Executive Summary

Objective and Scope

Background

Results

Conclusion

Appendix I – Detailed Objective, Scope, and Methodology

Appendix II – Major Contributors to This Report

Appendix III – Report Distribution List

Appendix IV – Outcome Measures

Appendix V – Hypothetical Examples of Scenarios Where There Is Potential for Special Circumstances

Appendix VI – Percent of Processable Offers with Special Circumstances by Office

Appendix VII – Management’s Response to the Draft Report

Executive Summary

The Collecting Mission of the Internal Revenue Service (IRS) is to collect promptly the proper amount of federal tax from all persons who have not filed returns and/or paid tax as required by law and to encourage future compliance with the law. At times, the IRS encounters situations where the taxes owed cannot be collected in full or where there is a dispute as to what is owed.

Internal Revenue Code § 7122 gives the IRS the authority to "compromise" a tax liability. An offer in compromise (OIC) allows the taxpayer to settle unpaid tax accounts for less than the full amount of the assessed balance due. Under this Code section, there are two bases on which an offer can be made: doubt as to liability for the amount owed and doubt as to collectibility (when it is unlikely that the liability can be paid in full). Generally, taxpayers must offer an amount equal to the net value of their assets plus the amount that could be obtained from their future income. However, the IRS can accept a lesser amount under special circumstances, such as advanced age or serious illness of the taxpayer. These OICs are called doubt as to collectibility with special circumstances (DCSC).

The Congress expanded the OIC Program in Section 3462 of the Internal Revenue Service Restructuring and Reform Act of 1998 (RRA 98). This section provides for compromise when collection of the tax would create an economic hardship or such an inequity as to be detrimental to voluntary compliance. This type of offer is called an effective tax administration (ETA) offer. The RRA 98 also requires the IRS to establish procedures for an independent administrative review of any rejection of a proposed OIC and allows the taxpayer to appeal any rejection of an offer.

Our overall objective was to determine if procedures for accepting OICs based on special circumstances were being consistently, uniformly, and appropriately applied. The audit was requested by the Deputy Commissioner.

The IRS has taken many actions to implement changes required by the RRA 98. Specifically, the IRS issued temporary Treasury regulations and revised the Internal Revenue Manual (IRM) to provide additional guidance regarding the compromise of federal taxes. The offer specialist training course was revised to include ETA offers and to re-emphasize the DCSC offers, and the course was given to specialists who work offer cases. To ensure procedures are consistently applied and to identify trends for improvement, the IRS initiated a 100 percent review of all offers with special circumstances. In addition, it initiated a separate review of a sample of offers as part of the Collection Quality Measurement System (CQMS).

The use of special circumstance provisions, however, varies significantly depending upon which specialist works the case and where the taxpayer lives. This is due in part to the subjectivity of the factors involved in each case. In addition, the IRS’ policy of allowing taxpayers to withdraw their offers, rather than having the IRS reject them after the investigations determine more can be collected than was offered, bypasses the independent review provided for by the Congress.

The IRS revised its offer specialist training course to increase the emphasis on, and to help ensure consistency in, the application of special circumstance criteria. The material covered the various standards and factors to be considered as special circumstances and provided examples of each.

Offer specialists did not always consider special circumstance provisions while working offers filed for doubt as to collectibility. Special circumstances were present in 11 of the 114 doubt as to collectibility offers we reviewed that the IRS rejected or the taxpayers withdrew. These cases could have been accepted under the special circumstance provisions.

IRS managers in the three offices we visited had different attitudes about accepting offers with special circumstances. Managers in one office were aggressive in implementing the program and advised the taxpayers they may qualify for special circumstances, even if the taxpayers did not raise the issue. On the other hand, managers in another office did not appear to be strong proponents of the use of these procedures and stated it was not the offer specialists’ responsibility to advise the taxpayer of special circumstance options. Managers’ attitudes towards offers in the third office were in the middle of the other two.

Some offices have expanded the factors that can be considered in determining whether to accept an offer based on special circumstances. Some offices are accepting special circumstance offers based on the decision that the amount offered was more than they thought the IRS would reasonably collect from the taxpayer through normal collection activities. Not all offices applied this expanded interpretation.

The subjectivity of the factors involved in each case and the differing management views is evidenced by the variance in the number of special circumstance offers worked nationally. The number of special circumstances offers worked in Fiscal Year (FY) 2000 ranged from a low of 10 in 1 office (which represented .55 percent of the total offers worked in that office) to a high of 253 in another office (which represented 6.67 percent of the total offers worked in that office).

The issue of not always considering special circumstances was also raised in the National Taxpayer Advocate’s FY 2000 Annual Report to Congress (issued in December 2000), which outlined the 20 most serious problems encountered by taxpayers. The report stated that, "Sustained effort is needed to change the mindsets of those working offer cases. While the implementation of the temporary regulations and provisions in the RRA 98 provided flexibility, some field personnel continue to…ignore special circumstances that would allow consideration or acceptance."

