In Their Resolution Outline, the IRS Ignores the Hardship Option
When the IRS presents back tax resolution options to the public, why is it that IRS hardship status is not listed and an Internal Revenue Service option? In a recent official publication for taxpayers that outlines ways to resolve back taxes owed, the Internal Revenue Service ignores IRS hardship status as an option. If a taxpayer successfully claims hardship, they can either pay less than what is owed over the time the IRS has to collect (the 10-year collection statute) or possibly pay nothing by being placed into currently-not-collectible (CNC) status. Another option the IRS never discusses with the taxpayer is discharging taxes via a personal bankruptcy.
In their manual, the IRS indicates that their goal is to collect as much as they can from the taxpayer over the collection statute. Assuming the taxpayer does not have the ability to pay, hardship status not only makes sense but ensures the taxpayer can continue to cover their living expenses and pay taxes beyond the minimum. The Tax Resolution Institute not only looks at hardship as an option based on what the taxpayer can pay when an installment agreement is submitted but we also understand that circumstances change, and a current monthly payment may not be feasible in the near future if circumstances change. For this reason, the IRS allows a taxpayer to look back as much as two years to determine how much they make and spend for installment agreement purposes.
If the IRS sets up a taxpayer to fail in their attempt to collect unpaid taxes, nobody wins. In some cases, taxpayers try to show that they are able to pay less than what is actually the case. Because of this, we understand that the IRS must be diligent, but we cannot understand why all taxpayers are punished for the actions of a few.
IRS Emphasized Back Tax Resolution Options
The options to resolve back taxes that the IRS highlights, are in the best interest of the Federal government, and can often leave a taxpayer out in the cold, especially if they qualify for hardship.
The back-tax options that the IRS suggest includes the following…
- Electronic Funds Withdrawal (EFW) – Allowing taxpayers to pay from their bank account when using tax preparation software or a tax professional, EFW is only available when a tax return is filed electronically.
- Direct Pay – Available at IRS.gov, Direct pay is a free online tool allows taxpayers to securely pay their taxes directly from checking or savings accounts without any fees or preregistration. Such payments can be scheduled up to 30 days in advance. An advantage of using direct pay is immediate confirmation once a payment is submitted.
- Credit or Debit Card – If a taxpayer desire to pay with a credit card or a debit card, they need to use the authorized debit and credit card processors that work with the IRS. All of these processors charge a fee, although the IRS does not receive any of this money.
- Cash Payments – Taxpayers using cash must use the PayNearMe option, but such cash payments are limited to $1,000 per day. Also, a $3.99 fee applies to this rather complicated payment method each time a taxpayer makes a payment.
- Offer in Compromise – Some taxpayers may qualify for an offer in compromise. This is an agreement between a taxpayer and the IRS that settles the taxpayer’s tax liabilities for less than the full amount owed. To help determine eligibility, individual taxpayers may use the Offer in Compromise Pre-Qualifier, a free online tool available on IRS.gov.
- Long-Term Installment Agreement – An IRS installment agreement is a payment plan with the IRS. Although many IRS installment agreements offer reasonable payment plans, they often require the support of a tax resolution professional to make sure everything is in order. A taxpayer that owes $50,000 or less in combined tax, penalties and interest potentially can qualify for a long-term payment plan of up to 72 months. For a long-term payment plan, a taxpayer can request an installment agreement by filing IRS Form 9465. Once completed, IRS Form 9465 needs to be mailed along with a tax return, IRS bill or notice.
- Short-Term Payment Plan – If a taxpayer owes less than $100,000 in combined tax, penalties and interest, they may qualify for a short-term payment plan of up to 120 days. With the Online Payment Agreement, no paperwork is required. In addition, there is no need to call, write or visit the IRS. The problem with short-term payment plans is they often work more to the benefit of the IRS than to the taxpayer.
Note that the 4 of the 7 options above discuss “how” to make payments as opposed to what other programs can be used to determine what amount is to be paid.
Nowhere above are the words “partial pay”, “currently-not-collectible” or “dischargeable” mentioned. Aside from submitting an offer in compromise for which most taxpayers do not qualify, hardship status is ignored.
