Overview
An Offer in Compromise (OIC) asks the IRS to accept less than the full tax liability. The financial package is the evidence the IRS uses to determine whether your offer reflects your true ability to pay. A well-organized package answers three questions clearly: what you owe, what you own, and what you can realistically afford to pay now or over time.
Required IRS Forms and Where to Start
- Form 656, Offer in Compromise: The taxpayer’s formal application to settle the liability. Read the instructions carefully and sign where required (IRS Form 656 instructions). (IRS: Offer in Compromise and Form 656, https://www.irs.gov/individuals/offer-in-compromise-1)
- Form 433-A (OIC) — Collection Information Statement for Individuals: Required for most individuals and self-employed taxpayers. It captures monthly income, expenses, assets, and liabilities. (IRS: Form 433-A (OIC))
- Form 433-B (OIC) — Collection Information Statement for Businesses: Required when a business is filing the OIC or the business’s finances affect the offer.
Tip from practice: I always prepare the Form 433 series in a spreadsheet so you can show month-to-month variations and support entries with source documents. Small errors or omissions on these forms are the most common cause of processing delays.
Supporting Documents: The Paper Trail the IRS Expects
Attach clear, current copies of the items below. Use a table of contents and tabs for quick review:
- Proof of identity: Government ID, Social Security card or ITIN documentation.
- Recent federal tax returns: At least two years of returns, and any unfiled returns should be filed before or with the OIC (the IRS requires current filing compliance).
- Pay stubs and income reports: Last 2–3 months of pay stubs, and year‑to‑date income statements. For self-employed taxpayers, include profit & loss statements and bank ledgers.
- Bank statements: At least 3 months for all accounts, more if income or deposits vary. Label transfers and large deposits.
- Statements for retirement, investments, and brokerage accounts: Show current balances and restrictions or penalties for withdrawal.
- Loan and mortgage statements: Current balance, monthly payment amount, and secured party contact details.
- Proof of monthly living expenses: Car payments, insurance, utilities, child support, tuition—include documentation like bills, receipts, or court orders.
- Medical bills and proof of medical hardship: Itemized statements, payment plans, and documentation of ongoing care.
- Bills in dispute or payment arrangements with third parties.
- Valuation support for assets: Appraisals for real estate, vehicle valuation (Kelley Blue Book), and documentation for collectible or business assets.
Worksheets and Schedules to Prepare
The IRS uses the Collection Information Statement and internal worksheets to calculate Reasonable Collection Potential (RCP). You don’t need to recreate the IRS calculator, but you must provide the facts the IRS will use.
- Monthly income worksheet: Detail each income source, frequency, and net amounts after taxes and required deductions.
- Expense worksheet: Break recurring monthly expenses into categories the IRS recognizes (housing, utilities, transportation, food, insurance, health-related expenses, and other necessary living expenses).
- Asset inventory: List cash, checking/savings, retirement, vehicles, real estate, business equity, and miscellaneous assets with current market values and encumbrances.
- Debt ledger: Show creditor names, balances, interest rates, and minimum payments.
- Business cash flow schedule: For the self-employed, prepare a rolling 12-month cash-flow projection showing receipts, cost of goods sold, and operating expenses.
How to calculate a realistic offer amount
The IRS’s math is straightforward: they consider your reasonable collection potential (RCP). RCP = (Liquid assets available now) + (Net realizable equity in assets) + (Future income the IRS believes you can pay over a reasonable period). Use conservative, documented assumptions.
Practical example from my practice: When I prepared an offer for a client with limited savings but steady low income, we calculated RCP based on three months’ living expenses for a lump-sum offer and 24 months of disposable income for a periodic offer. Documenting every deduction—like an ongoing medical payment plan—reduced the IRS’s projected disposable income and produced a lower RCP.
Organization and Presentation
- Use a cover letter summarizing the offer, the total requested reduction, and why collection in full is unlikely.
- Include a table of contents with page numbers.
- Use tabs or section dividers for Forms, Income, Assets, Liabilities, and Supporting Docs.
- Add sticky notes or short memos to call attention to unusual items (e.g., pending legal action, identity theft, or a sale in process).
