- When a taxpayer’s liability can be collected in full but collection would create an economic hardship, an ETA offer based on economic hardship can be considered.
- The definition of economic hardship as it applies to ETA offers is derived from 26 CFR § 301.6343-1(b)(4). Economic hardship occurs when a taxpayer is unable to pay reasonable basic living expenses. The determination of a reasonable amount for basic living expenses will be made by the Commissioner and will vary according to the unique circumstances of the individual taxpayer. Unique circumstances, however, do not include the maintenance of an affluent or luxurious standard of living.
Because economic hardship is defined as the inability to meet reasonable basic living expenses, it applies only to individuals (including sole proprietorship entities). Compromise on economic hardship grounds is not available to corporations, partnerships, estates, or other non-individual entities.
- The taxpayer’s financial information and special circumstances must be examined to determine if they qualify for an ETA offer based on economic hardship. Financial analysis includes reviewing basic living expenses as well as other considerations.
- The taxpayer’s income and basic living expenses must be considered to determine if the claim for economic hardship should be accepted. Basic living expenses are those expenses that provide for health, welfare, and production of income of the taxpayer and the taxpayer’s family. National and local standard expense amounts are designed to provide accuracy and consistency in determining taxpayer’s basic living expenses for domestic taxpayers. These standards are guidelines and if it is determined that a standard amount is inadequate to provide for a specific taxpayer’s basic living expenses, allow a deviation. Request the taxpayer provide reasonable substantiation to support the deviation and document the case file.
- In addition to the basic living expenses, other factors to consider that impact upon the taxpayer’s financial condition include:
- The taxpayer’s age and employment status,
- Number, age, and health of the taxpayer’s dependents,
- Cost of living in the area the taxpayer resides, and
- Any extraordinary circumstances such as special education expenses, a medical catastrophe, or natural disaster.
- Factors that support an economic hardship determination may include:
- The taxpayer is incapable of earning a living because of a long term illness, medical condition or disability, and it is reasonably foreseeable that the financial resources will be exhausted providing for care and support during the course of the condition.
- The taxpayer may have a set monthly income and no other means of support and the income is exhausted each month in providing for the care of dependents.
- The taxpayer has assets, but is unable to borrow against the equity in those assets, and liquidation to pay the outstanding tax liabilities would render the taxpayer unable to meet basic living expenses.
- The following examples illustrate the types of cases that may be compromised under the economic hardship standard.
The taxpayer has assets sufficient to satisfy the tax liability and provides full time care and assistance to a dependent child, who has a serious long-term illness. It is expected that the taxpayer will need to use the equity in assets to provide for adequate basic living expenses and medical care for the child. The taxpayer’s overall compliance history does not weigh against compromise.
The taxpayer is retired and the only income is from a pension which does not meet his necessary living expenses. The only asset is a retirement account and the funds in the account are sufficient to satisfy the liability. Liquidation of the retirement account would leave the taxpayer without adequate means to provide for basic living expenses. The taxpayer’s overall compliance history does not weigh against compromise.
The taxpayer is disabled and lives on a fixed income that will not, after allowance of adequate basic living expenses, permit full payment of the liability under an installment agreement. The taxpayer also owns a modest house that has been specially equipped to accommodate for a disability. The equity in the house is sufficient to permit payment of the liability owed. However, because of the disability and limited earning potential, the taxpayer is unable to obtain a mortgage or otherwise borrow against this equity. In addition, because the taxpayer’s home has been specially equipped to accommodate the disability, forced sale of the taxpayer’s residence would create severe adverse consequences for the taxpayer, making such a sale unlikely. The taxpayer’s overall compliance history does not weigh against compromise.
- The economic hardship standard authorizes compromise regardless of the cause of the liability, provided compromise does not undermine compliance by other taxpayers.
The taxpayer submitted an ETA offer based on economic hardship. The financial statement appears to support the offer. When a research of the county property records is conducted, it is noted that the home was transferred to a child for $100 plus love and affection. The transfer of the home was made after the tax was assessed. The taxpayer does not provide any information or documentation to demonstrate the transfer of property was an arms length transaction, so it appears the transfer was to avoid the payment of the tax liability; therefore, the offer should not be accepted.
- In economic hardship cases, an acceptable offer amount is determined by analyzing the financial information, supporting documentation, and the hardship that would be created if certain assets, or a portion of certain assets, were used to pay the liability.
The taxpayer was diagnosed with an illness that eventually will hinder any ability to work. Although currently employed, the taxpayer will soon be forced to quit their job and will use personal funds for basic living expenses. The taxpayer owes $ 100,000 and has an RCP of $150,000. An offer was submitted for $ 35,000. Through the investigation, it is determined that collecting more than $ 50,000 would cause an economic hardship for the taxpayer. A determination on economic hardship was made due to the fact the taxpayer’s reasonable living expenses, including ongoing medical costs will exceed their income once the taxpayer is unemployed. The taxpayer is advised to raise the offer to $ 50,000 since it is the amount the Service can collect without creating an economic hardship.
- The existence of economic hardship criteria does not dictate that an OIC must be accepted. An acceptable offer amount must still be determined based on a full financial analysis and negotiation with the taxpayer. When hardship criteria are identified but the taxpayer does not offer an acceptable amount, the OIC should not be recommended for acceptance.
Michael D. Sullivan is the founder of MD Sullivan Tax Group. He had a distinguished career with the Internal Revenue Service for 10 years. As a veteran IRS Revenue Officer / Agent, he served as an Offer in Compromise Tax Specialist and Large Dollar Case Specialist.