A compromise is an agreement between a taxpayer and IRS (or in some cases the Justice Department, that settles a tax liability for payment of less than the total amount determined and assessed. Although IRS generally expects that all taxpayers will pay the total tax due, regardless of amount, IRS recognizes that it is both sound business practice and good tax policy to settle some cases for less than the total amount due. Preamble to TD 9007, 7/18/2002 . IRS may compromise a tax liability on any of the following grounds: (1) doubt as to the liability; (2) doubt as to collectibility; or (3) to promote effective tax administration. If IRS determines that one of the above grounds for compromise applies, IRS may, in its discretion, compromise any civil or criminal liability arising under the internal revenue laws before reference of a case involving that liability to the Department of Justice for prosecution or defense. Code Sec. 7122(a) ; Reg §301.7122-1(a)(1) . The procedures for submission and consideration of compromises with the IRS are outlined in Reg §301.7122-1(d) ; Rev. Proc. 2003-71, 2003-36 IRB , and Statement of Procedural Rules, Reg §601.203 . Generally, offers in compromise are submitted to IRS on Form 656 and (other than those based on doubt as to liability) must be accompanied by a financial statement (made on Form 433-A and/or Form 433-B ). Reg §601.203(b) . Offers in compromise must also be accompanied by partial payment. The taxpayer can request a conference in the IRS office having jurisdiction over the offer before submitting a formal offer to explore compromise possibilities. Reg §601.203(d) . The taxpayer is notified in writing of acceptance of the compromise offer. Reg §301.7122-1(e)(1) ; Reg §301.7122-1(f)(1) . For the limited circumstances (e.g., where false information has been provided) in which an accepted compromise agreement may be set aside, see ¶71,224.07 . Reg §301.7122-1(e)(5) . For an agreement to have the effect of a valid compromise, the statutory requirements must be strictly followed. But courts have used the doctrine of estoppel to bind taxpayers who had the benefit of a compromise that didn't follow strict procedural requirements. A compromise agreement, like other contracts, may be subject to court construction as to ambiguities. The effect of a compromise can be nullified if the agreement is not performed.. IRS may compromise a tax liability on any of the following grounds: • doubt as to liability; • doubt as to collectibility; or • to promote effective tax administration because either (a) collection of the full amount would cause economic hardship for the taxpayer, or (b) the taxpayer identifies compelling public policy or equity considerations providing a sufficient basis for compromising the liability. Reg §301.7122-1(b) . For the standards and taxpayer safeguards the IRS must apply in evaluating compromise offers, including some special rules for offers based on doubt as to liability and offers based on doubt as to collectibility, see ¶71,224.01 . Doubt as to liability. There is doubt as to liability where there is a genuine dispute as to the existence or amount of the correct tax liability under the law. There is no doubt as to liability where the liability has been established by a final court decision or judgment concerning the existence or amount of the liability. Reg §301.7122-1(b)(1) . An offer based on doubt as to liability generally will be considered acceptable if it reasonably reflects the amount the IRS would expect to collect through litigation, including the hazards of litigation. Rev. Proc. 2003-71, 2003-36 IRB . Doubt as to collectibility. Doubt as to collectibility exists in any case where the taxpayer's assets and income are less than the full amount of the liability. Reg §301.7122-1(b)(2) . An offer based on doubt as to collectibility generally will be considered acceptable if it's unlikely the tax can be collected in full and the offer reasonably reflects the amount the IRS could collect through other means, including administrative and judicial collection remedies. In some cases, IRS may accept an offer of less that the total reasonable collection potential of a case if there are special circumstances. Rev. Proc. 2003-71, 2003-36 IRB . Promotion of effective tax administration. A compromise may be entered into to promote effective tax administration, if: collection of the full liability could be achieved, but collection of the full liability would cause the taxpayer economic hardship within the meaning of Reg §301.6343-1 (relating to release of levy due to economic hardship, ¶63,354.06 ), Reg §301.7122-1(b)(3)(i) , or there are no other grounds for compromise (i.e., no doubt as to liability, doubt as to collectibility, or economic hardship as described above), but compelling public policy or equity considerations identified by the taxpayer provide a sufficient basis for compromising the liability (the “non-hardship” effective tax administration standard). Reg §301.7122-1(b)(3)(ii) ; Preamble to TD 9007, 7/18/2002 . But no compromise