In a June 2000 audit report on the implementation of the RRA 98 concerning the OIC Program, the Treasury Inspector General for Tax Administration (TIGTA) recommended the IRS establish a management information system (MIS) to monitor, summarize, and report on special circumstance offers on a national level. The IRS agreed with this recommendation and implemented the necessary changes.

While changes were made to the OIC MIS, it still does not accurately account for special circumstance offers. The OIC MIS showed there were 1,016 special circumstance offers closed during FY 2000. However, we identified another 316 special circumstance offers that were closed during FY 2000 and incorrectly recorded on the MIS as doubt as to collectibility offers. Managers in one office advised us they were unaware of the changes to the MIS system, while managers in another office stated they were confused as to how ETA and DCSC offers were to be recorded. Managers in all three offices indicated that some offers were incorrectly recorded due to an oversight.

The RRA 98 requires the IRS to perform an independent review of any rejection of a proposed OIC and allows a taxpayer to appeal any rejection. Withdrawn offers are not subjected to the independent review process. The IRS procedures provide that if the offer cannot be given favorable consideration, the taxpayer should be given the opportunity to withdraw the offer and be advised that by withdrawing the offer he/she loses any appeal rights on that offer.

In 23 of the 60 withdrawn doubt as to collectibility offers we reviewed, the IRS’ offer investigation concluded that more money could be collected than was offered and, therefore, the offer could not be accepted. The taxpayers were either told to withdraw their offer or given the option to withdraw or have it rejected. Since these offers were closed as being withdrawn, they were not subjected to the independent administrative review process. The Congress’ intent in the RRA 98 was that rejected offers receive an independent review and the taxpayers be offered appeal rights to the rejections. The policy of permitting taxpayers to withdraw their offers in these situations eliminates the independent review and, therefore, may be contrary to the Congress’ intent. In addition, in 15 of the 23 offers, the taxpayers were not advised they forfeited their appeal rights if they withdrew their offers.

This issue was also discussed in the June 2000 TIGTA audit report on the IRS’ implementation of the RRA 98 concerning the OIC Program. The TIGTA recommended the OIC guidelines be changed to discontinue the withdrawal request option. IRS management did not agree with the recommendation and stated, "…allowing the taxpayer to withdraw the offer provides an uncomplicated way to close the offer investigation…." However, we still believe that, in most situations, the taxpayers’ rights would be better served by subjecting the decision not to accept the offer to the independent administrative review process and allowing the taxpayer to appeal the proposed rejection.

While the IRS has set up review procedures to help ensure consistency in the application of special circumstance provisions, the review process can be improved. Independent administrative reviewers in the field offices did not always receive results of the 100 percent review process. Further, field managers did not use CQMS review results because they were not aware that the results were available on the IRS intranet.

In addition, not all the closed special circumstance offers were included in the 100 percent review program. According to the OIC MIS, there were 839 special circumstance offers closed between October 1, 1999, and August 31, 2000. We determined that 404 of these were not reviewed by the 100 percent review team.

The Commissioner, Small Business/Self-Employed (SB/SE) Division, needs to improve the communication of quality review results to help ensure consistency in the application of the special circumstance provisions. In addition, detailed instructions in accounting for special circumstance offers on the OIC MIS should be issued to the field, and the procedures for submitting special circumstance offers for the 100 percent review program should be re-emphasized. Finally, the Commissioner should seek clarification from the Congress as to whether the practice of permitting a taxpayer to withdraw his/her offer, after a decision has been made that the offer cannot be accepted, is contrary to the RRA 98 requirement for an independent review of rejected offers.

Management’s Response: SB/SE Division management agreed with all of our recommendations except one. They plan on revising the IRM to address the need to discuss with taxpayers potential special circumstance situations early in the OIC investigation; to emphasize how special circumstance offers should be accounted for on the OIC MIS; and to emphasize taxpayers must be advised that by withdrawing their offers they will forfeit any appeal rights.

In addition, they plan to explore a process to provide direct feedback to field managers on specific cases where quality review disagrees with the conclusion reached in the offer investigation. SB/SE Division management discontinued issuance of the 100 percent review process digest summaries and will provide the field periodic trend analyses of special circumstance reviews. They will also issue memoranda to the field regarding where and how to access the quality review results and re-emphasizing procedures for submitting special circumstance offers to quality review. In addition, they will explore the use of a process that would periodically generate a list of offers from the OIC MIS to compare to the quality review database.

However, SB/SE Division management did not agree to seek clarification from the Congress as to whether the IRS’ policy permitting taxpayers to withdraw offers in those instances where the investigation concluded the offer could not be accepted was contrary to the Congress’ intent in the RRA 98. SB/SE Division management believes allowing for withdrawals serves the interest of both the government and taxpayer by avoiding unnecessary costs to both parties.

