IRS DEBT? Don't give the IRS more time to collect it by stopping the Statute of Limitations
The IRS Offer in Compromise isn't the only way to reduce IRS debt. It may not even be the best way.
Unfortunately, many Americans think that is the only way and that if it fails the IRS will be able to chase them around forever. It is important to understand that this isn't correct. The IRS has a limited amount of time to collect a tax debt and it is often the case that taxpayers needlessly and unknowingly give the IRS more time to do so.
Internal Revenue Code Section 6502 places a time limit on the IRS' ability to collect a debt. The time frame is 10 years from the date the IRS “assesses” the tax or writes the amount of the tax in a book. The IRS term for this statute is the Collection Statute Expiration Date or CSED for short. We often call it the IRS statute of limitations on collection but for purposes of this article we will call it the CSED as well.
The problem is this: Most of the popular legal methods used to deal with tax debt also stop this CSED “clock” from running, and in many cases it would make more sense for the taxpayer to just…let it run. Before attempting to discharge a debt in bankruptcy, settle it in an offer in compromise, remove it with an innocent spouse claim, or delay it with the filing of a collection due process appeal, you should be certain about a few things:
- That you have a good chance of success
- The success will result in less debt than waiting for the CSED
HOW DO LEGAL OPTIONS STOP CSED
IRS Offer in Compromise
A filed IRS Offer in Compromise stops the CSED for the time it is open plus an additional 30 days. The time an Offer is typically open is 6-12 months, but it can be open for longer than 1 year when time for appeals is included. Multiple offer filings exacerbate the problem adding the new time frame in the offer plus the additional 30-day time “penalty” each time.
Additionally, the vast majority of Offers in Compromise fail. In 2010 the acceptance rate was about 25%. The 2012 changes should increase that rate but we don't expect the rate to increase dramatically.
The CSED is tolled while the offer is pending and the tolling ends when the offer in accepted. However, many offers in compromise require that the taxpayer pay the majority of the settlement amount over time during and after the offer is accepted. As a condition of an accepted Offer in Compromise, the taxpayer must remain current on all filings and payments for 5 years.
EXAMPLE: Imagine the following scenario and make the following assumptions about “Mr. Rogers”.
- He has $100,000.00 in tax debt.
- The CSED is 4 years away.
- The best possible offer in compromise he will obtain is $20,000.00 payable over 2 years.
- He files the offer in compromise and after appeal, it is accepted. He has been making payments toward the offer amount for 18 months at the time of acceptance and has 6 months remaining.
- If he had negotiated a payment plan with the IRS instead of filing the offer in compromise, the payment amount would have been $400.00 per month.
- As a result of the payment plan, he would have paid a total of $19,200.00. Again, he only had 48 months left on the CSED.
If the above were true, the payment plan would likely made more sense for four reasons:
- The payment plan doesn't stop the CSED.
- The best offer amount is more than the highest payment plan amount.
- The offer would stop the clock from running and if it failed for any reason, it would place him back where he started in terms of “time”.
- If the Offer fails, the IRS keeps the money Mr. Rogers has paid in and the taxpayer still has 4+ years to make the $400.00 payments.
Bankruptcy extends the CSED by the time in bankruptcy plus an additional six months after it is closed. If the bankruptcy isn't going to rid you of the tax debt obligation, the IRS will have this additional time frame to collect it.
Time is of course an element in relation to whether the Bankruptcy case can eliminate your income tax burden. The obligation on the income tax can be wiped away if the debt was from a return that was due to be filed more than 3 years before the bankruptcy filing and the return was filed more than 2 years before the bankruptcy filing. If the reason you are filing the bankruptcy is the result of the tax debt, than again, you must first compare the time remaining on the collection statute versus the time spent in the potential bankruptcy case.
