Turbo Takeaways
- Tax settlement is a deal consumers make with the IRS, paying what they can to eliminate tax debt.
- The IRS offers various options for tax settlement programs.
- Four options for tax settlement include an Offer in Compromise, Currently Not Collectible status, installment agreements, and penalty relief.
Tax Penalties and the IRS
The Internal Revenue Service (IRS) can charge interest and penalties when you fall behind in your tax payments. If you still fail to pay your tax debt, the government may garnish your wages or place liens on your assets.
Fortunately, the IRS is often willing to consider other options if you can demonstrate that you can’t afford to pay what you owe. One of these options is a tax settlement.
What Is Tax Settlement?
Tax settlement is an acceptable agreement to the IRS that allows you to settle your outstanding tax debt for less than the amount you owe. If extenuating circumstances and extreme financial hardship prevent you from paying the full balance, the IRS may accept a settlement.
Individuals or businesses that can offer supporting documents demonstrating they're without means to meet their obligations may be eligible for a tax settlement.
How Does It Work?
The IRS offers several tax settlement programs, each with its own specific qualification criteria. Once you’ve identified a program you’d like to apply for, you can submit the relevant forms to the IRS.
You can settle with the IRS by yourself or work with a tax professional. You’ll need to pay off the entire settlement amount within a specified timeframe, during which no tax interest or late fees are added to your balance. You can pay off the entire settlement amount in a lump sum or set up a schedule of monthly payments.
Why Should You Settle Tax Debt?
Avoiding your outstanding tax balance is never a good idea. Other than tax levies, wage garnishment, and collection efforts, you can go to jail for not paying taxes if the IRS determines tax fraud. There are several benefits to negotiating a tax settlement.
First, if you meet the eligibility requirements, you may be able to settle your account for less than you owe. Once you pay the agreed amount, the IRS considers your account settled in full, so you won’t be subject to any penalties.
Another benefit is avoiding garnishments and tax liens on your assets and bank accounts. Once you settle your account, the IRS releases any federal liens it has placed on your assets.
What Are the Options for Tax Settlement?
Several tax debt relief measures are available to businesses and individuals, depending on the tax authority involved and your specific circumstances.
Offer in Compromise
An Offer in Compromise (OIC) is a special agreement you can make with the IRS to settle your tax debt for less than what you owe. To qualify, you must supply substantial information about your current liabilities, assets, and projected future income. The IRS only accepts the offer in case of exceptional circumstances, such as a serious illness that impairs your ability to provide for your family.
If accepted, you can pay 20% of your settlement amount upfront and pay the remaining amount over five months. You can also opt for periodic payments to pay the settlement amount over 24 months.
Pros
- Lowers your tax debt
- Gives you time to pay it off
Cons
- Very hard to qualify for this program
- Requires substantial documentation
Installment Agreement
If you can’t pay what you owe at once, you can negotiate a payment plan to settle your IRS tax debt over time. If you owe less than $100,000, you can opt for a short-term payment plan of 180 days or less.
Taxpayers with less than $50,000 in debt who require more than 180 days to pay can opt for a long-term payment plan with monthly installments. If you filed your return on time, the late payment penalty rate may be reduced while you’re on an installment agreement.
You can pay a setup fee and apply for an IRS payment plan online. The IRS may waive the setup fee for low-income taxpayers.
Pros
- Offers short and long-term payment options
- Late penalty could be reduced if you pay on time
Cons
- Requires a setup fee
- Still have to pay late penalty
Currently Not Collectible Status
Currently, Not Collectible (CNC) is a temporary option to stop IRS collection efforts if you cannot pay your tax debt due to financial hardship. When this status is in effect, the IRS stops wage garnishment, levies, and other collection attempts.
You can request a CNC status by contacting the IRS. Representatives may ask for supporting documents and additional information to assess your case, and will continue to review your financial situation each year until your situation improves.
It’s important to note that unpaid taxes will continue to accrue late fees and interest even while your account has a CNC status.
Pros
- Stops wage garnishment, levies, and collection attempts
- No payments made during this status
Cons
- Late fees and interest still accrue
- Requires review of your financial situation
Penalty Relief
If an Offer in Compromise is not an option, penalty relief can significantly reduce your liability. The IRS can forgive penalties, such as failure-to-file, in some cases. If you owe taxes for multiple years and have accumulated a lot of penalties, penalty relief can make a significant difference.
If you've received a penalty notice, follow the instructions in the letter to request that the IRS remove it. The IRS may be more likely to grant first-time penalty relief if you’re an otherwise compliant taxpayer.
Pros
- Likely approved for first-time penalties
Cons
- Reduces, but does not remove penalties
How To Settle Taxes in Three Steps
If you're struggling to pay tax debt, consider settling on your own or with professional assistance. If your circumstances are complex, it’s best to seek expert advice instead of attempting to settle independently.
Here are some key steps you can take to begin the settlement process:
1. Asses Your Tax Situation
Start by examining your tax situation. Review your tax returns, notices, and any letters you've received from the IRS to identify discrepancies or issues. Ask the IRS for a detailed statement of what you owe if you have any doubts.
Look at the breakdown of your tax debt, income, and expenses. This helps you determine how much you can pay towards your tax debt each month.
2. Explore Settlement Options
Compare the settlement options available to you based on your circumstances. For example, if a significant portion of your outstanding balance consists of penalties, penalty relief may be better than an Offer in Compromise. If you’re facing extreme financial hardship, you may qualify for an OIC.
If you’re unsure which option to choose, consult with a tax professional. They can help you weigh the pros and cons of each option and suggest the best program for your financial situation.
3. Negotiate with Tax Authorities
Negotiating with tax authorities is not always easy or straightforward, but it can be done if you’re prepared. For example, you must fill out Form 433-A (PDF) to provide accurate information about your income and expenses to determine a reasonable offer amount.
When negotiating with the IRS, presenting relevant evidence supporting your settlement offer is crucial. Without the right documents, the IRS may not accept your offer. You can also hire a tax settlement professional to negotiate on your behalf and improve your chances of a favorable outcome.
Alternatives To Tax Settlement
If you’re not eligible for any of the options listed above, explore other avenues to pay your overdue federal taxes, including the following:
- Use funds from a personal loan to pay off all of your tax debt at once.
- Use the equity in your home to secure a home equity line of credit (HELOC).
- Take out a 401(k) loan to repay your tax debt.
When To Seek Professional Assistance
Hiring a tax attorney can be beneficial if you have significant back taxes, legal disputes, or complex issues. For example, an Offer in Compromise is a complex form with a number of different sections that are best filled out by a professional.
Teresa Dodson, debt expert and founder of Greenbacks Consulting, recommends working with a legal professional. “If you need to settle your tax debt, you really should work with a tax professional to verify the correct amount owed, as sometimes the IRS makes mistakes,” Dodson says. "These professionals can also help you determine what you can either qualify for or pay back,” she adds.
When hiring a tax relief company for settlement, ensuring they have sufficient experience is important. Most tax settlement companies charge fees, so it’s important to evaluate their success rate before hiring someone from a firm.
If you need to settle your tax debt, you really should work with a tax professional to verify the correct amount owed, as sometimes the IRS makes mistakes.
Settling Your Tax Debt
If you've accumulated tax liability, it’s important to promptly and diligently explore ways to settle what you owe. Ignoring your debt can lead to wage garnishment, penalty fees, and interest charges.
The IRS offers a number of tax relief options, such as paying a lump sum or making affordable monthly installments. Consult with a tax professional to explore your options and resolve your tax issues effectively.
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