to promote effective tax administration may be entered into if compromise of the liability would undermine compliance by taxpayers with the tax laws. Reg §301.7122-1(b)(3)(iii) . Factors supporting (but not conclusive of) a determination that a compromise would undermine compliance include, but aren't limited to, whether the taxpayer has: (i) a history of noncompliance with the filing and payment requirements of the Code; (ii) taken deliberate actions to avoid the payment of taxes; and (iii) encouraged others to refuse to comply with the tax laws. Reg §301.7122-1(c)(3)(ii) . Because the economic hardship standard under Reg §301.6343-1 specifically applies only to individuals, economic hardship isn't a basis for compromise for non-individuals. Preamble to TD 9007, 7/18/2002 . Factors supporting (but not conclusive of) a determination that collection would cause economic hardship, include, but aren't limited to: taxpayer is incapable of earning a living because of a long term illness, medical condition, or disability, and it is reasonably foreseeable that taxpayer's financial resources will be exhausted providing for care and support during the course of the condition. although taxpayer has certain monthly income, that income is exhausted each month in providing for the care of dependents with no other means of support. although taxpayer has certain assets, the taxpayer is unable to borrow against the equity in those assets, and liquidation of those assets to pay outstanding tax liabilities would render the taxpayer unable to meet basic living expenses. Reg §301.7122-1(c)(3)(i) . Compelling public policy or equity considerations. A compromise will be justified under this standard only where due to exceptional circumstances, collection of the full liability would undermine public confidence that the tax laws are being administered in a fair and equitable manner. A taxpayer proposing compromise under this ground will be expected to demonstrate circumstances that justify compromise even though a similarly situated taxpayer may have paid his liability in full. Reg §301.7122-1(b)(3)(ii) . The IRS expects these compromises will be appropriate only in those rare cases where collection would adversely affect the overall tax system. Preamble to TD 9007, 7/18/2002 . Before accepting an offer based on public policy and equity considerations, the IRS says that it must conclude that collection of the full liability would undermine public confidence that the tax laws are being administered in a fair and equitable manner. Preamble to TD 9007, 7/18/2002 . The IRS will presume that the correct application of the tax laws produces a fair and equitable result, absent exceptional circumstances. Preamble to TD 9007, 7/18/2002 . Prior law. For offers in compromise pending on, or submitted before, July 19, 2002, Reg §301.7122-1(k) : the definition of doubt as to collectibility referred to the full amount of the “assessed liability.” Reg § 301.7122-1T(b)(3)(i) before removed by TD 9007, 7/18/2002 . the non-hardship effective tax administration standard at (2) above provided that compromise was permissible where, regardless of financial circumstances, exceptional circumstances existed such that collection of the full liability would be detrimental to voluntary compliance by taxpayers. Reg § 301.7122-1T(b)(4)(ii) before removed by TD 9007, 7/18/2002 . Exceptional circumstances were described as extraordinary events beyond a taxpayer's control. IR 1999-64, 7/19/1999. The IRS says that it has restated the “detrimental to voluntary compliance” standard as described at (2) above to clarify the types of cases that qualify for non-hardship effective tax administration compromise. Preamble to TD 9007, 7/18/2002 . a compromise offer based on promoting effective tax administration (one based on either economic hardship, or the non-hardship grounds described above) couldn't be considered by the IRS if the taxpayer qualified for doubt as to liability and/or doubt as to collectibility. Reg § 301.7122-1T(b)(4)(i) before removed by TD 9007, 7/18/2002 . factor (C) above was presented as two factors—one relating to taxpayers unable to borrow, Reg § 301.7122-1T(b)(4)(iv)(B)(3), before removed by TD 9007, 7/18/2002 , and one relating to taxpayers unable to liquidate assets. Reg § 301.7122-1T(b)(4)(iv)(B)(2) before removed by TD 9007, 7/18/2002 . And, as to borrowing against assets, the regs provided that a factor supporting economic hardship was that a taxpayer was unable to borrow against the equity in his assets, and disposition by seizure or sale of the assets would have sufficient adverse consequences such that enforced collection was unlikely. Reg § 301.7122-1T(b)(4)(iv)(B)(3) before removed by TD 9007, 7/18/2002 . For offers in compromise submitted before July 21, '99, Reg § 301.7122-1T(j), before removed by TD 9007, 7/18/2002 , a tax liability was subject to compromise only on grounds of doubt as to liability, or doubt as to collectibility. Reg § 301.7122-1(a), before removed by TD 8829, 7/21/1999 . www.irstaxattorney.com 888-712-7690