Quick overview

An Offer in Compromise (OIC) is a formal proposal to the IRS to accept less than the full tax debt. The central question the IRS asks when reviewing any OIC is simple: what can we reasonably collect from this taxpayer now and in the future? That total — called Reasonable Collection Potential (RCP) — is the baseline the IRS uses to decide whether the offer represents the most it can expect to recover. (IRS, Offer in Compromise: https://www.irs.gov/payments/offer-in-compromise)

Below I break down how the IRS arrives at that number, what documents you must provide, practical examples from practice, common missteps, and steps you can take to improve your chances. In my 15 years helping taxpayers on resolutions, the best results come from realistic documentation and transparent financial disclosure.

The two valuation components the IRS uses

The IRS calculates an OIC’s value using two main components that together form the Reasonable Collection Potential (RCP):

  1. Asset equity (what can be realized by selling or borrowing against assets)
  2. Future income available for collection (monthly disposable income over a reasonable collection period)

Both pieces are added together to create the RCP. If your offer equals or exceeds the RCP, the IRS is more likely to accept it. If it’s less, the IRS will normally deny the offer unless other special circumstances apply (doubt as to liability or effective tax administration). See IRS guidance on RCP and offers: https://www.irs.gov/payments/offer-in-compromise

Step-by-step: How asset equity is calculated

  • List every asset on the required financial forms (Form 656, and Form 433‑A (OIC) for individuals or Form 433‑B (OIC) for businesses). These are the official forms you must complete with the OIC. (Instructions for Form 656: https://www.irs.gov/forms-pubs/about-form-656)
  • For each asset, the IRS calculates equity as fair market value (FMV) minus any loans or liens secured against it.
  • The IRS will apply realistic selling costs and possible discounts to FMV (e.g., broker fees, closing costs, penalties for early sale of retirement assets).
  • Assets that can be liquidated easily (bank accounts, brokerage) are weighted heavily. Retirement accounts may be discounted or considered partly excluded depending on hardship rules.

Example: Home equity. If your home’s FMV is $300,000 and you have a mortgage of $250,000, gross equity is $50,000. The IRS will then subtract estimated selling costs and a standard discount (varies by case) to arrive at net equity they consider collectible.

Step-by-step: How future income is measured

  • The IRS starts with your gross monthly income and subtracts payroll taxes, health insurance and other allowable deductions to arrive at net income.
  • Then it subtracts allowable living expenses — either your actual documented expenses or the IRS Collection Financial Standards (CFS) amounts for housing, food, transportation, etc. The IRS generally uses the higher of the two when evaluating essential expenses. (See IRS Collection Financial Standards: https://www.irs.gov/businesses/small-businesses-self-employed/collection-financial-standards)
  • The result is monthly disposable income available for collection. That number is multiplied by a reasonable collection period — essentially how long the IRS expects to be able to collect from a taxpayer — to create the income portion of RCP. The IRS will use months remaining within the collection statute of limitations or other administrative timelines to determine this period.

Example: If your monthly disposable income after allowable expenses is $200 and the IRS determines a 12‑month reasonable collection period, the income portion of RCP would be roughly $2,400 (before discounting to present value).

Important note: the IRS discounts future income and calculates a present value. The end result may be slightly less than a simple sum of monthly disposable income times months remaining.

Forms, fees and payment options you should know

  • Form 656 (Offer in Compromise) is the main application form. Individuals submit Form 433‑A (OIC) to report income, expenses and assets; businesses use Form 433‑B (OIC). (Form 656 and instructions at: https://www.irs.gov/forms-pubs/about-form-656)
  • There is an application fee (commonly $205 as of recent IRS guidance). Low‑income taxpayers may qualify for a fee waiver — check the IRS site and Form 656 instructions. (IRS OIC page: https://www.irs.gov/payments/offer-in-compromise)
  • Payment options when you submit an offer:
  • Lump-sum cash offer (short-term): typically requires an initial payment with the application — historically 20% of the offer — with the remainder due within a short window (see IRS for current payment timing rules).
  • Periodic payment offer (longer-term): you submit monthly payments while the IRS considers the offer and continue payments if accepted under the agreed schedule.