Office of Audit Comment: We continue to believe that some withdrawals are very similar to rejects and that these offers are not subject to an independent review. While we agree that the withdrawal option can be advantageous to both the taxpayer and the IRS, we do not believe that the IRS should tell or otherwise encourage taxpayers to withdraw their offers. This causes the taxpayers to be removed from the independent review process.

Objective and Scope

Our overall objective was to determine if the procedures for accepting offers in compromise (OICs) based on special circumstances were being consistently, uniformly, and appropriately applied. The audit was requested by the Deputy Commissioner.

To accomplish our objective, we evaluated the adequacy of the training provided regarding OICs based on special circumstances and determined the adequacy of the Internal Revenue Service’s (IRS) reviews of these offers. We also reviewed a sample of rejected and withdrawn offers not based on special circumstances closed from May 1 through July 31, 2000, to determine if special circumstances factors should have been considered when working the offers.

Our review was conducted between June and December 2000 in what were the North Texas, Pacific-Northwest, and Upstate New York Districts. This audit was performed in accordance with Government Auditing Standards.

Details of our audit objective, scope, and methodology are presented in Appendix I. Major contributors to this report are listed in Appendix II.

Background

The Collecting Mission of the IRS is to collect promptly the proper amount of federal tax from all persons who have not filed returns and/or paid tax as required by law and to encourage future compliance with the law. At times, the IRS encounters situations where the taxes owed cannot be collected in full or where there is a dispute as to what is owed.

Internal Revenue Code § 7122 gives the IRS the authority to "compromise" a taxpayer’s tax liability for less than the full amount of the assessed balance due. Under this Code section, there are two bases on which an offer can be made: doubt as to liability for the amount owed and doubt as to collectibility (when it is unlikely that the liability can be paid in full).

Generally, taxpayers must offer an amount equal to the net equity of their assets plus the amount that could be obtained from their future income. However, the IRS can accept a lesser amount under special circumstances, such as advanced age or serious illness of the taxpayer. These OICs are called doubt as to collectibility with special circumstances (DCSC) offers.

The Congress expanded the OIC Program in Section 3462 of the Internal Revenue Service Restructuring and Reform Act of 1998 (RRA 98). This section provides for compromise when collection of the tax would create an economic hardship or such an inequity as to be detrimental to voluntary compliance. This type of offer is called an effective tax administration (ETA) offer.

The factors to be considered for ETA offers are basically the same as those for DCSC offers. The main difference between the two is whether the taxpayer’s net equity in assets plus the value of the future ability to pay is greater (ETAs) or less than the taxpayer’s liability (DCSCs).

The RRA 98 also required the IRS to establish procedures for an independent administrative review of any rejection of a proposed offer in compromise and allowed a taxpayer to appeal any rejection of an offer.

Results

The IRS took many actions to implement the expanded OIC Program required by the RRA 98. It issued temporary Treasury Regulations on July 21, 1999, providing additional guidance regarding ETA OICs. In addition, it issued many interim procedural memoranda and revised the Internal Revenue Manual (IRM).

The offer specialist training course was revised to include ETA offers and to re-emphasize accepting offers based on special circumstances.

To ensure procedures are consistently applied and to identify trends so that additional policies and procedures could be developed and refined, the IRS initiated a 100 percent review of all special circumstance offers. In addition, the IRS initiated a separate review of a sample of offers as part of the Collection Quality Measurement System (CQMS). The IRS also established procedures for an independent administrative review of proposed rejected offers to ensure that the rejection was proper and that any special circumstances were considered.

However, special circumstance factors are not always being identified by offer specialists. This is due in part to the subjectivity of the factors involved in each offer.

In addition, the IRS’ procedure of permitting a taxpayer to withdraw his/her offer, rather than having the IRS reject it after the investigation determines more can be collected than was offered, may violate the Congress’ intent for an independent review. Further, not all offers with special circumstances are properly accounted for on the IRS’ management information system (MIS). Finally, while the IRS set up review procedures to ensure consistency, not all special circumstance offers were being reviewed, and the results of the quality reviews could be better communicated to the field.

The Internal Revenue Service Provided the Necessary Training on the Changes to the Offer in Compromise Program

The IRS revised its offer specialist training course to increase the emphasis on, and to help ensure consistency in, the application of special circumstance criteria. The material covered the various standards and factors to be considered as special circumstances and discussed examples of each.

The RRA 98 was passed in July 1998 and was effective for offers submitted after that time. The IRS prepared and, in July 1999, issued the temporary Treasury Regulations. In October 1999, taxpayers could start filing ETA offers.

