Offer In Compromise And The Independent Contractor

A large percentage of clients I represent before the IRS and the state agencies are independent contractors.  So many independent contractors find themselves in trouble with the various taxing agencies because they do not understand their tax obligations.

WHO IS CONSIDERED AN INDEPENDENT CONTRACTOR?

An independent contractor is a person that contracts their goods or services to another person or to a business under a specified contract or verbal agreement.  Independent contractors are required to fill out a W9 and submit it to the person or persons they are contracting to do business with.

At the end of the year, the entity you provided service to should issue you a 1099 MISC.  Box 7 of the 1099 (non-employee compensation) should include the total amount that the company paid you for that year.  Box 4 (Federal income tax withheld) is usually empty, indicating that no taxes were withheld.  A copy of the 1099-MISC is also sent to the IRS.  The IRS uses this information to verify that you filed a return.  If you did not file a return, you can expect to receive a letter CP2000 from the IRS.  A CP2000 is a letter from the IRS proposing an income adjustment and the tax due based on the change.  Failing to report income will trigger receipt of this letter.

 WHAT IS AN OFFER IN COMPROMISE?

An offer in compromise is a program offered by the IRS to taxpayers who are unable to pay their tax debt in full.  If one qualifies, an offer can be made that will allow you to pay back less than what you originally owed.  The premise of the offer in compromise is to enable a taxpayer with substantial back taxes to reach a settlement with the IRS.  The taxpayer can then start over with a clean slate on the condition that he or she stays current on all future tax debt.  An offer can be made if there is doubt to liability or doubt to collectability.

WHAT ARE THE TAX OBLIGATIONS OF AN INDEPENDENT CONTRACTOR?

Independent contractors are required to pay their self-employment tax which is 15.3% of net self-employment income.  As an employee, half of the 15.3% (7.65%) is absorbed by the employer and the other half is withheld from the employees wages.  Consequently, the employee does not feel the impact of FICA (self-employment tax), unlike the independent contractor who pays the tax directly out of their earnings.   An independent contractor that believes he has been misclassified as a contractor rather than an employee can file an IRS form SS8 “Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding.”  This form is submitted to the IRS so that the IRS can make a determination of a workers status.  The contractor is also required to fill out form 8919.“Uncollected Social Security and Medicare Tax on Wages”, which will shift the liability for 50% of the Social Security and Medicare taxes from the contractor to the employer.

The remainder of this article will explain how the Offer In Compromise program works for taxpayers seeking relief from their tax debt.
The Offer In Compromise program is sometimes pitched by advertisers as “settle your debt for pennies on the dollar.”   Although this term can be a little misleading, the overall message is that a taxpayer can settle their debt with the IRS or state for much less than they owe.

WHAT IS THE GOAL OF AN OFFER IN COMPROMISE?

When one requests an оffеr in соmрrоmiѕе; уоu are basically proposing to pay less than the full amount of tax you owe.  The IRS does not accept all offers.  The program is only considered by the IRS if you do not fit the criteria for any other payment plan.  If the IRS determines that you can pay your debt in full or even partially, based on their standard calculations, your request for an offer will likely be denied.

COMPLIANCE REQUIREMENTS

The IRS will not consider your offer if you are in bankruptcy or if you have not filed all of your required tax returns.  So before you consider paying someone to submit an offer to the IRS on your behalf, make sure all your tax returns have been filed, and your estimated payments have been made.

This is of particular importance with regards to independent contractors who receive a 1099 at the end of the year and wait until the end of the year to pay their taxes.  If you have not paid estimated taxes throughout the year, the IRS will deny your request for an offer in compromise.  So it is important that you make your payments every quarter to avoid the displeasure of coming up with the entire amount you owe at one time.  If you do wait until the end of the year and find that you cannot afford to make the payment, your best bet will be to wait until you file that years return and include the balance with your offer.  If this occurs, make sure you start the following year off right by paying your estimated taxes every quarter otherwise you will find yourself in the same unfortunate position.

HOW LONG DOES THE IRS TAKE TO PROCESS AN OFFER?

It can take the IRS anywhere from 6 to 12 months to process an оffеr.

WHAT DO I NEED TO KNOW BEFORE I CONSIDER REQUESTING AN OFFER IN COMPROMISE?

Because an offer in compromise (OIC) allows you to settle your debt for an amount less than what you owe, there are some requirements the IRS have in place.

