The Tax Increase Prevention and Reconciliation Act of 2005 (TIPRA) makes substantial changes to the IRS offer in compromise program. Most notably, TIPRA includes a provision in which taxpayer submitted offer in compromises are “deemed” accepted by the IRS.

The offer in compromise or OIC program for compromising tax debts for less than is actually owed. Taxpayers often refer to this program as the process of settling tax debts for pennies on the dollar.

The IRS offer in compromise process is notoriously slow, with the IRS appeals officer not even being assigned to a taxpayer submitted offer in compromise for upwards of six months.

Pursuant to TIPRA, subsection (f) was added to IRC 7122. This subsection indicates that the IRS is deemed to have “accepted” an offer in compromise if the offer in compromise is not withdrawn, returned or rejected within 24 months after the IRS received the offer in compromise. This new law is effective for offer in compromises submitted two months after May 2006. This means that we are one year away from the time when the first “deemed” accepted offer in compromises will start to show up.

Here are some general thoughts about this coming “deemed” offer in compromise scenario:

The offer in compromise process is a bargaining process. Taxpayers often submit an initial offer in compromise and then either amend or submit a new offer in compromise at the instruction of the IRS appeals office. It is not unusual for a taxpayer to submit two or three offer in compromises to the appeals office in this process.

The appeals office, in my experience, has and continues to only continue processing the one final offer in compromise. The others merely disappear. Apparently, the appeals office is not concerned about these other offer in compromises being “deemed” accepted – but it should be.

Also, the courts have said that the offer in compromise is a legal contract that is governed by state contract laws. This means that we will probably see some state law based litigation for these “deemed” offer in compromises. The issues could be very complex. Here are some examples:

If a first offer in compromise is ignored but then a second offer is accepted in the negotiating process, does the first offer then trump the second offer after the 24 month period? What if only the second offer is rejected, does that rejection apply to the first offer? What if there is confusion as to which offer was accepted, rejected, etc.?

What happens if the IRS and/or the taxpayer cannot establish the date on which the offer was received, rejected, withdrawn, or returned? Who has the burden to make that showing and, if it is the taxpayer, how does the taxpayer show that the IRS failed to issue a rejection letter or return the offer to the taxpayer? When is an offer in compromise withdrawn? Is it when the taxpayer calls the appeals office and says “I withdraw my offer in compromise,” when the taxpayer faxes or mails a letter to the IRS saying this, or when the IRS actually receives the fax or letter?

What state law applies if the taxpayer resides in State A at the time the tax obligation arose, moved to State B and negotiated the offer in compromise, moved to State C by the time the offer is “deemed” accepted and the IRS appeals officer is located in State D and the IRS center that received the offer is in State E (Tennessee)?

Also, there are significant federal tax law issues that remain to be resolved.

For example, how does a taxpayer tell the IRS collections function that the tax is not owed and that any future collection activities are illegal? What about getting a lien lifted because the tax debt is no longer enforceable because an offer in compromise was “deemed” accepted?

Taxpayers currently run into this situation where the IRS has let the collections statute expire (i.e., the CSED lapses). Taxpayers who are in this situation have no immediate way of telling the collection branch to stop its illegal collections activities and they have to write letter after letter and just hope that collection activity stops. In most cases the issue is beyond the grasp of IRS employees, who are merely able to read the CSED that shows up on their computer screen and assume that it is THE correct answer.

If collections doesn’t stop, then the taxpayer has to appeal the collection activity after the fact. Is this how “deemed” accepted offers will start showing up in the system? Is that the best way to handle them? Maybe the Advocates Office will start handling these cases?

The IRS has issued Notice 2006-68, which fails to address any of these “deemed” accepted issues. In fact, this Notice raises even more questions.

Even more disturbing, what if every taxpayer decided to start mailing in $1 lump sum offer in compromises every day for the next two years? Would the IRS be able to reject and keep track of each and every one of those offer in compromises?

Sure the taxpayer would have to worry about the new frivolous submission penalty, but that is just a civil penalty and it is only a very nominal amount and taxpayers could withdraw any submission that they were notified by the IRS that it was frivolous, thereby avoiding the penalty on the offer in compromises that the IRS caught.

Of course, I would never recommend something like this to any taxpayer. I merely point out the issue, as there very well could be a storm on the horizon with regard to “deemed” offer in compromises -- a storm that could cost the US Treasury quite a bit of tax revenues.

Labels: offer in compromise, tax administration