Tax Law Blog

Disclaimer: This summary states the federal law and relevant guidance regarding offers in compromise (OIC) as of the date of writing. It is designed to provide a practical overview but is not intended to be legal advice. Any tax controversy engagement, OIC or otherwise, requires careful review of the taxpayer’s transcripts, collection period, financial situation, filing history, levy and lien records, and facts bearing on liability or hardship, among other relevant facts and circumstances.

An offer in compromise is a contract under which the United States accepts less than the taxpayer’s full assessed liability. Before referral of a case to the Department of Justice, the Secretary may compromise a civil or criminal case arising under the internal revenue laws.[1] The Code recognizes three grounds for an OIC settlement: Doubt as to Liability (DATL), Doubt as to Collectability (DATC), and promotion of effective tax administration (ETA). Treas. Reg. § 301.7122-1(b).

An offer is not a right to settle for an amount the taxpayer prefers. Even when a regulatory ground exists, acceptance generally remains discretionary. Treas. Reg. § 301.7122-1(a)(1). In practice, a sound submission must do two things: establish a legal ground for compromise and show that the proposed amount and terms meet the rules applicable to that ground. A low offer, unsupported hardship claim, or incomplete financial summary invites delay, an increased-offer request, return, or rejection.

The main IRS forms for submitting an OIC request are Form 656-B (April 2026), which contains Form 656, Form 433-A (OIC), Form 433-B (OIC), worksheets, instructions, and a checklist, and Form 656-L for an offer based solely on DATL. The IRS states that Form 656-B applies to DATC offers and ETA offers, while Form 656-L applies to DATL offers.

Doubt as to Liability (DATL)

DATL exists when there is a genuine dispute about the existence or amount of the correct liability under law. It does not exist when a final court decision or judgment has established liability. Treas. Reg. § 301.7122-1(b)(1). The taxpayer should use Form 656-L, identify each period and liability in dispute, offer a positive dollar amount, explain the legal and factual error, and attach the proof needed to permit the IRS to decide the issue. An offer of zero will not be considered. IRS considers only the periods identified in the offer.

The strongest DATL case identifies a concrete defect, such as a computational error, an assessment against the wrong person, a substantive legal defense, a misapplied payment, or reliable evidence that was not considered when the tax was assessed. An assertion that the taxpayer cannot pay is not DATL. It is DATC. Likewise, a taxpayer generally should not use Form 656-L merely to reargue an issue resolved by a final judgment. Treas. Reg. § 301.7122-1(b)(1).

A liability offer may still be useful after ordinary assessment procedures were missed, but that fact cuts both ways. It supports use of an administrative remedy where a genuine dispute remains, while raising questions about why the taxpayer did not use deficiency, refund, audit reconsideration, innocent spouse, trust fund recovery penalty, or collection due process procedures. The submission should explain that history without treating Form 656-L as a substitute for proof. An offer based solely on DATL generally does not require a financial investigation, application fee, or initial offer payment. I.R.C. § 7122(d)(3)(B); Treas. Reg. §§ 300.3(b)(1)(i), 301.7122-1(c)(1).

Doubt as to Collectability (DATC)

DATC exists when the taxpayer’s assets and income are less than the full liability. Treas. Reg. § 301.7122-1(b)(2). The IRS normally measures an acceptable offer through reasonable collection potential, commonly called RCP. RCP generally reflects realizable equity in assets, collectible future income, and other amounts reasonably available for collection. The regulations require consideration of the taxpayer’s actual facts and permit the taxpayer to retain enough to meet basic living expenses. National and local expense standards guide that inquiry, but they may not be used if doing so would leave the taxpayer without adequate means to provide for basic living expenses. I.R.C. § 7122(d)(2); Treas. Reg. § 301.7122-1(c)(2)(i).