Common Processing Steps and Timing
- Submission: Include the application fee (if required) and initial payment per Form 656 instructions. The fee and initial payment rules can change; confirm current requirements on the IRS site. (IRS: Offer in Compromise)
- Initial review: The IRS checks filing compliance and evaluates the completeness of the package. Missing items trigger a request for additional documentation.
- Evaluation period: Typical processing is six months to one year, depending on complexity. Cases with verification needs (property appraisals, business audits) can take longer.
Common Mistakes that Delay or Deny an OIC
- Missing or inconsistent documentation: Attach supporting documents that directly tie to entries on Form 433.
- Underreporting income or omitting a bank account: The IRS compares reported income to bank deposits—discrepancies raise red flags.
- Using unsupported expense categories or inflated costs: The IRS accepts reasonable, documented expenses. Be prepared to justify higher-than-normal costs.
- Not filing required returns: The IRS will generally not accept an OIC unless the taxpayer is current with filing requirements.
What the IRS is most interested in
- Ability to pay now versus in the future: The IRS focuses on liquid resources and realistic future disposable income.
- Equity in non-exempt assets: Highly liquid or easily sold assets increase the RCP.
- Documentation that supports hardship claims: Medical bills, proof of dependent care, or court-ordered payments.
Alternatives and When to Consider Them
If your financial package shows the IRS can collect in full over time, an Installment Agreement, Currently Not Collectible (CNC) status, or bankruptcy (in limited cases) may be more appropriate. See our pieces comparing OICs with other options: “When to Consider an Offer in Compromise vs Bankruptcy for Tax Debt” and “Choosing Between an Installment Agreement and an Offer in Compromise” for decision frameworks and pros/cons.
Internal resources
- For a deep dive into forming a cleaner submittal and templates, see our detailed guide: Assembling the Financial Package for a Competitive Offer in Compromise (https://finhelp.io/glossary/assembling-the-financial-package-for-a-competitive-offer-in-compromise/).
- For focused help on the financial statement specifically, review Preparing the Financial Statement for an Offer in Compromise (https://finhelp.io/glossary/preparing-the-financial-statement-for-an-offer-in-compromise/).
Post-Submission Best Practices
- Keep copies of everything you submit and proof of delivery (certified mail or tracked courier).
- Respond promptly to IRS requests for additional documentation—requests often have deadlines.
- If your financial circumstances change materially while the application is pending (job loss, new medical costs), send an updated Form 433 and supporting documentation.
When to Seek Professional Help
In my 15 years advising OIC applicants, the strongest cases are those where a practitioner helped organize documentation, spot reporting gaps, and present arguable hardship. Consider a tax attorney, enrolled agent, or CPA familiar with OICs when:
- Business finances are complex.
- Large assets require valuation or liquidation planning.
- There are recent collections actions (levies, liens, or bankruptcies) that intersect with the tax debt.
Authoritative sources and further reading
- Internal Revenue Service, Offer in Compromise (current program rules and forms): https://www.irs.gov/individuals/offer-in-compromise-1
- Internal Revenue Service, Form 656, Offer in Compromise instructions: https://www.irs.gov/forms-pubs/about-form-656
- Internal Revenue Service, Form 433-A (OIC) and related instructions: search “Form 433-A (OIC)” at IRS.gov for the latest edition.
Professional disclaimer
This article is educational and not individualized tax or legal advice. Rules and procedures change; verify forms, fees, and filing steps on the IRS website or consult a qualified tax professional before submitting an Offer in Compromise.
Final checklist (quick-print)
- Completed Form 656 (signed)
- Completed Form 433-A (OIC) or Form 433-B (OIC)
- Recent federal tax returns (filed and attached)
- Pay stubs, profit & loss statements, and bank statements
- Statements for retirement, investment, mortgage and loan balances
- Documentation of recurring expenses (bills, prescriptions, insurance)
- Appraisals or valuations for major assets
- Cover letter and table of contents
- Proof of identity and taxpayer contact information
A complete, honest, and well-documented financial package is the strongest path to a fair evaluation by the IRS. Taking the time to collect and label every supporting document, to document assumptions, and to present a realistic ability-to-pay analysis increases the likelihood that your offer will be considered fairly and efficiently.
