Sam Brotman, JD, LLM, MBA October 1, 2020 10 min read

IRS Tax Debt Relief Options

Once an IRS tax liability has become final, the taxpayer has a few options for dealing with it. Each of these IRS tax debt relief options has its advantages and disadvantages and taxpayers should take the opportunity to fully learn about the different ways of settling their balances before proceeding with one option or another. 

As a helpful guide to assessing what exactly the consequences of each action are, we have put together a short list of some of the advantages and disadvantages of each option in order to help you navigate the playing field.

Preface: Should I File a Tax Return if I Will Owe Money to the IRS?

In the tax world, to quote Benjamin Franklin, “an ounce of prevention is worth a pound of cure.” Almost all taxpayers can engage in some level of tax planning to their benefit prior to a return being filed. As a practitioner, I like to perform a mid-year check with my clients to review their current tax situations and to make sure they are on track with where we have identified they need to be. 

Although particularly helpful with self-employed individuals and those with small businesses, to ensure that they are making proper tax deposits, it can also be helpful for W-2 employees who want to adjust their withholdings during the course of the year. In addition, I would recommend checking in with a tax professional to understand the tax consequences of any major life events. 

Getting married, having a child, changing jobs, getting a raise, buying a house, moving, caring for another individual, and a variety of other changes can all impact your future tax situation. It is always better to be able to be aware that you may have a balance due at the earliest possible juncture in order to try and minimize your liability.

If tax planning cannot mitigate the liability, usually it is best to file the return as soon as you can. The IRS imposes a failure to pay penalty, which is five percent per month of the tax that was owed from the date the return is due up to a 25 percent maximum. As long as the return is filed by the due date or six months after, if a timely extension was filed, the taxpayer can avoid the penalty. 

While you will still be hit with failure to pay penalty, equivalent to 12 percent per year, in addition to interest at the statutory rate, these are unavoidable if the taxpayer cannot pay the balance due

Although filing a return may put the IRS on notice of the liability sooner, filing the return has two principal advantages. First, it starts the clock running on the three-year IRS statute of limitation for audit and the 10-year statute of limitations for collections. 

Second, it prevents the IRS from filing a substitute for return (SFR) and gives the taxpayer the benefit of filing while the events of the past year are still fresh. This allows the taxpayer to be in a better position to remember potential credits and deductions, which the IRS will not give to the taxpayer if an SFR is filed. Ultimately, this usually results in less underlying tax being owed, which can make a big difference in IRS penalty and interest calculations. 

IRS Tax Debt Relief Option 1 – Pay the Liability in Full

Advantages:

  • Settles the balance quickly without having to deal with IRS collection actions
  • Often, the IRS will give you 90-120 days to gather the needed funds to pay the liability off.
  • Avoids additional interest accrual on the account

Disadvantages:

  • Option is available to very few taxpayers
  • Statutory interest is often less than the interest accrued through other sources of borrowing
  • May cause financial hardship to the taxpayer.

IRS Tax Debt Relief Option 2 – Ask the IRS to place you in “Currently Non-Collectible” status, suspending collection activity on your tax liability.

Advantages:

  • Allows temporary flexibility to taxpayer who need short term relief from IRS collections
  • Stops all collection activity
  • Shortens the amount of time in the 10-year collection statute that the IRS has to actively collect

Disadvantages:

  • Interest continues to accrue on the account
  • Not a permanent solution to IRS collections
  • Non-collectible periods are set by IRS collections and “non-collectable” status can be revoked

IRS Tax Debt Relief Option3 – Enter into a payment agreement with the IRS for your tax liability

Advantages:

  • Stalls IRS collection activity as long as a taxpayer is making installment payments
  • Can help the taxpayer run out the 10-year collection statute without having to pay the full liability
  • Payment agreements can be flexible and take taxpayer financial hardship into consideration

Disadvantages:

  • Installment arrangements are based on rigid IRS collection standards
  • IRS collection agents will fairly insistent on taxpayers paying the maximum they can afford
  • Interest continues to accrue on the balance of the liability

IRS Tax Debt Relief Option4 – Settle your tax liability with the IRS through the Offer in Compromise program

Advantages:

  • Settles your liability for less than the full amount owed
  • Eliminates the need to wait until the expiration of the collection statute
  • Recent changes in the Offer in Compromise program has made it easier to get offers accepted

Disadvantages:

  • The IRS accepts less than 20 percent of offers submitted
  • Requires the taxpayer to provide detailed financial information
  • Requires full compliance for five years following an accepted offer
  • Default on an accepted offer will default the offer and reinstate the full liability
  • Stops the 10-year collection statue from running; gives IRS additional time to collect

IRS Tax Debt Relief Option 5 – Eliminate the tax liability through bankruptcy

Advantages:

  • Settles a tax liability for less than the full amount owed, other than through an offer in compromise
  • Bankruptcy status freezes IRS collection activity on an account
  • Once discharged, bankrupted liabilities cannot be reinstated

Disadvantages:

  • Declaring bankruptcy can have numerous adverse financial side effects
  • Not all tax liabilities are dischargeable in bankruptcy
  • After bankruptcy status is removed, whether fully discharged or not, the IRS will most likely file liens in order to protect its interest in remaining property.
  • Stops the 10-year collection statue from running; gives IRS additional time to collect

IRS Tax Debt Relief Option 6 – Wait for the 10-year statute of limitations to collect on your tax liability to expire.

Advantages:

  • Discharges tax liabilities for less than the full amount owed
  • Once the statute expires, the taxpayer’s account is removed from collections if no other balances exist.
  • Liens for expired tax years are also removed at the end of the 10-year statute

Disadvantages:

  • Not really a method of dealing with IRS collections; you are “on the run” from the IRS during the life of the balance
  • No protection against IRS collection activity
  • IRS will become increasingly aggressive with high balances or in the later years of the liability
  • Cases have a higher likelihood of being referred to a revenue officer
  • Although rarely prosecuted, willfully evading the payment of taxes is a felony and carries civil and criminal penalties if caught.

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Sam Brotman, JD, LLM, MBA

Owner and Director of Legal
Brotman Law

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