How Does an Offer in Compromise Work?
An Offer in Compromise lets you settle IRS tax debt for less than you owe — but only if you genuinely cannot pay in full. Here is how the IRS evaluates an offer.
An Offer in Compromise (OIC) is an agreement between a taxpayer and the IRS to settle a tax debt for less than the full amount owed. It is the most powerful relief tool in the Internal Revenue Code — and the most misunderstood. Less than 40% of submitted offers are accepted, and the IRS uses a strict formula called Reasonable Collection Potential (RCP) to decide.
Key terms
- Reasonable Collection Potential (RCP)
- The IRS's calculation of what it could collect from your assets plus future income.
- Doubt as to Collectibility
- Most common OIC basis — you cannot pay the full balance now or through an IA.
- Effective Tax Administration (ETA)
- Rare basis — paying would create economic hardship or be inequitable.
- Lump Sum Offer
- Paid in 5 or fewer installments within 5 months of acceptance.
- Periodic Payment Offer
- Paid over 6 to 24 months.
Step-by-step
- 1
Confirm filing compliance
Every required tax return must be filed. Current-year estimated payments or withholding must be on track.
- 2
Pull IRS transcripts
Wage & Income, Account, and Record of Account transcripts for every year owed.
- 3
Calculate Reasonable Collection Potential
Quick Sale Value of all assets (typically 80% of FMV) MINUS allowed liabilities, PLUS future income (12× or 24× monthly disposable income depending on payment terms).
- 4
Prepare Form 433-A (OIC) or 433-B (OIC)
Full financial disclosure. The IRS verifies every line — undisclosed assets or income kill the offer.
- 5
Complete Form 656
The offer itself. Specify lump sum or periodic payment and amount offered (must be at least RCP).
- 6
Submit application fee and initial payment
$205 fee plus 20% down (lump sum) or first periodic payment. Low-income certification waives both.
- 7
Respond to IRS examiner
Average review takes 6–12 months. The examiner usually requests additional documentation.
- 8
Stay compliant for 5 years
After acceptance, file and pay timely for 5 years. Default returns full liability plus accrued interest.
Checklist
- Every required return filed
- Current year estimated payments / withholding on track
- IRS transcripts pulled for every tax period
- Asset list: real estate, vehicles, bank accounts, investments, retirement, life insurance cash value, receivables
- FMV documentation for every asset
- Loan balances on each asset
- Income documentation (12 months for individuals, 6–12 for self-employed)
- Monthly expenses with receipts
- Form 433-A (OIC) or 433-B (OIC) complete
- Form 656 signed
- $205 application fee (or low-income certification)
- 20% down payment (lump sum) or first payment (periodic)
Frequently Asked Questions
How PF Consulting Firm can help
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