Do you owe a substantial amount of taxes to the IRS? If so, you've likely looked into establishing a payment plan. But what if you are simply unable to pay your tax balance? In this case, you might consider requesting an offer in compromise, which is a last-resort option that allows you to settle your account for literally pennies on the dollar. The key to getting approved for an offer in compromise is understanding reasonable collection potential which the IRS uses to decide if your account qualifies for this option.
A Definition of Reasonable Collection Potential
In short, reasonable collection potential refers to the maximum amount that the IRS believes it can collect from you over time. Generally, the agency uses a simple formula to calculate this amount, which you can easily figure on your own. However, if you want your request for an offer in compromise to be approved, you should offer the IRS at least the same amount as your reasonable collection potential and preferably a little more. If the agency believes it can collect more from you than you are currently offering it has no reason to approve your request.
How to Calculate Your Reasonable Collection Potential
Reasonable collection potential includes two factors: the liquidation value of your assets and your extra monthly income over the next four or five years. To figure your assets' liquidation value, add up the total cash you have on hand and in bank accounts as well as the current value of any investments. You'll also have to include the current value of your real assets, including cars, homes and property. You can calculate this by multiplying the fair market value by 80 percent and then subtracting any outstanding loans against the value.
The final figure is your additional monthly income after your necessary living expenses are paid. Simply deduct your essential expenses from your income and then multiply the money that is left by either 48 or 60 to figure your disposable income for four or five years. Add up your total disposable income, your current cash and investments and the liquidation value of your assets to arrive at your reasonable collection potential.
If you've been considering requesting an offer in compromise from the IRS, you need to understand how to figure your reasonable collection potential. Calculating this number can help you decide how much to offer the IRS as a lump sum which increases the chances that your request will be granted.
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