Each office sent two employees to three train-the-trainer sessions that were held between August 1999 and February 2000. These employees were then responsible for providing training to the offer specialists in their respective offices. The revised training class for offer specialists was finalized and first offered in February 2000. Our review determined that all offices provided the revised training and that training was provided to the majority of the offer specialists in the three offices we visited.

Special Circumstance Criteria Were Not Always Considered and Consistently Applied to Offer in Compromise Cases

There are numerous situations in which an offer can be accepted with special circumstances, such as advanced age or serious illness of the taxpayer. The facts and circumstances of each case will vary and must be considered in their totality. However, our review determined that the special circumstance criteria were not always considered and consistently applied to OIC cases, as required by IRS procedures.

While training adequately covered special circumstance criteria, the subjectiveness of the area makes it difficult to apply the criteria consistently. Also, management attitudes towards accepting special circumstance offers varied among the three offices we visited. In addition, some offices have expanded the definition of special circumstances.

As a result, the use of these provisions varies significantly depending upon where the taxpayer lives. For example, the number of special circumstance offers worked in Fiscal Year (FY) 2000 ranged from a low of 10 in 1 office (which represented .55 percent of the total offers worked in that office) to a high of 253 in another office (which represented 6.67 percent of the total offers worked in that office). The national average was 105, or 2.17 percent of the total offers worked. Appendix VI contains the number of offers and the percentage of special circumstance offers by office. However, as discussed later in the report, these numbers may not be completely accurate, due to the inaccuracy of the IRS’ management information system.

The National Taxpayer Advocate’s FY 2000 Annual Report to Congress (issued in December 2000) outlining the 20 most serious problems encountered by taxpayers also raised this issue of not always considering special circumstances. The report cited in part, "The Offer in Compromise Program does not assist taxpayers that are suffering from severe or unusual financial hardships." The report went on to say:

IRS procedures require that, prior to considering special circumstances, the normal offer investigation must be concluded. Only after the IRS determines that the offer cannot be accepted based on doubt as to collectibility (i.e., the taxpayer’s net equity in assets plus future ability to pay is less than the liability) will special circumstances be considered.

We reviewed 114 doubt as to collectibility offers that were rejected by the IRS or withdrawn by the taxpayers from May 1 through July 31, 2000, in the 3 offices in our review to determine if offer specialists considered whether the taxpayers qualified for special circumstances. Special circumstances were present in 11 of the offers reviewed, and they could have been accepted under the special circumstance provisions. Appendix V contains two hypothetical examples showing how special circumstances can be present but not considered by the offer specialist.

While training and the temporary regulations covered the factors that need to be considered and provided examples of cases that can be compromised under special circumstance criteria, the subjectiveness of the area makes it difficult to apply the criteria consistently.

The subjectiveness of the area is demonstrated, in part, by the IRS’ responses to the 11 cases we identified. We asked managers in the offices visited and the national coordinator in charge of the 100 percent review program to review these cases. The IRS managers agreed with our conclusions in only 2 of the 11 cases, while the national coordinator agreed with us in 8 of the 11 cases.

Managers in the three offices visited had different attitudes about circumstance offers. Managers in one office were very aggressive in implementing the program. They stated they have emphasized to the offer specialists the need to consider special circumstances in every case. It is their policy to advise taxpayers they may qualify for special circumstance consideration, even if the taxpayers do not raise the issue.

Managers in another office did not appear to be strong proponents of the use of special circumstances. Their position was that the offer specialists should not be advocates for the taxpayer; it was not their responsibility to assist the taxpayer in obtaining an acceptable offer; and it was not their responsibility to advise the taxpayer of special circumstance options.

While not as strong a proponent as the first office, managers in the third office were more accepting of the special circumstance options than those in the second office.

Some offices have expanded the factors that can be considered in determining whether to accept an offer based on special circumstances. The factors originally cited by the IRS that can be considered usually involved, but are not limited to, some type of hardship. These would include such things as advanced age, long term illness, or circumstances in which liquidation of assets would leave the taxpayer unable to meet basic living expenses.

Midway through FY 2000, some offices began accepting special circumstance offers based on the decision that the amount offered was more than they thought the IRS would reasonably collect from the taxpayer by normal collection activities. These decisions could be made based on such things as taxpayers being on installment agreements that would not full pay their liabilities before the statute for payment expired and taxpayers who had filed for bankruptcy but had requested dismissal so the offer could be considered.

The national coordinator for the 100 percent review program included a summary of these cases in the digest of case reviews that are sent to each office. The digest concluded that the acceptance of the offer was appropriate in these situations. The national coordinator advised us that the digests were intended to be used as guidelines for the offices in the direction the IRS wanted to take in accepting or rejecting offers.