Partial Pay Installment Agreement
The IRs allows a taxpayer to pay their necessary and reasonable living expenses (as dictated by IRS National and Local Standards) before they are required to pay back taxes. Necessary living expenses include food, clothing, housing, transportation, health care costs and current tax payments (estimates and withholding). As indicated above, the reasonableness is determined by the IRS and updated a couple times a year.
In addition, the IRS has 10 years from the date taxes are assessed to collect. If a taxpayer can prove that they are unable to pay the full liability over the remaining statute, they can enter into a partial-pay installment agreement.
For example, assume a taxpayer owes $60,000 to the IRS. To full-pay this liability on a monthly basis, the taxpayer would have to make payments in the amount of $500 each month (60,000 ÷ 120 months). If the taxpayer earns $4,000 per month and spends $3,800 on necessary living expenses including current tax payments, they would only be required to pay $200 per month.
These agreements are usually revisited every couple of years to see if the taxpayer’s situation has improved.
Currently-Not-Collectible Status (CNC)
Like a partial-pay installment agreement, CNC status is determined by subtracting necessary and reasonable expenses from a taxpayer’s take-home income. They also look at assets and liabilities to some extent but unless the taxpayer as substantial equity, the latter two items are not a significant factor. In this case, if the taxpayer can show they have nothing left, they can enter into what in effect is a $0 installment agreement, or CNC status.
CNC status is temporary. The IRS states that it lasts from 1 to 2 years but it is not unusual for more time to lapse before the IRS asks for updated financial information. If they taxpayer’s situation does not improve, they can remain in CNC status for the entire collection period.
It is important to understand that interest will continue to accrue so if the taxpayer’s situation improves to the point that they can full-pay the liability, they may be paying a significantly higher amount that they would have paid if payment was made timely.
Unlike some full-pay installment agreements, the IRS will not forego filing a lien against a taxpayer placed into CNC status.
Discharging Taxes via a Chapter 7 Bankruptcy
Assuming you “fit the box” discharging taxes in bankruptcy is a powerful tool. One can owe millions of dollars and have their liability wiped out in a relatively short period of time. For taxes to be discharged, they must “age” a follows: 3 years from the due date of a tax return, 2 years from the date of assessment for a tax return that was filed more than 1 year late and 240 days from the date of assessment for audited or amended tax returns. Several items including, offers in compromise, living outside of the country and filing appeals can toll (“freeze”) the statute adding time before taxes may be discharged.
In order to qualify for discharge, the follow conditions must be met:
- The liability owing originates from income tax due. Liability from payroll tax cannot be discharged via bankruptcy
- The taxpayer did not commit fraud or willful evasion. A fraudulently filed tax return or other willful attempt to evade tax will prohibit someone from discharging tax via bankruptcy
- As stated above, the tax debt must be at least three years old. That is, taxes may be discharged three years from the due date of a tax return including extensions. This is known as the “three-year rule”, and
- For late filed returns, two years must have passed from the date taxes were assessed for a late-filed return. If a return was filed less than 1 year late, the taxpayer must still wait the three-year period described above. This is known as the “two-year rule”, and
- If a return was amended or audited, and additional tax was assessed, the taxpayer must wait at least 240 days before the additional assessment can be discharged. This is known as the “240-day-rule”
IRS Back Tax Resolution Hardship Means Real Hardship
As any taxpayer and tax professional knows, discharging taxes in bankruptcy can be challenging, and filing wrong or too soon may mean the liability will remain after the bankruptcy is complete. This is why a taxpayer needs not only a competent bankruptcy attorney but also someone that can do a tax dischargeability analysis to determine when the bankruptcy should occur.
Sometimes a bankruptcy is not the right option, even if the taxpayer qualifies. This is why the Tax Resolution Institute believes taxpayers should be made aware of every option available. Claiming hardship can be complicated. If you cannot afford to pay your taxes in full, often payment a professional now can save ten of thousands of dollars or even more over the collection period.
If you find yourself between a rock and a hard place, the Tax Resolution Institute is here to help. Please call (800) 401-5926 to access the back tax resolution support that you need.
Matthew Cohen is a partner at the Tax Resolution Institute.