Taxpayers must use current Form 656-B worksheets in calculating their RCP and offer amount. For a lump-sum cash offer, the current worksheet generally adds net realizable equity to twelve months of remaining monthly income. For a periodic payment offer, it generally adds net realizable equity to twenty-four months of remaining monthly income. Form 656-B (Rev. Apr. 2026). Because the calculation is sensitive to the payment option, an offer should only be designated as “lump sum” or “periodic” after comparing the initial payment, future-income multiplier, funding source, and risk that the taxpayer’s circumstances will change during review.

Asset analysis is often a key issue. The submission should address cash, investments, retirement interests, digital assets, real estate, vehicles, business interests, accounts receivable, beneficial interests, cash value in insurance, pending claims, and assets transferred or dissipated before filing. Encumbrances, ownership shares, quick-sale value, exemptions, and collection barriers must be documented rather than assumed. A taxpayer should not transfer an asset to reduce RCP. The IRS may treat the transfer as dissipation, include the asset in RCP, investigate transferee liability, or view the submission as false or fraudulent.

Expense analysis requires equal care. National standards generally cover food, clothing, and similar items. Local standards generally cover housing, utilities, and transportation and are ordinarily limited to the lesser of the standard or the amount actually spent. The standards are guidelines, and a documented deviation may be allowed when the standard would not cover basic living expenses in the specific case. Medical needs, dependent care, age, disability-related costs, employment needs, and other special circumstances should be tied to records and explained in plain terms.

A non-liable spouse’s assets and income are not included as though the spouse owed the tax. The IRS may, however, examine household contributions and shared expenses to determine the liable taxpayer’s true share of income and expenses. Treas. Reg. § 301.7122-1(c)(2)(ii). IRS guidance likewise requires household information when other persons contribute to rent, utilities, insurance, groceries, or similar costs. Treating all household income as collectible from the taxpayer would overstate RCP, whereas ignoring a non-liable spouse’s payment of the taxpayer’s living costs would understate it.

Effective Tax Administration and Special Circumstances (ETA)

An ETA offer may be accepted when full collection is possible but would cause economic hardship. Treas. Reg. § 301.7122-1(b)(3)(i). “Economic hardship” generally concerns whether collection would prevent the taxpayer from meeting reasonable basic living expenses. Treas. Reg. § 301.6343-1(b)(4). Typical supporting facts may include advanced age, serious health needs, fixed income, dependent care duties, or an asset that technically permits full payment but is needed to produce income or provide basic shelter. Merely resorting to these terms and phrases will not suffice. The taxpayer should explain the expected cost, duration, available alternatives, and effect of collection.

Even without economic hardship, the IRS may compromise on ETA grounds when exceptional public policy or equity considerations would make full collection so unfair that it would undermine public confidence in fair tax administration. Treas. Reg. § 301.7122-1(b)(3)(ii). This ground is narrowly applied. The taxpayer must distinguish the case from that of similarly situated taxpayers who paid in full, and the compromise may not undermine general compliance with the tax laws. Treas. Reg. § 301.7122-1(b)(3)(ii)–(iii).

A DATC offer with special circumstances can sometimes be better framed than a pure ETA offer. If ordinary RCP is below the liability but still exceeds what the taxpayer can safely pay, the taxpayer may challenge RCP components and separately document hardship or equitable facts. Taxpayers must not mix OIC theories without explaining their order and separately addressing their requirements. The submission should first state whether the taxpayer is able to pay, calculate ordinary RCP, and then explain any proposed adjustment on ETA grounds.

Eligibility and Processability

Before filing, all legally required returns should be filed, current estimated taxes should be paid, and an operating business with employees should be current on required federal tax deposits. A valid extension to file does not extend the payment deadline. The IRS will not consider an offer while the taxpayer is in bankruptcy proceedings. An open examination, innocent-spouse claim, or unresolved claim affecting an included liability may prevent the IRS’s review and can lead to return or rejection of the offer.

A single Form 656 may cover individual liabilities or joint liabilities of two taxpayers if all relevant assets and liabilities are joint. But separate offers, fees, and initial payments will generally be required when the taxpayers have separate liabilities, when individual and entity liabilities are both being compromised, or when the business is not a sole proprietorship tied to the individual’s Social Security number. Instructions to Form 656 cover this issue in more detail.

