What is a Reasonable Collection Potential of an Offer in Compromise?
Before getting down to the mathematics, it is worthwhile to gain a fair understanding of the concept of reasonable collection potential. This is the sum of money that the IRS thinks that you will be able to pay given your present financial status. Thus, understandably, a calculation of the reasonable collection potential is based on the value of your assets coupled with your monthly disposable income for the last four or five years.
An accurate calculation of your reasonable collection potential is crucial to the chances of your Offer’s success because of the following observations:
- Your offer of money to the IRS, or the Total Offer Amount, must be equal to or greater than your reasonable collection potential for the IRS to grant your Offer.
- You might not be considered eligible for an Offer in Compromise if your reasonable collection potential is equal to or greater than your tax debts.
Calculating the Reasonable Collection Potential
A simple formula is applied to calculate the reasonable collection potential. This value is equal to the sum of the entire amount of receivable cash that includes your investments and accounts, the “realizable value” of your personal assets such as real estate properties and vehicles, and your monthly disposable income calculated for the last 48 or 60 months.
The “realizable value” of your assets is in turn, calculated using the following formula: the fair market value of your asset times 80% of the quick sale discount factor minus the amount left over from any loans secured by the property.
In this context, it is also noteworthy that your monthly disposable income is calculated on the basis of the budget that has been prepared by your tax consultant in Section 9 of Form 433-A. An astute tax consultant, while calculating this value will advise you to use the minimum value of your actual expenses. After you have calculated this amount, you will arrive at the value that denotes your monthly disposable income by subtracting total living expenses from your total income.
Many tax consultants feel that this value of total monthly expenses has the potential to make or break the chances of your Offer being approved by the IRS. Therefore, prudent and far-sighted tax consultants ensure that they include all details about your expenses to make for a strong case.
Now, if you intend to pay your Offer in full within 90 days from the day the IRS notifies that your Offer has been approved, then you will need to multiply the value for monthly disposable income by 48 months or else by 60 months. But remember that, in the latter instance, you will still need to pay the full amount within 24 months.
Now that you know how to calculate the reasonable collection potential, you can specify the Total Offer Amount in Form 656. And submit this offer for review by a tax professional before sending it to the IRS.