Howard's IRS and the Law Blog

When all else fails – or even if all else does not fail – Chapter 7 bankruptcy can be an excellent option to take old IRS problems out of your life.

Yes, bankruptcy can eliminate tax debt.

But bankruptcy is also incorrectly associated with losing assets, having everything you own wiped out by the bankruptcy court.

Chapter 7 is indeed what is known as a “liquidating bankruptcy,” meaning that in return for having your debt eliminated, a bankruptcy trustee can take your personal belongings, sell them, and pay the proceeds to your creditors.

But that would leave you with nothing – which is against public policy, not too mention prohibited by bankruptcy law.

Yes, you can file Chapter 7 bankruptcy on the IRS, eliminate your tax debt, and keep all of your property.

Here’s why:  Exemptions.

Exemptions are bankruptcy-speak for legal protections that prevent your creditors from taking your property.  Exemptions are law from Section 522 of the bankruptcy code – they make your property off-limits before bankruptcy, during bankruptcy, and after bankruptcy.

Here are some examples of exemptions in Ohio:

–     Up to $125,000 of equity for your interest in your house (increases to $250,000 if the house is jointly titled to and, say, your spouse).  Equity is the difference between what the house is worth and what you owe on your mortgage.

–     Up to $3,225 of equity in your car, increasing to $6,450 if the car is jointly titled.

–     Up to $10,775 of value in your household goods and belongings, increasing to $21,550 if jointly owned.

Retirement accounts are also protected from creditors in bankruptcy.

In most every case, these exemptions – and others too numerous to list – will allow taxes to be eliminated without the loss of any property to the bankruptcy trustee.

Yes – it is possible to eliminate taxes in a Chapter 7 bankruptcy, keep all of your property, and get a fresh start, debt-free.

What do you do when you disagree with an IRS auditor?

A common misperception of IRS audits is that whatever the auditor says, stands.

The reality is far different – an IRS auditor’s findings are not final.  It’s okay to disagree. You have options.  The audit is not the end of the road.

First, the IRS has an internal administrative appeal process for review of all audit findings. Once the auditor is done, he will send you a letter summarizing his findings, and give you 30 days to appeal.  If you appeal, the case will be sent to a separate IRS office where an independent IRS appeals officer will review the audit and your points of disagreement, trying to reach resolution.

But what if you feel battered by the audit, and want review from an outside, third party not affiliated with the IRS?

That’s were Tax Court steps in.

The Tax Court is a federal court – independent of the IRS.   It reviews IRS actions – including audit results and intended collection enforcement actions – and decides if the IRS right, or if you are right.  In essence, if you want to take an IRS audit to court, consider filing a petition to U.S. Tax Court.

Here are 5 reasons you can benefit by having the Tax Court decide your IRS dispute:

1.     You will be able to testify to things the IRS auditor may not believe.  Many audits get derailed by disagreements over what happened – How much did you pay your subcontractors? Were you conducting a hobby or a business?  Was the trip you deducted for business or pleasure?  In Tax Court, a judge will listen to your testimony, and will decide if you are right. Your fate is no longer in the hands of what the IRS believes to be true.

2.     Your records – receipts, logs – the documentation you submitted to prove your case in audit  – will be reviewed fresh by the Tax Court judge.  Your testimony can supplement the documentation – permitting you to tell your story to ears other than the IRS.  A common audit problem is the IRS bank deposit analysis – resulting in the IRS believing that you had more income than reported on your tax return.  The Tax Court can review your bank statements, your testimony and your documentation proving that not all bank deposits were earned.

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Negotiating with the IRS can be frustrating for the uninitiated.  Intimidating.  Overwhelming. Stressful.  Not the best way to feel when entering into a negotiation, much less when the party on the other side has the power of the IRS.

When I was an IRS trial attorney, I negotiated on behalf of the IRS.   Since moving into private practice over 20 years ago, I have spent most waking moments of my professional career negotiating with them, rather than for them.

And one thing is very clear:  Negotiating with the IRS has its own unique, unstated rules of engagement.

Here are a few tips I recommend that you keep in mind for the best results for when you face an IRS audit, or an IRS Revenue Officer, or a call on an IRS 1-800 line:

1.     Don’t rely on logic to carry the day.  IRS decisions are not always made from common sense, or logic.  Your way of thinking about a solution to a problem – options that would be successful in the private sector – do not apply to solving IRS problems.

The IRS process is primarily governed by their own internal rules and regulations.  This guidebook is called the Internal Revenue Manual (IRM).   The IRM contains chapter after chapter, page after page, of IRS procedures on handling most every conceivable situation – from audits to collections, and from levies and seizures to tax court litigation.

That’s the good news – there are guidelines for IRS negotiations.  But is very important to know the rules, and recognize how to apply the Internal Revenue Manual to a given situation.

Success with the IRS starts with knowing what they know – getting into their playbook – the Internal Revenue Manual – and applying it to negotiations.

2.      Loosening the grip is better than tightening the noose.   Respect the power of the IRS.  Do not understate it.  Their hammer is most likely bigger than yours.

IRS problems are best solved from building a position of credibility.  Credibility is gained from a show of respect to the IRS employee you are working with, whether you like it or not.  There are certainly times to take off the gloves, but that should be a last approach.