A processable DATC or ETA offer generally requires Form 656, the correct Form 433-A (OIC) or Form 433-B (OIC), supporting records, a $205 application fee, and the initial offer payment. Qualifying low-income individual taxpayers are excused from the fee, initial payment, and payments during IRS consideration. Current IRS guidance permits qualification by the adjusted gross income table in Form 656 or, if that test is not met, a request based on current household gross monthly income multiplied by twelve.

Payment Terms

A statutory “lump sum offer” is an offer payable in five or fewer installments. It must be submitted with twenty percent of the offered amount. I.R.C. § 7122(c)(1)(A). A periodic payment offer is payable in six or more installments, within the limits in the forms, and must be submitted with the first proposed installment. Later proposed installments must continue while the IRS considers the offer; failure to pay may be treated as withdrawal. I.R.C. § 7122(c)(1)(B).

Payments required under the offer are tax payments, not refundable deposits. A taxpayer may designate in writing how an offer payment is applied, but cannot designate the application fee or payments made after acceptance. I.R.C. § 7122(c)(2)(A); Treas. Reg. § 301.7122-1(h). The current FAQ regarding OICs states that offer payments are not refunded if the offer is not accepted. Given this, designation of payments should be considered before filing, particularly where collection expiration dates, trust fund taxes, joint liabilities, or lien priorities differ among periods.

IRS Investigation and Advocacy

The IRS first determines eligibility and processability. A processable financial offer is then assigned for investigation, during which the examiner verifies income, expenses, assets, liabilities, compliance, and the proposed amount. The taxpayer may provide additional valuation information, request a conference with the offer manager, and in some unresolved valuation disputes seek Fast Track Mediation before a rejection letter is issued.

The practical rule is to build the administrative record before rejection. Every disputed valuation should have a short position statement, source documentation, calculation support, and requested result. Counsel should reconcile bank deposits to reported income, explain one-time receipts, document encumbrances, identify restricted or jointly held assets, and show why claimed expenses are necessary. False information or a false statement can result in civil or criminal consequences, and can destroy the credibility of an offer that is important because of the discretionary nature of OIC relief.

Collection, Liens, Limitations, and Deemed Acceptance

The IRS generally may not levy to collect a liability that is the subject of a pending processable offer, during the thirty days after rejection, or while a timely rejection appeal is pending. This rule does not protect an offer returned as non-processable, an offer submitted solely to delay collection, or a case in which collection is in jeopardy. I.R.C. § 6331(k)(1), (3); Treas. Reg. § 301.7122-1(g).

This bar on levy should not be overestimated. Filing an offer does not erase a levy completed before an offer, compel immediate release of every continuing levy, prevent normal accrual of interest and penalties, or block filing of a Notice of Federal Tax Lien. The IRS states that a preexisting levy is not automatically released and that the taxpayer’s circumstances determine whether it remains in place. IRS also states that a lien may be filed during the OIC process, although it normally is not filed until the offer decision. The distinction between making a levy and receiving later proceeds under an earlier levy can be fact-sensitive and depends on a number of factors.

The limitations period for collection is suspended while levy is barred by the pending offer rules and for the statutory period thereafter. I.R.C. §§ 6331(k)(3), 6502(a). Thus, in addition to the fee and initial payment, the cost of an unsuccessful offer includes an extension of the time in which the IRS can collect.

An offer not rejected within 24 months after submission is deemed accepted, excluding periods during which an included liability is disputed in a judicial proceeding. I.R.C. § 7122(f). A returned, withdrawn, or deemed-withdrawn offer does not become accepted through lapse of time. Notice 2006-68, § 1.07, 2006-2 C.B. 105. The received date and all suspension periods should be calendared, but deemed acceptance should not be treated as a strategy for withholding requested information.