However, management in the National Headquarters advised us they never endorsed this expanded definition. They also stated the digests were not intended to be policy and were prepared only to ensure consistency in the use of special circumstances. A manager in one of the three offices we visited was not aware of the expanded criteria and thought it was contrary to the IRM. Another manager in this office believed the digests were not binding guidelines like the IRM and so they must follow the IRM first.

Commenting on the appropriateness of the offer acceptance or rejection in the digests does help ensure consistency. However, it also acts as setting policy or guidance, since the districts are being advised as to the appropriateness of accepting offers under certain circumstances.

The Commissioner, SB/SE Division, should:

1. Reinforce to the field offices the expectation that one of the responsibilities of offer specialists is to advise the taxpayer of the various OIC options, including special circumstance provisions.
2. Clarify the digest process or issue other clarifying instructions so that users understand the current policy on using special circumstance factors.

Management’s Response: SB/SE Division management agreed with the recommendations. They plan on revising the IRM to address the need to discuss with taxpayers potential special circumstance situations early in the OIC investigation. They also have discontinued the use of the 100 percent review digests and will now provide periodic trend analyses of the reviews.

Not All Special Circumstance Offers Are Properly Accounted for on the Management Information System

Special circumstance offers are not always accurately accounted for on the OIC MIS. OICs are tracked and controlled on the Automated Offer in Compromise (AOIC) system. The AOIC system manages offer inventories, prepares the necessary forms and correspondence, and generates reports on offer activity. Complete and accurate information is important for use in management decision-making and for tracking the processing of cases.

Analysis of the AOIC system showed it contained 1,016 special circumstance offers closed during FY 2000. However, we identified another 316 offers closed with special circumstances during FY 2000 that were incorrectly recorded on the AOIC system as doubt as to collectibility offers.

In a June 2000 audit report on the IRS’ implementation of the RRA 98 concerning the OIC Program, the Treasury Inspector General for Tax Administration (TIGTA) reported the IRS did not have an MIS that provided information on offers accepted based on special circumstances. The TIGTA recommended the IRS establish an MIS to gather information to track and monitor, summarize, and report on special circumstance offers on a national level. The IRS agreed with this recommendation and implemented the necessary changes.

Managers in one office we visited advised they were unaware the AOIC system was changed to account for ETA offers. Managers in another office stated they were confused as to how special circumstance offers were to be recorded. Managers in all three offices indicated that some offers were incorrectly recorded due to an oversight.

Without an accurate MIS, the IRS cannot gather information needed to evaluate the implementation of the ETA program or the expanded use of DCSC provisions, specifically in regard to consistency among offices.

Recommendation

The Commissioner, SB/SE Division, should:

3. Issue detailed instructions to the field for how and when ETA and DCSC offers are to be accounted for on the AOIC system.

Management’s Response: SB/SE Division management agreed with the recommendation and plans to revise the IRM to emphasize the instructions that were issued in October 1999.

Permitting Taxpayers to Withdraw Their Offers Instead of Rejecting Them May Be Contrary to Congressional Intent for an Independent Review

The RRA 98 requires the IRS to perform an independent review of any rejection of a proposed OIC and allows a taxpayer to appeal any rejection. One common reason for rejecting an offer is that it does not reflect an amount the IRS has determined can be collected under normal collection activity.

The IRM provides that if the offer cannot be given favorable consideration, the taxpayer should be provided with the opportunity to withdraw the offer. The IRS is required to advise the taxpayer that withdrawing the offer forfeits any appeal rights on that offer.

Our review of 60 withdrawn doubt as to collectibility offers determined that, in 23 cases, the offer specialists concluded that more money could be collected than was offered. Therefore, they could not accept the offer (i.e., it would be rejected). The taxpayers were either told to withdraw their offers or were given the option to withdraw their offers or have them rejected. Even though these offers would have been rejected, allowing, and especially encouraging, the taxpayers to withdraw their offers bypasses the independent administrative review and may be contrary to the Congress’ intent.

This issue was previously reported in the June 2000 TIGTA audit report on the IRS’ implementation of the RRA 98 concerning the OIC Program. The TIGTA recommended the OIC guidelines be changed to discontinue the withdrawal request option. IRS management did not agree with the recommendation and stated, "…allowing the taxpayer to withdraw the offer provides an uncomplicated way to close the offer investigation…."

However, we continue to believe that, in most situations, the taxpayer’s rights would be better served by subjecting the rejection decision to the independent administrative review process and allowing the taxpayer to appeal the proposed rejection.

As previously stated, 11 of the 114 withdrawn or rejected doubt as to collectibility offers we reviewed contained special circumstances, and the offers could have been accepted under those provisions. Nine of the 11 cases were withdrawn offers. If these offers had been subjected to an independent review, the special circumstances may have been detected by the reviewer and the offer correctly accepted.

