How to Settle Back Taxes: Your Options With the IRS

When an individual owes taxes from a previous year, this is known as having “back taxes.” This situation can arise from underpayment, failure to file a return, or a miscalculation on a past return. The Internal Revenue Service (IRS) has established several structured programs to help taxpayers manage and resolve their outstanding tax liabilities. These programs are not designed to be punitive but rather to provide a realistic means for the government to collect owed funds while allowing the taxpayer to regain financial stability. Taking proactive steps to engage with the IRS and use these procedures is the best way to resolve the debt and prevent more severe collection actions.

Prerequisites for IRS Settlement Programs

Before the IRS will consider any settlement or payment arrangement, a taxpayer must meet two requirements. The first is to file all legally required, past-due tax returns. The IRS cannot enter into a resolution agreement until it has a complete and accurate picture of a taxpayer’s total liability, which is determined by these filed returns.

The second prerequisite is to become current with all present tax obligations. For employees, this means ensuring their employer is withholding the correct amount of federal tax, which may require submitting a new Form W-4, Employee’s Withholding Certificate. For self-employed individuals, this involves making timely quarterly estimated tax payments. The IRS requires taxpayers to be compliant with their current duties to show they can meet future obligations while resolving past ones.

Gathering Your Financial Information

An accurate presentation of your financial situation is needed for any settlement request with the IRS. The agency requires a detailed accounting of your income, expenses, assets, and liabilities to determine your ability to pay. For income verification, you will need recent pay stubs, typically for the last three to six months, and copies of any award letters for benefits like Social Security or unemployment. Self-employed individuals must compile profit and loss statements for their business.

Next, you must document your necessary monthly living expenses. This includes records of housing and utility costs, such as mortgage or rent statements, and bills for electricity and gas. You will also need evidence of payments for transportation, food, childcare, and health care, including insurance premiums and out-of-pocket medical costs.

The final component is a complete inventory of your assets and liabilities. For assets, this means gathering statements for all bank accounts, retirement accounts, and other investments, along with the fair market value of physical assets like vehicles and real estate. On the liabilities side, you must collect statements for any outstanding debts, including mortgages, auto loans, student loans, and credit card balances.

This collected financial data is organized and submitted to the IRS on a Collection Information Statement. Most individuals will use Form 433-F, which is a more concise version. In more complex cases, or when requested by an IRS revenue officer, the more detailed Form 433-A is required. The information is submitted under penalty of perjury, so accuracy is important.

Requesting an IRS Payment Plan

One of the most direct methods for resolving back taxes is to request an Installment Agreement (IA), which allows you to make monthly payments over time. The IRS offers an Online Payment Agreement (OPA) tool on its website for individuals who owe a combined total of under $50,000, consisting of tax, penalties, and interest. To use the tool, you will need your personal identifying information to propose a monthly payment amount. If your total balance is over $25,000, payments are required to be made through a direct debit from a bank account.

The online process provides immediate feedback on whether your proposed plan is accepted, allowing you to finalize the agreement online. Alternatively, you can request an IA by submitting Form 9465, Installment Agreement Request, by mail. This form asks for your personal information, the total amount you owe, and the monthly payment amount you propose to make, and is often submitted with your completed tax return.

After submitting the request, the IRS will notify you in writing of its decision. If your plan is approved, the letter will detail the terms, including the monthly payment amount, due date, and any applicable setup fees. These fees range from $31 to $225 based on the payment method and your income level. You must make all payments on time and stay current with future tax obligations to keep the agreement in good standing.

Applying for an Offer in Compromise

An Offer in Compromise (OIC) allows certain taxpayers to resolve their tax liability for less than the full amount owed. This option is for when a taxpayer cannot pay their full tax debt or doing so would create a financial hardship. The IRS provides an OIC Pre-Qualifier tool on its website to help you check your eligibility before applying.

The core of the OIC application consists of Form 656, Offer in Compromise, and Form 433-A (OIC). Your offer amount is calculated based on your reasonable collection potential, which is derived from the financial data on Form 433-A (OIC) and considers your net disposable income and the equity in your assets.

Submitting an OIC application requires a non-refundable $205 application fee, though this can be waived for low-income taxpayers. You must also make an initial payment with your application. If you propose a lump-sum cash offer, you must include a payment of 20% of the total offer amount. If you propose a periodic payment offer, you must include the first proposed monthly payment. These payments are non-refundable if the OIC is rejected but are applied to your tax liability.

The completed OIC package must be mailed to the specified IRS location. The review process can take six months or longer, and an investigator may contact you for more information. While the offer is pending, you must continue to file all required tax returns and make any required estimated tax payments.

Seeking Currently Not Collectible Status

For individuals experiencing severe financial hardship, requesting to be placed in Currently Not Collectible (CNC) status can provide temporary relief. This status means the IRS has determined you cannot afford to pay your back taxes and basic living expenses, so the agency will temporarily pause active collection efforts like bank levies or wage garnishments. To be considered for CNC status, you must contact the IRS and provide a detailed financial statement, typically on Form 433-F.

The IRS will analyze your income and expenses to verify that you lack the ability to make any payments. CNC is not a permanent solution, as your debt continues to grow with penalties and interest. The IRS will also periodically review your financial situation to see if your ability to pay has improved.