The exact payment timing and amounts vary; always confirm current amounts and rules on the IRS OIC page and the current Form 656 instructions.

How to estimate a reasonable offer (simple walkthrough)

  1. Calculate net equity in all assets (bank accounts, vehicles, real estate, investment accounts) using conservative FMVs and subtracting secured debt.
  2. Determine monthly disposable income using documented income and allowable living expenses (use IRS CFS as appropriate).
  3. Multiply monthly disposable income by the IRS’s reasonable collection period (the period varies; use as a planning assumption — often 12–24 months depending on facts).
  4. Add asset equity + income-collection total = RCP.
  5. Your offer should be near or above RCP to have a realistic chance of acceptance (unless you have a strong doubt as to liability or effective tax administration reasons).

Real-world example from my practice: I worked with a self-employed client who owed $30,000. Their net asset equity was negligible but monthly disposable income calculated to $300. With a 12‑month collection window the IRS’s income portion was roughly $3,600; after careful review we structured an offer reflecting unavoidable expenses and documentation showing business volatility. The acceptable offer ended up near $10,000 because the file included aspects that reduced the IRS’s expected future collection (medical hardship, inconsistent self-employment income).

Special bases for acceptance besides RCP

  • Doubt as to liability: legitimate questions about whether the penalty/tax is correct. This is documentation‑heavy and relatively rare. (IRS, OIC grounds)
  • Effective tax administration: the taxpayer’s financial circumstances make full collection unfair or inequitable even though the tax is technically collectible. This is used sparingly and requires strong justification.

Typical timeline and what to expect

  • The IRS aims to process an OIC within about six months, but complex cases, incomplete documentation, or appeals can lengthen the timeline. Continue making any required payments while the offer is pending to avoid defaults. (IRS OIC page)

Common mistakes I see and how to avoid them

  • Underreporting assets or household income. Full disclosure is required; omissions almost always trigger denial.
  • Using overly optimistic expense estimates. The IRS favors documented, allowable expenses and will compare claimed costs to Collection Financial Standards.
  • Submitting unsupported appraisals or unverifiable valuations. Use recent statements and documented valuations.
  • Failing to file required returns or stay current on estimated tax payments. Eligibility requires filing all required returns.

Appeals and next steps after a denial

If your offer is denied you have options: request reconsideration, appeal with the IRS Office of Appeals, or consider alternative resolutions such as an installment agreement, currently not collectible status, or bankruptcy depending on your situation. See FinHelp’s guide on Options After a Denied Offer in Compromise for step-by-step next moves: Options After a Denied Offer in Compromise.

If an OIC is borderline, consider comparing it to other options — for example, when an Installment Agreement is better than an Offer in Compromise: When an Installment Agreement Is Better Than an Offer in Compromise.

Practical tips to improve your odds

  • Be complete and transparent. Include pay stubs, bank statements, loan statements, and receipts for unavoidable expenses.
  • Use the IRS Offer in Compromise pre‑qualifier tool to see whether you might be a candidate before filing (IRS website).
  • If your situation involves ongoing business volatility or large one‑time medical bills, document them carefully — these facts can materially affect the RCP calculation and may create an effective tax administration argument.
  • Work with a qualified tax professional (CPA, enrolled agent, or tax attorney) experienced with OICs — an experienced practitioner can identify allowable expense items and prepare defensible valuations.

Professional disclaimer

This article is educational and written for general informational purposes only. It does not constitute legal, tax, or financial advice for your specific situation. For personalized advice, consult a qualified tax professional. Relevant IRS guidance is the definitive source: Offer in Compromise (IRS): https://www.irs.gov/payments/offer-in-compromise and Instructions for Form 656: https://www.irs.gov/forms-pubs/about-form-656.

Additional reading on FinHelp

(Author: 15 years resolving tax debt cases; content reviewed against IRS OIC guidance, Form 656 instructions, and IRS Collection Financial Standards as of 2025.)