In addition, the IRS was not always notifying the taxpayers that by withdrawing the offers they forfeited any appeal rights on those offers. In 15 of the 23 cases where the taxpayers withdrew their offers, the taxpayers were not advised their appeal rights were forfeited. Again, permitting the taxpayers to withdraw instead of rejecting the offers appears to be contrary to the Congress’ intent of allowing taxpayers to appeal rejections of their offers.

Managers in the offices visited advised us that the offer specialists know the taxpayers are to be advised of this but may not always document it.

Recommendations

The Commissioner, SB/SE Division, should:

4. Seek clarification from the Congress as to whether permitting taxpayers to withdraw their offers after decisions have been made that the offers cannot be accepted is contrary to the RRA 98 requirement for an independent review of rejected offers. Any additional action will be dependent on the results of the above clarification.
5. Issue instructions reminding offer specialists of the need to advise taxpayers they forfeit their appeal rights if they withdraw their offers.
6. Revise Offer in Compromise (Form 656) and/or its instructions to inform taxpayers that, if they withdraw their offer, they forfeit their appeal rights.

Management’s Response: SB/SE Division management agreed with recommendations 5 and 6. They plan to modify the IRM to emphasize that taxpayers must be advised that any withdrawal will forfeit their appeal rights. In addition, they plan on revising the withdrawal letter to refer to the loss of appeal rights when the offer is withdrawn. They are forwarding the recommendation regarding revising Form 656 to the reengineering team studying the OIC Program for its consideration.

However, SB/SE Division management did not agree with the recommendation to seek clarification from the Congress. In the IRS’ reply to the TIGTA’s prior report, management expressed the opinion, "both the taxpayer and the offer process is [sic] better served by returning rather than rejecting the proposed offer." SB/SE Division management continues to believe that allowing for withdrawals serves the interest of both the government and taxpayer by avoiding unnecessary costs to both parties. Management sees no justification, nor do they believe it is appropriate, to seek clarification from the Congress.

Office of Audit Comment: We continue to believe that some withdrawals are very similar to rejects and that these offers are not subject to an independent review. While we agree that the withdrawal option can be advantageous to both the taxpayer and the IRS, we do not believe that the IRS should tell or otherwise encourage taxpayers to withdraw their offers. This causes the taxpayers to be removed from the independent review process.

The Review Process to Identify Trends or Inconsistencies in the Application of Special Circumstances Can Be Improved

The IRS established review procedures to help ensure consistency in the application of special circumstance provisions. We believe this review process and the communication of the review results to field offices can be improved, which could improve consistency in the use of special circumstances.

To help ensure consistency in the application of special circumstance provisions, the IRS initiated a review of all closed special circumstance offers called the 100 percent review program. The IRS also expanded the CQMS quality review program to include a sample of OIC cases. In addition, the IRS established an independent administrative review of rejected offers to ensure that taxpayers’ rights were protected and that rejection of the offer was the correct decision.

Not all special circumstance offers were being subjected to review

While a 100 percent review program was initiated, we found that only 52 percent of closed special circumstance offers were being subjected to the review process. The OIC MIS shows there were 839 special circumstance offers closed between October 1, 1999, and August 31, 2000. Comparison of these cases to the cases received for review showed that 404 (48 percent) were not received by the review team.

Managers in two of the offices we visited advised they were aware of the procedures for sending offers for review and it was an oversight that some were not sent. Management in the third office stated they were not aware of the proper procedures for which cases to send.

Quality review programs may not be applying the same standards

The two quality review programs - the 100 percent review and the CQMS review - may not be applying the same standards. As previously stated, the subjectivity of the factors involved in each offer makes it difficult to ensure consistency in the application of special circumstance offers. This subjectivity also makes it difficult to have a consistent quality review process.

Our review of 68 rejected or withdrawn doubt as to collectibility offers that were reviewed by the CQMS quality review team identified 6 offers where special circumstances were present, but only 1 was questioned by the reviewers. The national coordinator of the 100 percent review program reviewed these 6 cases and agreed that all 6 should have been considered for acceptance based on special circumstances.

The results of the quality reviews could be better communicated to the field offices

Digests were prepared for each of the special circumstance cases reviewed in the 100 percent review program and were intermittently distributed around the country from December 1999 to June 2000. The review coordinator also periodically prepared a report showing summary review statistics. The CQMS review team posted statistical data from their reviews on their web site.

While the digests of the 100 percent review were sent to each field office, they were not routinely forwarded to the independent administrative reviewers. Since the reviewers see only rejected offers, the digests would give them a better perspective of what is being accepted and would provide a better basis for making their reviews of rejected offers.

Managers in the three offices visited stated they have never seen any statistical analysis conducted by the 100 percent review team or by the CQMS review team. The coordinator for the 100 percent review process advised us that she sent the statistical analysis to the old Regional offices and did not know what they did with it.

