standards which will likely cap some of their expenses at certain amounts they have $1,000 in monthly disposable income for offer in compromise purposes.
This might sound like a stretch to drum up $7,000 in allowable expenses, but let’s also consider that maybe both spouses work and they have to pay a lot for daycare for two of their children who are not in school yet. It’s not impossible.
So here’s what we do to see if a PPIA will help them out. We figure out when their tax debt will drop off.
So let’s say that this couple owes this $100,000 across the 2014, 2015, and 2016 tax years. Let’ s say they got an extension every year and filed for an extension and filed their returns in October every year.
Assuming the statute has not been extended at any point for any tolling events, the statute on their freshest debt, which is what we’re concerned about — the 2016 tax debt — would expire let’s say in October 2027, which is 10 years from when they filed their 2016 tax return because the IRS only has 10 years to collect on a tax debt from the date it’s assessed.
The expiration date — known as the collection statute expiration date (CSED) — is technically 10 years from the assessment date, but let’s assume that assessment date was in October 2017 shortly after the taxpayers filed their 2016 return.
Now to make the math easy, let’s say we are currently in October 2023. So there are three years, then, between today and the date their last tax year will drop off. That’s 36 months.
So in this case, a PPIA wouldn’t be a bad deal; the couple would have to pay their monthly disposable income of $1,000 per month to the IRS for 36 months with the result being that they would end up paying $36,000 to the government in total with the remaining $64,000 of their total current $100,000 in tax debt being written off. And the penalties and interest would be written off too.
And obviously, if we were able to argue their allowable expenses leave them with only $500 disposable per month, that would be cut in half to $18,000.
So that financial analysis and the information you put on the Form 433-A is very important. You want to be aggressive without being frivolous and let the IRS push back rather than pushing back on yourself for them.
Now, there are some drawbacks to PPIAs. One big one is that the IRS will very likely file a Notice of Federal Tax Lien against you if you’re in a PPIA. Now, this tax lien will release when the tax debt drops off, so if you’re not planning on selling your home or refinancing before that date, it doesn’t really matter. And tax liens have not appeared on credit reports anymore since 2018, either.
Before we move on to the next IRS forgiveness program, let me mention something else about PPIAs: The IRS is actually given statutory authority to review partial-payment installment agreements every two years. So if you’re making a lot more money a couple years down the line than you were when you got into the PPIA, the IRS could demand more money in your monthly payment, and that amount could kick you up to a full-payment installment agreement.
But you can counter that with submitting fresh financials that could show that you have more necessary living expenses now as well.
3. Currently Not Collectible Status With Expiring CSED
Now, let’s say in the previous example that the taxpayers — the married couple — had absolutely no disposable income left over at the end of the month taking into account the IRS’s rules and standards.
In this case, they still wouldn’t qualify for an offer in compromise due to their equity in their home.
But if that equity is inaccessible and they can show no disposable income, they would likely qualify for currently not collectible (CNC) status.
And while they’re in CNC status, they do not have to make any payments to the IRS, nor will the IRS take forced collection activity against them.
And the wonderful thing is that while the taxpayers are in CNC status, the IRS’s time limit to collect on their debt continues to run, so theoretically if the taxpayers remain in CNC status until that collection statute expiration date, their tax debt will be written off without them having had to pay the IRS a single cent — and this cannot be said for an offer in compromise or a partial-payment installment agreement, as great as those options are.
Now, same as a PPIA, the IRS can remove you from CNC status if your financial situation changes. So the IRS can request updated financials or if your income as reported on your tax return increases by enough, the IRS could automatically kick you out of CNC.
But just like I said with a PPIA, you can of course petition again to be placed in CNC with updated financials.
4. Innocent Spouse Relief
If your spouse or ex-spouse made a mistake — or intentionally overstated expenses or other tax benefits — on a joint tax return with you, you may qualify for innocent spouse relief.
Innocent spouse relief is an IRS forgiveness program that can be applied for if your spouse or ex-spouse made mistakes on a married filing jointly tax return that you were also on. Examples of these mistakes could include underreporting income or taking tax deductions or credits that were not allowed.
