Form 656 (Offer in Compromise)

If you want to apply for an offer in compromise, you must submit IRS Form 656 (Offer in Compromise). You use this form to make your offer and establish the reason for your offer. However, this is not a standalone form. You must complete additional forms to apply for an offer in compromise. You can find everything you need in Form 656-Booklet.

Applying for an offer in compromise can be a tricky process with potential downsides—there are 32 pages in the booklet and the 656 form alone has eight pages. For best results, you should work with a tax professional. To get help now, contact us at the W Tax Group. Otherwise, keep reading for detailed instructions on how to complete this form. 

What Is Form 656?

Form 656 is the form you use to apply for an offer in compromise. If you want to settle your taxes for less than you owe, you must file this form and submit a collection information statement. 

You can use Form 656 if you’re applying for an offer based on the following reasons:

• Doubt as to collectability — This is when you cannot afford to pay the full tax bill. So you make a settlement offer based on the equity in your assets and your disposable income. 
• Effective tax administration — This option applies if you can afford to pay the full tax bill but forcing you to do so would be unfair. You should also select this option if you need to make a lower offer than usual due to extreme circumstances. 

Both of these offer-in-compromise programs require you to make a full financial disclosure. You must tell the IRS about all of your income and assets. Then, the agency uses this information to determine if you qualify for a settlement. 

How to Fill Out Form 656

Before you fill out this form, you may want to complete the OIC pre-qualifier on the IRS’s website. The pre-qualifier doesn’t give you a definitive answer about whether or not you qualify, but it can give you a basic idea of your eligibility. Here are the instructions for each section of Form 656.

Section One

In the first section, you need basic details about yourself and your spouse if applicable. Then, you note the type of tax you want to settle. The options on the form include 1040 income taxes, the trust fund recovery penalty, payroll taxes, and unemployment taxes. There’s also a line for “other” taxes if these categories don’t apply. 

If your income is under a certain level, you can certify yourself as low-income. Form 656 has a chart you can use to check your eligibility. Generally, if your household is at or below 220% of the federal poverty line, you qualify. You can use your income from your last tax return or multiply the income you note on Form 433-A by 12. 

Low-income applicants don’t have to include any payments with their offer. Normally, you must make a downpayment and pay a $205 application fee. If your income is relatively low, don’t forget to fill out this section. 

Section Two

You only need to complete Section Two if you’re applying for an offer on business taxes. This section requests the business’s name, address, and Employer Identification Number (EIN). It also has you note the type of tax that you want to settle. The options listed are 1120 corporate income tax, employer payroll tax, employer unemployment tax, and “other” federal taxes. 

Section Three

Here is where you note the reason for your offer. As indicated above, you can select doubt as to collectibility or effective tax administration. If you’re applying based on doubt as to collectability, you simply tick the box. For effective tax administration, you must provide a written explanation of your situation. 

Depending on the situation, you may note why paying the balance in full would create financial hardship. Or you may need to explain why forcing you to pay the full bill would undermine public confidence in the country’s tax collection system. Not sure how to sum this up? Don’t worry — a tax pro can help you.

Section Four

In Section Four, you select the payment terms for your offer. You have two options. You can opt to pay the offer in a lump sum within five months of acceptance. If so, you can make up to five payments, and you can use this form to outline the amount and timing of each payment. 

Alternatively, you can pay off your offer in six to 24 months. If you take this route, you note the date and amount of each monthly payment. You can make monthly payments for up to two years with this option. 

Unless you qualify as low-income, you must make a downpayment with your offer. For lump sum offers, you should submit 20% of the offer. For periodic payment offers, you need to submit the first monthly payment. Ideally, you should make additional monthly payments while the IRS reviews your offer. 

Section Five

In section five, you can specify which tax liability you want your payment applied to. Don’t worry about this if you only owe one type of tax. If you owe multiple taxes, make sure that you fill out this section — otherwise, the IRS will apply the payments at its discretion. 

If you like, you can make an electronic payment on the EFTPS website. Make one payment for the $205 application fee and submit another one for your downpayment. Then, note the EFT number on Form 656. You must make your EFTPS payment on the same day that you mail Form 656 to the IRS. 

Section Six

You must explain where you received the funds. For example, you may say that you took money out of a retirement account, sold an asset, worked overtime at your job, or borrowed money from friends or family. 

In this section, you will also note that you have filed all tax returns or will do so within 12 weeks of submitting the offer. You should also note any years that you are not required to file. Then, you should note whether or not you have made your required tax payments. 

Section Seven

You don’t have to fill out anything for this section, but it’s one of the most important parts of the form. It outlines all of the terms of your offer. Read this section carefully to ensure that you understand the implications of applying for an offer in compromise. 

Section Eight

Once you make it this far, you’re almost done. You simply need to sign the form. If you have a paid preparer, they should sign in section nine. 

Other Forms in the 656 Booklet

The 656-Booklet contains the following forms in addition to Form 656:

• Form 433-A OIC (Collection Information Statement for Wage Earners and Self-Employed Individuals)
• Form 433-B OIC (Collection Information Statement for Businesses)

Individuals generally only need to complete Form 433-A. If you own a business, you may need to complete both forms. Check out the links above for detailed instructions on how to complete these forms. 