While the CQMS quality review results are posted on their web site, none of the offices we visited were aware the results were available there. The National Headquarters had issued a memorandum to all former District Directors on April 21, 2000, advising them that paper copies of the CQMS reports will no longer be distributed and how and where to access electronic versions of the reports on their web site.

Neither quality review function provided direct feedback on specific cases to the offices that worked the offers when the review disagreed with the conclusion reached. Direct feedback would surface differing interpretations of guidelines and help promote consistency in the application of the offer provisions.

Recommendations

The Commissioner, SB/SE Division, should:

7. Better communicate the quality review results to field offices to help ensure consistency in the application of special circumstance provisions by:

2. Ensuring the 100 percent review digest summaries are distributed to all relevant individuals, including the independent administrative reviewers.
3. Re-issuing instructions to the field offices regarding where and how to access the CQMS review results.

1. Re-emphasize to the field offices the procedures for submitting special circumstance offers for the 100 percent review program. The Director should also implement controls to ensure all closed special circumstance offers are submitted for the 100 percent review program. This could include periodically generating a list of closed special circumstance offers from the AOIC system to compare to the database of cases reviewed in the 100 percent review program.
2. Review the standards being used by the 100 percent review team and the CQMS review team to ensure consistency in reviews.

Management’s Response: SB/SE Division management agreed with the recommendations. They plan to explore a process to provide direct feedback to field management on specific cases where quality review disagrees with the conclusion reached in the offer investigation. They have discontinued the issuance of 100 percent review digest summaries and will provide the field periodic trend analyses of reviews. In addition, they will issue a memorandum to the field regarding where and how to access the CQMS review results.

They will issue a memorandum to the field   re-emphasizing the procedures for submitting special circumstance offers for the required review. In addition, they will explore the use of a process that would periodically generate a list of closed special circumstance offers from the AOIC system and match them against the CQMS database.

SB/SE Division management has disbanded the 100 percent review team. Both the 100 percent review and the CQMS review are now done by one site. The CQMS OIC standards were approved and disseminated to the field and CQMS reviewers to ensure consistency in the review process.

Conclusion

The use of special circumstances in OICs varies significantly depending on which specialist works the case and where the taxpayer lives. This is due, in part, to the subjectivity of the factors involved in each case and the differing philosophies of local management towards the OIC Program.

The IRS’ policy of permitting taxpayers to withdraw their offers instead of rejecting the offers appears to be contrary to the Congress’ intent of an independent administrative review of all rejected offers. In addition, when taxpayers are permitted to withdraw their offers, they are not always advised that they forfeit their appeal rights for those offers.

Detailed Objective, Scope, and Methodology

Our overall objective was to determine if procedures for accepting offers in compromise based on special circumstances were being consistently, uniformly, and appropriately applied. We:

1. Determined the adequacy of the training provided regarding effective tax administration (ETA) and doubt as to collectibility with special circumstances (DCSC) offers.

1. Reviewed the material presented in the train-the-trainer orientation sessions on ETA and DCSC offers.
2. Attended and evaluated a training class provided to offer in compromise specialists on the new ETA offer procedures and the re-emphasis provided to DCSC offers.
3. Determined if all offices provided the revised training and if the training was given to all 126 applicable employees (including independent administrative reviewers) in the 3 field offices in our review.

1. Determined the adequacy of the Internal Revenue Service’s (IRS) review of offers to ensure consistency and evaluated the actions taken on these reviews.

1. Evaluated the procedures established for the independent administrative review of rejected offers, the 100 percent national review of special circumstance offers, and the Collection Quality Measurement System (CQMS) offer in compromise review process as they relate to ensuring consistency in applying special circumstance procedures.
2. Determined if the above reviews identified any national trends and determined what actions, if any, were taken on these trends.
3. Analyzed the database of the 100 percent national review and the CQMS for offers to identify any trends and determined if those trends had been identified by operations.
4. During visits to the three field offices, met with the administrative reviewer and reviewed any applicable documentation on the results of the administrative review of rejected offers.
5. Reviewed a random sample of 20 of the first 75 ETA offers that were reviewed from November 1999 to May 2000 as part of the 100 percent national review to evaluate the adequacy of the review.
6. Reviewed 28 of the 32 rejected and 40 of the 41 withdrawn offers that had been reviewed by CQMS for the 3 offices in our review between March 27, 2000 (the start of the CQMS review program), and July 7, 2000 (when we made our selection). The 5 offers not reviewed were unavailable.
7. Compared the 839 offers closed as special circumstances on the Automated Offer in Compromise (AOIC) system between October 1, 1999, and August 31, 2000, to the 617 offers received by the 100 percent review team during Fiscal Year (FY) 2000 to determine if all special circumstance offers were subjected to the review program. (The AOIC contained 84,004 OICs closed during FY 2000, of which 1,016 were special circumstance offers. We limited our analysis for this test to those 839 special circumstance offers closed earlier than September 1, 2000, to allow time for the offer to be sent to and received by the 100 percent review team by September 30, 2000.)