An OIC may be a legitimate option for anyone who is genuinely unable to pay their debt in full, or if by paying their debt in full, will face significant financial hardship.   The bar for “significant financial hardship” is a high bar to meet.  You the taxpayer may believe you fall into that category, however, that does not mean the IRS will feel the same way.  Taxpayers are coming from a place of emotion, while the IRS makes its decision based on formulas and fact.

An example of significant hardship is not being able to pay for doctor visits or prescription drugs due to a severe medical condition if you are required to pay your debt in full.

The IRS will generally approve an offer if the offer represents the most they (IRS) think they can collect from you.  Anything short of that is not acceptable unless you have very special circumstances.  So it is important that you offer a realistic settlement amount.

There is a unique formula that the IRS uses to determine eligibility.  I will not get into the nuances of the formula in this post.

INFORMATION YOU ARE REQUIRED TO SUBMIT

Each offer the IRS receives is considered based on ability to pay.  As a result, you may be able to settle a $100,000 debt for $1,000.  Every case and each person’s circumstance are different.  Just because your sister was able to settle her debt for $100 on a $50,000 debt does not mean you will be blessed with the same result.   The IRS takes into consideration the following facts:

  • Ability to pay
  • Your monthly income
  • Your monthly expenses
  • Positive equity in all of your assets

Also, you will be required to submit thrее months of bank statements, paycheck stubs for three months, as well as any documentation needed to establish your financial position.  The documents requested may differ from person to person depending on circumstance.

In addition to a thorough examination of your income and expenses, your assets are also factored into the equation.  Assets include your home or homes, retirement accounts, bank accounts, boats, cars, land, and any other asset that can be converted into cash to settle your debt.

The IRS calculates the value of your assets by multiplying the asset by 80% of its fair market value.  Fair market value is the amount you can likely sell an asset in the open market.   The IRS multiplies this number by 80% with the reasoning that the reduced amount will facilitate a quick sale.

HOW TO CHOOSE A PERSON OR FIRM TO REPRESENT YOU

Several resolution companies take advantage of taxpayers.  They scare you into signing an agreement by appealing to the fear most people have of the IRS.  They promise unrealistic results that are exposed after you have paid them thousands of dollars to represent you.  Although the IRS is the only collection agency that can levy your assets, garnish your wages & bank account, or slap you with a lien without a court order; they are reasonable, and they will take your circumstance into consideration.  As long as you show good faith, the IRS will work with you.  Whoever you decide to hire to help you with your case, make sure you check their credentials and make sure they are qualified to handle your case.   Do your research and ask lots of questions.  The tax professional should focus on the facts of your case rather than attempting to appeal to your fears.  If you determine that the professional is trying to appeal to your fears, walk away and find another professional.

 

HOW TO MAKE AN OFFER ON YOUR OWN

Although I highly recommend hiring a professional to help you with your case, I realize that some people will attempt to do it themselves.  The advantage of using a tax professional is that we know some of the tricks and tips not included in the instructional booklets the IRS provides.

Tо make an offer in соmрrоmiѕе; уоu must first fill out the Offer in Compromise Form 656 along with the collection information statement Form 433-A (for individuals) or 433-B (for businesses).   Form 656 collects personal information and your offer amount, while form 433-A or 433-B collects your financial data.  You will calculate your offer using the Form 433-A or 433-B worksheet.

You are also required to pay a nonrefundable application fee of $185 and submit a 20 percent initial payment if you choose the lump sum offer. If you choose the periodic payment offer, you will be required to submit the initial payment of the periodic offer together with the $185 application fee.

IF YOUR OFFER IS ACCEPTED YOU MUST ADHERE TO THE FOLLOWING RULES  

If your offer is accepted by the IRS, there are rules you must adhere to, or you will run the risk of the offer being revoked.

You must agree to the following:

  • Pay the offer amount.
  • Fоr the next five years, file your tax return and pay your taxes on time.
  • Any tax refund you receive in the same year your offer was accepted will be applied to your debt

FEDERAL TAX LIENS

If you have a lien, the IRS will not release the lien until the offer has been satisfied in full.  There are some cases where the IRS will agree to a lien release if it provides the funds needed to pay your debt.

WHAT IF MY REQUEST FOR AN OFFER IN COMPROMISE IS REJECTED?

If the IRS dеtеrminеѕ the оffеr amount you made is not sufficient аnd nоt reflective оf уоur аbilitу tо рау, уоu offer will be denied.  If this happens, you can appeal the rejection within 30 days using the Request for Appeal of Offer in Compromise  Form 13711.

The IRS cannot seize your property while your offer is pending and during a 30-dау period after an offer is rejected. If the rejected offer is appealed, the prohibition continues.

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