It is a problem that many individuals or business owners in California have faced. You may have had a difficult year financially, and when tax time rolls around you discover that you owe more to the California Franchise Tax Board (FTB) than you can afford to pay. If this is your situation, there is light at the end of the tunnel. The FTB is willing to work with cooperative delinquent taxpayers to come up with a solution that works for both parties. One of these solutions is the offer in compromise (OIC). Could it be the right choice for you? You need to understand what is involved, how it can help your situation, whether you are eligible and how to apply before you can make a decision.
What is an offer in compromise?
The quick definition of an offer in compromise is “a settlement for less than the full amount you owe.” In practice, it’s slightly more complicated. Generally, an offer in compromise is something of a last resort. The FTB will generally consider an offer in compromise if you can prove that you have no way to pay your outstanding taxes, and when the amount offered is “the most the Franchise Tax Board can expect to collect within a reasonable period of time.”
Owing the FTB
The FTB administers two of the state’s big tax programs: Personal Income Tax and Corporation Tax. Your debt may be related to your individual state income taxes or, if you own a business which operates in California or "derives income from sources within the state,” you may owe franchise tax or corporation income tax.
Generally, if you do not pay the taxes due to the state on time, you will be sent a notice in writing, informing you of how much you owe. You have 30 days from the date of that notice to pay the balance due or contact the FTB about other arrangements. After those 30 days, the FTB may begin enforced collection actions such as imposing wage garnishments, filing state tax liens, and imposing collection fees. If you wait long enough, they can eventually even seize your property.
If you know ahead of time that you will not be able to pay your taxes, you are still better off filing than not filing. If you fail to file your tax return you will end up piling up some harsh penalties on top of your debt. The initial failure to file penalty is 5% of the tax due for every month that the return is late, up to a maximum of 25%. If you have ignored notices demanding that you file a return or requesting information, you face a delinquent filing fee of another 25% of total tax liability assessed, without regard to any payments or credits.
Should you consider making an offer in compromise?
The FTB will expect you to exhaust most other avenues for paying off your tax debt. The most common way to pay off outstanding taxes is an Installment Agreement, but you will also need to consider taking out a loan or selling off assets. If you you absolutely cannot find a way to pay and have no prospect of being able to pay the full amount within five years, you will have to look at making an offer in compromise.
The main benefit to the OIC, aside from having to ultimately pay less money to the FTB, is that in most cases it will halt the collections process. The FTB will usually release any state tax liens on your property and stop the actions of any 3rd party collection agencies.
Making an offer in compromise is not without its drawbacks, however. It is a financially invasive process, and the standards for acceptance are stringent. You may need to sell assets and forfeit tax credits and refunds. There is no guarantee that your offer will be accepted, and even if it is, you will need to be perfect in your tax dealings for the foreseeable future: one missed payment or late filing could jeopardize the agreement. You will likely be waiving some tax benefits such as the statutes of limitations on investigation and collections: an OIC will likely stop the clock and leave you open to future scrutiny. You may also be asked to enter into a collateral agreement with the FTB. In a collateral agreement, you must promise to pay the FTB a percentage of any future income over a certain threshold for a period of five years.To apply for an offer in compromise, you must have filed all your tax returns to date. To be eligible, your financial situation must be fairly dire, and it is up to you to prove your inability to pay the total debt. Each case is decided individually, and the FTB gives specific consideration to the following factors:
- Your ability to pay
- Your equity and assets
- Your present and future income
- Your present and future expenses
- The potential for changed circumstances
- Whether the offer is in the best interest of the state
The process: how to make your offer
The first step towards making an offer in compromise is to fill out the appropriate form. You have three choices. If you are an individual taxpayer and your OIC is regarding your personal tax liability, you can fill out either the OIC FTB Application - FTB 4905PIT or the OIC Multi-Agency Application - DE 999CA. The multi agency application allows you to submit offers to all three California tax agencies (FTB, BOE and EDD) at once. Each agency will consider the offers individually, but it will save you some time in your application process. If you are making an OIC for Business Income Tax you will need to fill out the OIC FTB Application - FTB 4905BE.
You will be required to submit substantial documentation with your application form, such as paystubs and statements from all of your bank account for the last six months to two years, including any bank accounts which you have closed. The forms ask for highly detailed information about assets, investments debts, insurance, court proceedings and pending litigation and even medical information if you have a condition which the FTB should take into account.
Legal documents to include are:
- Vehicle registrations
- Marital settlement agreements
- Divorce decrees
- Marital property settlements
- Trust documents
- Bankruptcy documents
The most challenging part of any OIC application is usually determining the amount to offer. The IRS has a set formula as a starting point for this calculation, but the FTB does not. It may be worth speaking with an experienced tax attorney. While representation is not required, it can help. Your attorney will have seen and negotiated many deals with the FTB, and can help you review your specific situation to arrive at a reasonable number with the highest likelihood of acceptance. The FTB will usually make a decision on your case within 90 days, though if your accounts are very complicated it could take longer.
If your offer is accepted, you will have to pay the OIC in full: the FTB does not accept installments for offers in compromise. They will ask for a cashier’s check or money order for the full amount of your offer. If they do not accept your offer, they will contact you to discuss your case. They may counter with a higher sum, or it may be that they have determined that you can afford to pay off the debt within five years: in that case they will help you set up an Installment Agreement. This is another area where a tax attorney can help. The appeals process for an FTB OIC is fairly casual, but negotiations are best handled with a professional by your side.
A huge tax bill can be devastating, especially when you do not have the means to pay it. For many people, the natural first reaction is avoidance and denial, which can quickly make a tough situation much worse. Consequences for delinquent unpaid taxes are severe, and the longer you take to respond, more trouble you can cause for yourself or your business. Remember that there are always options. If you are willing to work with the FTB, they will be willing to work with you.