A Chapter 13 Bankruptcy Case can last as long as 5 years. If the remaining time frame on the collection statute were less, filing the bankruptcy wouldn't make a ton of sense unless you were using it to deal with other debt OR if the payment in the chapter 13 case were much less than the amount you would be paying the IRS in a payment plan arrangement. Chapter 7 bankruptcy cases don't require a payment to be made over a long time frame. The typical chapter 7 case is about 6 months long. In many cases, it is wiser to wait for the tax debt to meet the time periods for discharge while waiting in an arranged payment, than to stop the clock in an Offer in Compromise. The payment plan allows the statute of limitations clock to continue running and the time periods for dischargeability of the income tax debt.
IRS Collection Due Process Appeal
The ability to file a Collection Due Process Appeal (CDPA) is an important legal right. If filed timely, it will stop IRS collection activity until an appeal hearing is held to determine collection alternatives. The downside? While waiting for the appeal hearing, the CSED is stopped. The time in appeal can include the 3-7 months waiting for the hearing date, and the time spent appealing the decision to Tax Court and wait for a decision. This may add up to a few years. Again, the IRS cannot collect during this time, but it gets that time back when the case concludes.
In certain cases, it makes sense to file the CDPA late as a result. A late-filed CDPA, if filed within one year of the date of the Final Notice of Intent to Levy, entitles you to an appeals hearing but DOESN'T stop the clock.
The right to an Equivalent Hearing doesn't exist in Tax Law. No such verbiage exists in the Internal Revenue Code. The IRS has made it a matter of IRS administrative practice however.
The Internal Revenue Manual at 18.104.22.168.6 and the Treas. Reg 301.6330-1 contain the directive to IRS personnel. It also isn't agreed to in every case, but the IRS usually agrees to stop the collection activity, provide the appeals hearing and all while the CSED continues to run.
There is another benefit to filing the request for a hearing late. Bankruptcy Code Section 507(a)(8) says that the timely filed CDPA request stops the time periods needed to make a tax debt dischargeable plus 90 days. The equivalent hearing doesn't stop anything in relation to bankruptcy discharge timing rules.
The IRS cannot take collection action when a request for an installment agreement has been made and is being worked through. See IRC Section 6331(k).
It also can't take collection action for 30 days after the Installment Agreement request is denied or terminated or while the appeal is pending.
While pending or on appeal an installment agreement request can stop the CSED, but once in place the IRS installment agreement doesn't stop it.
Appeals of a denied or terminated IRS installment agreement typically don't take long so the extension of the CSED is not a huge deal. What is important here though is this, the Installment Agreement is often the most important tool you can use if you are trying to get to the CSED in the least amount of time. The amount you will have to pay in a properly arranged Installment Agreement when looked at in light of the CSED will often result in less tax debt in the end than an offer in compromise or a bankruptcy.
Innocent Spouse Requests
“Innocent Spouses” must be especially careful when deciding whether to use the Innocent Spouse rules to file a claim for removal of the debt, versus using the CSED. There is often an emotional element to the filing of the innocent spouse claim that overpowers the use of simple math.
Normally, a husband and wife who sign a tax return together are both liable for the tax debt. The IRS can try to collect the debt against each of them and it can do so even if one of the spouses didn't earn the income and even if one spouse promises or is ordered to pay the tax debt as a result of a divorce decree or settlement.
The IRS rules allow for some relief but only if all the following are true:
- There was a joint return filed for the year that resulted in the disputed debt.
- There was a substantial understatement of the tax that was caused by an erroneous item on the return or the negligence of one spouse.
- The “innocent” spouse didn't know or didn't have reason to know there was a substantial understatement of the tax liability.
- It would be inequitable or unreasonable to hold the spouse liable for the liability
The problem is that, you guessed it…the filing and appeal stop the CSED from running. If the innocent spouse claim is weak and the CSED isn't far off, it may be better to do the math, negotiate an installment agreement and wait for the date.
Anyone with serious tax debt should consult with an attorney. That attorney will or should check the CSED as part of analyzing the situation as that date will be a determining factor in relation to what is done to reduce or eliminate the debt.
If you are thinking about filing an Offer in Compromise, an Appeal, a Bankruptcy or an Innocent Spouse Claim and haven't considered whether the CSED will make a difference, find out before you start the process.