Overview
Preparing a well-organized, accurate financial package is one of the most important steps when submitting an Offer in Compromise (OIC) to the IRS. The package is how you demonstrate the real-world limits on your ability to pay: the numbers, the proof, and the story. In my 15 years working in tax resolution I’ve seen otherwise meritorious offers rejected because the documentation was incomplete, inconsistent, or unverifiable.
This guide walks through exactly what to include, how the IRS evaluates your materials, common pitfalls, and practical tips to present a clear, credible case. For the IRS’s official instructions and the latest program details, see the IRS Offer in Compromise page and the Instructions for Form 656 (IRS.gov).
Sources: IRS — Offer in Compromise: https://www.irs.gov/payments/offer-in-compromise; Form 656 instructions: https://www.irs.gov/forms-pubs/about-form-656
What the IRS expects and how it evaluates your package
The IRS evaluates OICs primarily on three grounds: doubt as to liability, doubt as to collectibility, and effective tax administration. Most financial packages are submitted under doubt as to collectibility, which means the taxpayer cannot pay the full amount now or through enforcement within a reasonable period.
Key evaluation concept — Reasonable Collection Potential (RCP): The IRS computes an RCP that represents what it believes it can collect from your assets and future income. RCP generally equals the net realizable equity in assets plus the dollar amount the IRS believes is available from future income after allowable living expenses. Your financial package should address both components: document assets and demonstrate accurate living-expense allowances.
The IRS will expect:
- Fully completed Form 656 (Offer in Compromise) and the correct Collection Information Statement (Form 433-A(OIC) for individuals or Form 433-B(OIC) for businesses). See IRS guidance for which form applies.
- Tracing documents that support income, assets, and monthly expenses (pay stubs, bank statements, signed leases, bills, etc.).
- Explanations for one-time events, recent income declines, or extraordinary expenses.
Official IRS references: Offer in Compromise policy and Form 433 series: https://www.irs.gov/payments/offer-in-compromise
Step-by-step checklist: documents to include
Assemble documents in the order the IRS and examiners expect. Include a simple table of contents and label each item.
- Application and core forms
- Completed Form 656 (signed).
- Form 433-A(OIC) for individuals or Form 433-B(OIC) if filing as a business. (If unsure which form applies, confirm at the IRS OIC page.)
- Check or proof of payment if an application fee or initial payment applies, or a low-income certification if you request a fee waiver. (Confirm current fee policy on the IRS page.)
- Identity and compliance documents
- Copies of current-year tax return(s) and returns for at least the past two to three years where relevant.
- Proof of filing compliance (record of filed returns, transcripts from IRS).
- Income documentation
- Recent pay stubs (last 3 months), Social Security award letters, unemployment statements, pension statements, or profit-and-loss statements for self-employed taxpayers.
- Year-to-date income statements and recent bank deposits to corroborate income flows.
- Asset documentation
- Bank statements for the last 3 months (all accounts).
- Titles, valuations, and payoff statements for vehicles, real estate documents (deeds, mortgage statements, property tax assessments), investment account statements, and business asset schedules.
- Recent appraisals or comparable sales if you claim reduced value for property.
- Expense documentation
- Rent or mortgage statements, utility bills, child-care receipts, insurance premiums, medical bills, and minimum required payments for secured loans.
- Court-ordered obligations (alimony, child support) with supporting orders and payment records.
- If you claim unusual or high medical or disability-related costs, include itemized statements and explanation.
- Supporting narrative and hardship letter
- A concise cover letter that summarizes the offer amount, the grounds for the OIC (doubt as to collectibility, etc.), and points to the attached documents.
- A personal hardship statement explaining how payment in full would cause undue financial hardship. Use specific, verifiable facts rather than emotion.
- Business documents (if applicable)
- Profit-and-loss statements, balance sheets, business bank statements, and aging accounts receivable/payable.
- Miscellaneous
- Copies of correspondence with IRS or notices, bankruptcy filings (if any), and documentation of recent job loss, health emergencies, or other events that affected finances.
How to value assets and explain discrepancies
The IRS uses net realizable equity (what you could reasonably sell an asset for today, less selling costs and any loan payoffs). For real estate and vehicles, provide recent valuations: a broker price opinion, NADA guides, private appraisals, or comparable sales are all useful. Don’t overinflate values — the IRS will verify.
If you’re under water on a loan (loan balance exceeds market value), include payoff statements and any refinancing documents to show negative equity.