What Is Form 656-L?

If there is a legitimate doubt that you really owe the tax, you can apply for a settlement using Form 656-L (Offer in Compromise — Doubt as to Liability). This form is very similar to Form 656, but it is a standalone form. When applying based on doubt as to liability, you only need to complete this form. You don’t need to include a financial disclosure. 

You cannot apply for this type of offer in compromise if your tax has already been determined to be legitimate in tax court. You also shouldn’t use this form if you’re applying for an offer because you can’t afford to pay the bill. 

Do not submit Forms 656-B and 656-L at the same time. If you believe there’s an issue with the tax liability, you should complete Form 656-L first. Then, if that is accepted but there’s still a remaining tax liability that you can’t afford to pay, you can submit Form 656-B at that time. 

FAQs About Form 656 (Offer in Compromise)

The offer in compromise is a heavily advertised program. Tax debt relief companies emphasize this program in their marketing materials. However, despite the popularity of this program, many people still have questions. Here are some of the most frequently asked questions. 

What is the purpose of IRS Form 656?

This is the form you use to submit an offer to settle your IRS tax debt for less than you owe. When applying for an offer in compromise, you must also submit a collection information statement. Use Form 433-A for individuals and Form 433-B for businesses.

How much should you offer?

The collection information statements (Forms 433-A and 433-B) will guide you to your offer. If you’re an individual applying based on doubt as to collectability, your offer should be all of your cash, 80% of the equity in your assets, and all of your disposable income. 

For a lump sum offer, you should include 12 months of disposable income. You must include 24 months of disposable income if you want to make payments. 

However, if you have exceptional circumstances, you don’t have to offer this much, but you need to be prepared to explain to the IRS why you are making a smaller offer. 

What are alternatives to an offer in compromise?

You may also be able to settle your taxes for less than you owe through a partial payment installment agreement (PPIA). This is when you make monthly payments until the collection statute expires on the tax debt. Then, the IRS waives the remaining balance. 

If the tax liability is due to your spouse or former’s spouse, you may be able to get the bill reduced through innocent spouse relief. You can only qualify in very specific situations such as when your spouse doesn’t report all of their income or takes fraudulent credits without your knowledge. 

Penalty abatement allows you to reduce your balance due by getting the penalties waived on your account. The IRS offers abatement to taxpayers with reasonable cause (death, illness, disaster, etc) and to taxpayers who haven’t incurred any other penalties in the last three years. 

If you don’t qualify to settle for less than you owe, you may be able to set up a monthly payment plan. If you cannot afford to pay anything, you can ask the IRS to mark your account as currently not collectible. Then, the IRS will stop collection actions until your situation improves. 

Can I submit form 656 electronically?

No, you cannot submit Form 656 electronically. You must complete this form manually and mail it to the IRS. 

How long does the IRS take to review my offer?

The processing time varies, but it generally takes at least six months for the IRS to review an offer in compromise. In some cases, the process can take two years from start to finish. If you are near the statute of limitations for your tax debt, you may want to consult with a tax attorney before selecting this program.

What happens if my offer is accepted?

The IRS will notify you by mail if it accepts your offer. If so, you must make your payments on the timeline specified on your application. Lump sums must be paid in five or fewer payments within five months of acceptance. Periodic installment plans must be paid monthly until you pay off the offer, and you can take up to 24 months. 

If you don’t pay the offer as outlined on the Form 656 that you submit, you will lose your offer-in-compromise. So, make sure to make your payments. Additionally, once you pay the offer, you must stay compliant with all tax regulations. If you don’t file a required return or if you don’t pay your taxes, the IRS can rescind the offer and demand payment in full. 

What if the IRS rejects my offer?

If the IRS rejects your offer, the tax is due in full. The IRS will not return your down payment, but it will apply the payment to your tax bill. You have 30 days to appeal the rejection. When you appeal, you should generally make a larger offer or work with a tax attorney who can help you convince the IRS to accept your offer. 

Luckily, the IRS stops all collection actions when you apply for an offer in compromise, and it doesn’t resume collection actions for 30 days after rejection or until you complete your appeal. That means you have a little time to figure out your next move, and you don’t have to worry about the IRS garnishing wages, seizing assets, or taking other actions during this time. 

The IRS rejects the majority of most offer-in-compromise applications. This doesn’t necessarily mean that you should brace yourself for a rejection. Instead, it indicates that you should work with someone who understands how the tax code works and can help you submit an offer that is likely to be accepted. 

Can you use Form 656 on state taxes?

Form 656 only lets you apply for an offer on federal taxes. However, most states including Michigan also have an offer-in-compromise program. The rules vary from state to state so you should work with a tax professional who has experience with your state. 

Get Help With Form 656

Want to learn more about settling your tax bill? Need help applying? Then, contact us today. At The W Tax Group, we help clients find the best possible solutions for their tax troubles. 

When you contact us, we’ll start with a free conversation about your tax trouble. Then, we’ll outline how we can help, and if you think we’re a good fit for your needs, we’ll go from there.