And this is where the Internal Revenue Manual comes into play.  Knowing the IRS rules, and when they are not being applied, or not being applied properly, is a powerful tool to loosen the grip.

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Proceeding blindly is something that you rarely want to do with the IRS.

If you owe back taxes, or have unfiled returns, or are in any way concerned about an IRS problem, it’s best to first find out what the IRS knows about you.

What is the IRS doing on your account?  What can they can do to you?  What is the current status?

This information about you can be obtained from an IRS account transcript.

An IRS account transcript can tell us:

1.    If the IRS can levy your bank accounts and wages, or seize your property.

The IRS cannot levy your income or seize your property unless you have first been given written notice.  This notice is called a Final Notice of Intent to Levy.  The IRS will send it to you by certified mail, or a local Revenue Officer could hand-deliver it to you at your home or place of business.

IRS account transcripts will tell us if the Final Notice of Intent to Levy has been issued – there will be a line item on the transcript confirming that is was issued, and stating when.

If the IRS has sent the Final Notice, you have important rights to dispute the intent to levy and put a stop to IRS collection.  By law, you have 30 days to file an appeal.  And by IRS administrative rule, that 30 days is extended to one year in most cases.

If the account transcripts do not have a Final Notice indicator, then you will have the peace of mind knowing that the IRS cannot take your wages or your property.

2.     How long the IRS has left to collect your debt.

The IRS has ten years, starting from you filed your tax return, to collect a tax liability.  After that, in most every situation, they are barred by law from taking any action to enforce the debt.  After the 10 years expires, the IRS must forgive what you owe.  This is known as the statute of limitations on collection.

The IRS account transcript has information to calculate when you will be done with the IRS.  This includes when the statute of limitations clock started, and if anything has happened that gave the IRS more than 10 years to collect.

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You’ve made it – reached account resolution with the IRS by entering into an installment agreement to repay your taxes.  You may have had to negotiate with a local IRS Revenue Officer, or over the phone with the IRS automated collection service.  Maybe, you had minimal negotiations, made possible by qualifying for a streamlined installment agreement, which the IRS will automatically grant if you owe under $50,000 and can repay it in 72 months.

Make your payment every month, and the IRS will leave you alone.

But there are conditions to the installment agreement – it is not enough just to make your monthly payment.  You need to take one more step to keep the IRS off your back.  You have to stay in compliance on all future tax liabilities – filing on time, and paying on time.  Future compliance is a condition of your installment agreement.  To be perfectly clear, the IRS takes future compliance extremely seriously.

And this is real important:   Any future bill for any balance due can (and probably will) default your agreement.  And “balance due” does not just mean taxes; it also means penalties.

Here’s an example:  Let’s say you send in a check to the IRS to pay your taxes on October 15 when the return is due (with an extension).  The IRS does not consider this paying on time – your taxes were due on April 15; October 15 is an extension to file, not to pay.  What happens next?  The IRS cashes your check, determines that you paid your taxes but paid late, and sends you a bill for a late payment penalty.

This simple penalty bill for a late-payment penalty can be considered by the IRS as a new balance due and a basis for terminating your installment agreement (even though you paid your taxes).  And it does not matter how much the late-payment penalty is $100.00 or $10,000, either way, it is a new balance due.

The IRS computers should recognize the new penalty balance, and send you Notice 523, Notice of Intent to Terminate Your Installment Agreement.

To prevent new balances, here are two steps to take to ensure that your IRS installment agreement stays in good standing:

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You owe the IRS and would like to put past mistakes behind you and get a fresh start.  You may have heard a lot about the IRS offer in compromise program – popularized by those deep-voiced TV and radio advertisements that makes it sound like you just call the IRS, offer a number, they say yes, and your done.  Simple, right?

The IRS offer in compromise program is legitimate, and it works, but it’s not that simple. The IRS has a formula that they use in analyzing an offer in compromise.  The IRS looks at two pools of money in an offer in compromise: (1) How much does the IRS think you can pay them monthly if they put you on an installment agreement? and (2) What is the value of the equity in your assets?

In this post, we will focus on how the IRS values the equity in your assets.

Let’s start by defining the asset-equity formula the IRS uses in an offer in compromise, then apply it to four examples:  your house, your car, your household goods, and your bank accounts.

The IRS Formula in valuing assets in an Offer in Compromise.  The IRS’s goal is to arrive at what the net equity is in your assets.

Net equity is defined by the IRS to be the fair market value of the asset, (1) reduced by 20% to arrive at what is known as quick sale value, (2) reduced by any mortgages or bank loans against the asset and (3) reduced by any property exclusions available in the Internal Revenue Manual or Internal Revenue Code.  Let’s break that down, step by step.

Reduction to quick sale value.  The IRS uses the 20% reduction to quick sale value to arrive at the price you would receive if you sold an asset under duress and without time to get the best price.

Reduction for mortgages and bank loans.  If there are liens, mortgages, or encumbrances on the asset – say, a mortgage on your house or a loan on your your car – the value of the mortgage or loan is subtracted from the quick sale value.  They do not use the fair market value, but rather the lower quick sale value.

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