For business assets, provide depreciation schedules and explain how assets are used in ongoing operations. The IRS looks more closely at business valuations — documents should be conservative and substantiated.
Calculating and documenting income available for collection
Rather than guessing, use actual bank statements and pay stubs to show recurring income and consistent expenses. For the IRS’s income analysis, focus on:
- Gross monthly income sources.
- Permitted living expenses (use your documentation to show actual amounts and explain any above-the-norm items).
Note: The IRS uses national and local allowance tables for some expense categories but will accept documented expenses when reasonable and well-supported. Your goal is to show that after reasonable living expenses, there is little or no money available to pay the tax debt.
Offer structure and strategy
You can submit different types of offers. Two common approaches:
- Lump-sum cash offer (paid generally within a short period if accepted): tends to be acceptable when there is cash or liquid assets that can be applied.
- Periodic payment offer (payable over time): used when the taxpayer has some monthly ability to pay but cannot settle the full balance immediately.
Strategic tips:
- Be realistic. The IRS expects offers near or below its RCP calculation. If your offer is far below RCP without strong supporting hardship facts, the IRS will likely reject it.
- Consider timing: if an expected income decrease or disability is imminent, explain and document it; sometimes the IRS will consider projected reductions in collection ability.
Common mistakes to avoid
- Submitting incomplete forms or unsigned applications. Simple clerical errors create delays and may lead to early rejection.
- Claiming undocumented or inflated expenses. If you list high expenses without receipts or verifiable proof, the IRS will discount them.
- Omitting business documents. Small-business owners frequently under-document cash flow or fail to include accurate P&Ls.
- Failing to update documents. If your financial picture changes while the IRS is reviewing your offer, promptly submit updated documentation.
For more detailed pitfalls and how to fix them, see our article on Avoiding Common Mistakes on an Offer in Compromise: https://finhelp.io/glossary/avoiding-common-mistakes-on-an-offer-in-compromise/
Real-world example (anonymized)
A client owed approximately $80,000 after penalties and interest. Their initial bank statements showed limited liquid assets but a profitable side business. By preparing a package that included a detailed, conservative profit-and-loss statement, recent bank statements showing reduced monthly deposits due to market decline, and a hardship letter documenting medical expenses, we convinced the examiner that the RCP was less than the balance. The IRS accepted an Offer that settled the liability for 25% of the balance — an outcome that would not have been likely without clear, corroborated documentation.
Expected timeline and next steps if the offer is rejected
Typical timeline: 6–12 months for review, although some cases take longer if the IRS requests additional documentation or performs field examinations.
If the IRS rejects your offer:
- Review the rejection letter closely: the IRS will state reasons and the RCP calculation used.
- Consider appeal options or reapplying with corrected/updated documentation. See our guide on Options After a Denied Offer in Compromise: https://finhelp.io/glossary/options-after-a-denied-offer-in-compromise/
Practical drafting tips for your hardship letter
- Keep it fact-based: dates, amounts, and verifiable events.
- Explain why payment in full would leave you unable to meet essential living expenses or would force liquidation of exempt assets (e.g., a primary vehicle needed for work).
- Address any recent declines in income with supporting documents (termination notices, decreased sales reports, insurer letters).
Example phrasing (concise): “Monthly take-home is $X; essential monthly expenses total $Y (attached bills). Requiring payment in full would prevent me from meeting housing and medical needs and force sale of my only vehicle used to maintain employment (title and valuation attached).”
When to get professional help
If your tax liability is large, your finances are complex, or you’re unsure which Form 433 variation applies, consult a qualified tax professional or enrolled agent. In my practice, a professional review frequently finds small missing pieces — a bank statement, a signed lease, or an updated appraisal — that materially change the IRS’s RCP calculation.
Related reading: How to Build a Financial Package for an Offer in Compromise: https://finhelp.io/glossary/how-to-build-a-financial-package-for-an-offer-in-compromise/
Final checklist before submission
- Signed Form 656 and correct Form 433-A(OIC)/433-B(OIC).
- All supporting documents labeled and tabbed.
- A concise cover letter and hardship statement.
- Evidence of filing compliance and copies of recent returns.
- If applicable, fee payment or low-income certification.
- Keep copies of everything you send and send via a trackable method.
Professional disclaimer: This article provides general information about Offers in Compromise and does not constitute tax advice. For specific guidance tailored to your circumstances, consult a qualified tax professional or the IRS. Official IRS OIC resources: https://www.irs.gov/payments/offer-in-compromise
If you want, I can provide a downloadable checklist or a sample hardship letter tailored to your situation.