Return, Rejection, Appeal, and Judicial Review

A return and a rejection are different. A return usually means that the IRS stopped processing the offer because it was non-processable or no longer processable, required information was not supplied, current compliance failed, or another return ground arose. A return ordinarily carries no statutory appeal right. The current IRS guidance permits a taxpayer who believes a return was erroneous to request reconsideration within 30 days in some cases, but excludes reconsideration for specified grounds such as open bankruptcy, post-filing noncompliance, a solely dilatory offer, jeopardy, other pending investigations, or abatement of the assessment.

Rejection is a merits decision. Before communicating rejection of a processable offer, the IRS must provide independent administrative review. The taxpayer then has thirty days to appeal to the Independent Office of Appeals. I.R.C. § 7122(e). The appeal should critically attack specific findings, not repeat the original submission. Points of attack may include mathematical errors, omitted evidence, incorrect asset ownership, unsupported valuations, improper expense caps, collection expiration errors, and failures to properly consider hardship or special circumstances.

Section 7122 does not provide a general right to sue over an ordinary rejection. Judicial review most often arises after a collection due process determination, where the Tax Court reviews a properly preserved liability issue de novo and other collection questions for abuse of discretion. I.R.C. §§ 6320(c), 6330(c), (d). Courts generally sustain rejection when Appeals verified legal requirements, considered the taxpayer’s issues, weighed collection interests against taxpayer rights and policy, and reached a reasoned RCP or hardship determination. See, e.g., Fargo v. Commissioner, 447 F.3d 706, 709–12 (9th Cir. 2006); Murphy v. Commissioner, 469 F.3d 27, 31–32 (1st Cir. 2006).

Acceptance and Default

Acceptance of an OIC creates binding payment and compliance obligations. The taxpayer must pay the offered sum as agreed and comply with filing and payment obligations for five years after acceptance, including extensions. The IRS generally retains refunds attributable to tax periods through the acceptance date, unless the offer is based only on DATL. A filed federal tax lien is released after the offer payment terms are completed, not merely when the acceptance letter issues. In practice, IRS has often been slow to process the release of liens.

A new unpaid liability during the compliance period cannot simply be added to the accepted offer. Failure to pay the offer or remain compliant may cause default. The IRS may reinstate the compromised liability, less payments and credits received, restore penalties and interest, and resume liens, levies, or suit. A client should therefore fund both the offer and expected current taxes before undertaking any debts or other payment obligations that may jeopardize OIC compliance.  

OIC Pitfalls and Best Practices

The most common pitfalls in pursuing OIC relief include:

• treating RCP as an informal estimate rather than a supportable mathematical calculation;
• using Form 656-L for inability to pay;
• assuming the IRS must accept an offer equal to RCP;
• counting a non-liable spouse’s property as the taxpayer’s property;
• omitting household contributions;
• ignoring dissipated assets;
• assuming filing stops all collection;
• confusing return with rejection;
• overlooking collection-statute suspension;
• relying on a proposed regulation;
• and recommending an offer without comparing an installment agreement, partial-payment installment agreement, currently-not-collectible status, penalty relief, innocent-spouse relief, audit reconsideration, refund procedures, bankruptcy consequences, or collection-due-process remedies.

When evaluating and preparing an OIC application, taxpayers should begin with transcripts for every relevant tax period, collection expiration dates, the assessment history, lien and levy records, filing compliance, payment records, and the source of each liability. Next, decide the appropriate ground for OIC relief for which the taxpayer is eligible, prepare a reasonable RCP calculation using the most current form, develop and articulate any hardship or equity theory separately, compare other collection alternatives, and test whether the client can meet both the proposed offer payments and five years of future compliance. The submission should be short in argument but heavy in proof. The strongest offer makes the examiner’s verification easy and makes each requested departure from ordinary collection rules specific, reasonable, and well-documented.

An Offer in Compromise can provide meaningful relief, but the application process is highly technical and requires careful evaluation of your financial circumstances, tax history, and available collection alternatives. Contact our Tax Law Practice Group today to discuss your options and determine whether an Offer in Compromise may be the right solution for your situation.

[1] After referral, compromise authority rests with the Attorney General or the Attorney General’s delegate. I.R.C. § 7122(a).