Preparing the Financial Statement for an Offer in Compromise

Why the financial statement matters

The IRS uses your financial statement to calculate Reasonable Collection Potential (RCP), the key number that determines whether an Offer in Compromise (OIC) will be accepted. The RCP represents what the IRS believes it can collect from you now and in the foreseeable future through asset liquidation, installment collection, or both. In my practice working with taxpayers on OICs, a clear, well‑documented financial statement reduces follow‑up requests and materially improves acceptance odds because it minimizes uncertainty for the IRS.

Sources: IRS Offer in Compromise overview and forms (irs.gov/offer‑in‑compromise; Form 656 & Form 433 series).

Which IRS forms should you use?

• Individuals (including many self‑employed taxpayers): Form 433‑A (OIC). It captures personal assets, monthly income and expenses, and business schedules where applicable.
• Businesses and some closely held entities: Form 433‑B (OIC).
• Formal offer package: Form 656 (Offer in Compromise) with required attachments and supporting documents.

Always use the OIC‑specific versions (look for “(OIC)” in the title) rather than the regular collection forms. See Form 656 and the OIC forms on the IRS site for current PDFs and instructions.

Step‑by‑step checklist to prepare the financial statement

1. Gather identity and tax paperwork

• Photo ID (driver’s license or passport).
• Social Security numbers for you and any spouses listed.
• The tax notice(s) or account transcripts for the liabilities you’re offering on.

1. Collect income documentation

• Recent pay stubs (last 2–3 months).
• Last two years’ tax returns (Form 1040 and schedules).
• Proof of other income: unemployment, Social Security, pensions, rental, investment, and business income (1099s, bank deposits, ledgers).

1. Assemble bank and asset statements

• Bank account statements (3–6 months) for all personal and business accounts.
• Retirement account statement pages (401(k), IRA), brokerage statements, and recent valuations.
• Titles and registration for vehicles, equity statements for real estate (mortgage statements), and documentation for other assets (boats, collectibles).

1. Document monthly bills and allowable expenses

• Mortgage/rent statements, utilities, insurance, health care and medical bills, child support, and required transportation costs.
• Keep receipts, invoices, and canceled checks for variable expenses.
• The IRS applies collection financial standards (national and local standards) for food, clothing, housing and utilities; use those standards rather than inflating discretionary expenses. See the IRS Collection Financial Standards for current amounts.

1. List liabilities and secured debt

• Credit card statements, medical bills, personal loans, student loans, and liens.
• Recent statements for secured loans showing balance and monthly payment.

1. Prepare asset valuations

• Use conservative, supportable values (dealer quotes, NADA for vehicles, recent tax assessments or broker opinion for real estate).
• Subtract allowable encumbrances (mortgage balances) to show equity.
• For retirement accounts, document current values and note plan rules/penalties; some plans are effectively excluded for collection if penalties or restrictions exist.

1. Complete the forms accurately

• Enter monthly gross income and list every allowable expense.
• For self‑employed taxpayers, complete the business sections and attach profit/loss statements.
• Provide explanations for any unusual items (one‑time medical bills, temporary income loss).

1. Add an explanatory cover letter

• Summarize the offer type (lump sum vs. periodic) and the rationale. Include a brief line‑item explanation for any numbers the IRS may question.

1. Include required payments and fee or low‑income waiver

• Application fee (currently $205) is generally required unless you qualify for a low‑income certification. See the Form 656 instructions for eligibility.
• Lump‑sum offers require an initial payment of 20% of the offer; periodic offers require the first proposed installment with the application. Confirm amounts and acceptable payment methods with current IRS instructions.

Valuing assets and calculating what you can pay (RCP)

The IRS calculates RCP as the sum of: equity in assets that could be sold plus expected future income the IRS believes you can use (usually up to 12 months of discretionary income for non‑periodic offers). Knowing how the IRS calculates equity and allowable expenses matters:

• Equity = current market value minus selling costs and outstanding secured debt.
• Allowable living expenses are governed by IRS Collection Financial Standards (national/local) and other categories like health care and necessary transportation.
• The IRS may allow a small, reasonable amount for unsecured debts as well.