Under the concept of joint and several liability, if you filed a married filing jointly return with your spouse, you are generally responsible for the tax debt just as much as your spouse is. It doesn’t matter if they earned all the income and they were the one who filled out the return — by signing that return, you affirmed under penalty of perjury that you have “examined [the] return and accompanying schedules and statements and to the best of [your] knowledge and belief, they are true, correct, and complete.”
But if the IRS accepts your innocent spouse relief claim, you would be forgiven of any tax debt attributable to your spouse’s or ex-spouse’s misdeeds.
In order to obtain innocent spouse relief, you must show that you did not know and had no reason to know that the tax return was incorrect, leading to the tax balance, and that it would be unfair for you to have to pay these back taxes.
The IRS also considers factors such as whether your spouse or ex-spouse abandoned you and whether you personally received a “significant benefit” from the error on the return.
A good example of an innocent spouse claim is where your spouse runs a business that you are not involved in, and you have no knowledge of the specific expenses incurred.
If your spouse reported a higher amount of expenses on the tax return than was actually justified, you may have grounds to claim that you had no reason to know the exact amount.
On the other hand, if the error on the tax return is obvious and easy to catch, such as a deduction or credit for tuition expenses when neither you nor your spouse nor any of your dependents are in college, your claim may be weaker.
Obtaining innocent spouse relief can be an excellent way to get tax debt relief in the right circumstances, as it results in the removal of all tax debt attributable to your spouse’s or ex-spouse’s errors on a joint tax return from your account with the IRS.
5. Penalty Abatement
If you owe the IRS money, they will charge you penalties as a result.
The most common IRS penalty is the failure-to-pay penalty, which is 0.5% of your unpaid balance every month or part of a month, with a maximum penalty of 25% of your balance.
The failure-to-file penalty is another common penalty, equal to 5% of your unpaid balance for every month or part of a month that your tax return is late, with a maximum penalty of 25% of your balance.
If you are unlucky enough to be subject to both penalties, the failure-to-file penalty is reduced by the failure-to-pay penalty for the five months during which the failure-to-file penalty applies, meaning the maximum combined penalty is 47.5% of your balance.
There are other penalties that the IRS can assess, but these are the major ones.
However, it is possible to get some abatement, or forgiveness, of your tax penalties.
If you have a good compliance history and just got behind for a year, we can generally get the IRS to waive the penalties.
If you have a recent spotty compliance history, we would need to make a case based on reasonable cause for why the IRS should remove your penalties for that year or those years.
It is important to remember that the link between the life circumstance or reasonable cause and your lack of compliance must be strong.
You must be able to spell everything out and connect the dots for the IRS in a logical way, or they will not grant penalty abatement.
They will also consider other factors, such as whether you were able to take care of other obligations when you were sick but not your taxes.
I do recommend at least looking into penalty abatement as a form of tax debt relief.
6. Liability Contesting
If you find yourself with a tax debt that you believe you do not owe, or at least not in full, there are a few ways to go about getting relief from the IRS.
One way is to amend your tax return for the year in question if you made errors on your original return that caused the tax debt to arise.
To do this, you need to prepare your return again with the corrections, and submit it to the IRS along with Form 1040X and a copy of your original return.
If you are looking to get a refund or credit for a particular tax year, you generally have three years from the date you filed your return to do so.
However, if you paid tax on a return later than that date, you have two years from the date you paid tax to get that tax refunded with an amended return.
Another option is to file a doubt as to liability offer in compromise, using Form 656-L.
On this form, you must explain why you believe the amount of tax you are contesting is incorrect, and provide supporting documentation.
By doing this, you may be able to negotiate a settlement with the IRS and reduce or eliminate your tax debt.
IRS Forgiveness Frequently Asked Questions
Here are some frequently asked questions about IRS tax debt forgiveness.
Does the IRS forgive tax debt after 10 years?
Yes, in a sense, the IRS forgives tax debt after 10 years.
I say “in a sense” because the technical answer is that ten years from the date it assesses a tax, the IRS doesn’t technically “forgive” the tax debt, but it writes it off since it can no longer collect on that debt.
However, this ten-year time limit can be extended for certain events known as “tolling events.”