If your RCP is lower than your offer, the IRS is more likely to accept. For detailed examples and a walkthrough of RCP, see our guide: “Calculating Reasonable Collection Potential for an Offer in Compromise: A Walkthrough.” (finhelp.io/glossary/calculating-reasonable-collection-potential-for-an-offer-in-compromise-a-walkthrough/)

Offer types and how the financial statement ties in

• Lump‑sum cash offer: you submit 20% of the offer with Form 656 and the remaining balance is paid in 5 or fewer payments once the offer is accepted.
• Periodic payment offer: you submit your first proposed payment and then make regular payments while the IRS reviews the offer. The IRS will consider your ability to pay in the near term and may require an installment schedule.

Selecting the right offer structure depends on whether your current cash or liquidatable assets can meet an initial payment and on what your RCP shows.

Common mistakes and how to avoid them

• Omitting accounts or underreporting income. The IRS cross‑checks bank records and third‑party data; omissions almost always trigger denial or prolonged review.
• Padding expenses above IRS standards. The Collection Financial Standards are the baseline the IRS expects—unsupported inflation of housing, food, or transportation expenses is a fast path to rejection.
• Poorly documented asset values. Use objective sources (NADA, broker quotes, appraisals) and attach them.
• Submitting incomplete forms. Missing signatures, unchecked boxes, or absent supporting documents cause case delays or outright rejection.

After you submit: what to expect

• The IRS will review the financial statement and often request additional documentation or clarification—respond promptly and completely.
• Expect multiple contacts: field collection, centralized OIC unit, or assigned revenue officers may request verification.
• Typical timelines vary; many cases are resolved in several months, while more complex cases can extend to a year or longer.
• If denied, you can appeal the decision through IRS appeals or consider other remedies such as installment agreements, offer modifications, or reapplication with stronger proof. See our related guides on appeals and next steps after denial: “Options After a Denied Offer in Compromise” (finhelp.io/glossary/options-after-a-denied-offer-in-compromise/) and “Reapplying After a Denied Offer in Compromise” (finhelp.io/glossary/reapplying-after-a-denied-offer-in-compromise-what-to-change-and-when/).

Professional tips from practice

• Be transparent. In my experience, full transparency reduces follow‑up. If there’s a legitimate reason to exclude an asset (e.g., bankruptcy protection), document it rather than omit.
• Use professional valuations for high‑value assets. Small appraisal costs can pay for themselves in a successful offer.
• Consider a power of attorney (Form 2848) to let a tax professional manage correspondence and meet deadlines.
• If you qualify for low‑income certification, submit the waiver paperwork to avoid the application fee and initial payment requirements.

Frequently asked practical questions

Q: What if I have retirement savings?
A: Retirement accounts are included in asset calculations, but the IRS will often discount accounts subject to early withdrawal penalties or plan restrictions. Provide plan documentation showing withdrawal penalties and rules.

Q: Can I submit estimated values?
A: Use supportable, objective valuations. Unsupportable estimates are the most common reason for asset disputes.

Q: Should I hire a pro?
A: If your situation involves complex assets, business schedules, or litigation risk, a qualified tax resolution professional usually improves outcomes.

Sources and further reading

• IRS Offer in Compromise (overview) — https://www.irs.gov/individuals/offer-in-compromise
• IRS Form 656 (Offer in Compromise) and instructions — https://www.irs.gov/pub/irs-pdf/f656.pdf
• IRS Form 433‑A (OIC) and Form 433‑B (OIC) — search the IRS forms library for current PDFs
• IRS Collection Financial Standards — see IRS guidance for national and local standards
• Consumer Financial Protection Bureau — guidance on budgeting and dealing with creditors (consumerfinance.gov)

Disclaimer

This article is educational and reflects professional experience and general IRS guidance as of 2025. It is not individualized legal or tax advice. For case‑specific recommendations, consult a qualified tax professional or attorney.