1. Determined if offer specialists consider economic hardship or public policy factors when working doubt as to collectibility offers

1. Reviewed a random sample of 54 rejected and 60 withdrawn doubt as to collectibility offers for the 3 selected field offices and determined if the taxpayers appeared to have qualified for a special circumstance offer and if the case file was documented to show the offer specialist considered special circumstances. The sample was drawn from 105 rejected and 350 withdrawn doubt as to collectibility offers received by the IRS later than September 30, 1999, and closed from May 1, 2000, through July 31, 2000.
2. For all 114 offers identified in III.A above where the taxpayer appears to have qualified for a special circumstance offer, but the case file was not documented to show the offer specialist considered it, determined the results of the post reviews of the offer.
3. Analyzed FY 2000 statistics regarding the number of offers worked versus the number of special circumstance offers worked and determined any variance in the statistics by office.
4. Compared the 617 special circumstance offers received by the 100 percent review program during FY 2000 to the AOIC system and determined if they were properly recorded on the AOIC system.

Major Contributors to This Report

Gordon C. Milbourn III, Associate Inspector General for Audit (Small Business and Corporate Programs)

Parker F. Pearson, Director

Amy L. Coleman, Audit Manager

James D. Dorrell, Senior Auditor

Jeff K. Jones, Senior Auditor

Dale E. Schulz, Senior Auditor

Report Distribution List

Commissioner N:C

Deputy Commissioner N:DC

Deputy Commissioner, Small Business/Self-Employed Division S

Director, Compliance S:C

Program Manager, Filing and Payment Compliance S:C

Director, Legislative Affairs CL:LA

Director, Office of Program Evaluation and Risk Analysis M:OP

Office of Management Controls M:CFO:A:M

Chief Counsel CC

National Taxpayer Advocate TA

Audit Liaison:

Commissioner, Small Business/Self-Employed Division S:C:CP:I

Outcome Measures

This appendix presents detailed information on the impact that our recommended corrective actions will have on tax administration. These benefits will be incorporated into our Semiannual Report to the Congress.

• Taxpayer Rights and Entitlements – Actual; 11 taxpayers affected (see page 6).

We selected a random sample of 114 rejected or withdrawn doubt as to collectibility offers out of the 455 that were received by the Internal Revenue Service (IRS) after September 30, 1999, and closed after April 30, 2000, for the 3 offices we visited.

• Reliability of Information – Actual; 316 closed offers affected (see page 9).

We compared the 617 special circumstance offers received by the 100 percent review program during Fiscal Year 2000 to the Automated Offer in Compromise (AOIC) system to determine if they were properly recorded on the AOIC system.

• Taxpayer Rights and Entitlements – Potential; 23 taxpayers affected (see page 11).

We selected a random sample of 60 withdrawn doubt as to collectibility offers out of the 350 that were received by the IRS after September 30, 1999, and closed after April 30, 2000, for the 3 offices we visited.

• Taxpayer Rights and Entitlements – Actual; 15 taxpayers affected (see page 12).

Methodology Used to Measure the Reported Benefit:
We selected a random sample of 60 withdrawn doubt as to collectibility offers out of the 350 that were received by the IRS after September 30, 1999, and closed after April 30, 2000, for the 3 offices visited.

Hypothetical Examples of Scenarios Where There Is Potential for Special Circumstances

This appendix presents hypothetical examples of scenarios that would result in potential acceptance of an offer in compromise based on special circumstances.

Assume that Mr. and Mrs. Taxpayer A owe approximately $13,000 for individual income tax for 2 years. The taxpayers showed up at a Problem Solving Day and the employee assisting them indicated they may qualify for a hardship offer and helped them prepare an Offer in Compromise (Form 656). They submitted a doubt as to collectibility offer for $800.

Also, assume that Mr. Taxpayer A is 51 years old and Mrs. Taxpayer A is 41. Mr. Taxpayer A is partially paralyzed due to a stroke and has other serious ailments. Mrs. Taxpayer A is in good health. Mr. Taxpayer A does not work, while Mrs. Taxpayer A is self-employed. She makes an average of $1,600 a month. Since Mr. Taxpayer A suffered a stroke, Mrs. Taxpayer A has used all her income to provide necessary living expenses instead of making estimated tax payments. The taxpayers had filed for bankruptcy prior to filing an offer and were discharged from all debts except taxes.

The Internal Revenue Service would have conducted an offer investigation. Assume that it revealed the taxpayers have monthly expenses totalling about $1,700, which exceeds income by $100. The taxpayers’ assets consisted of $500 in cash and 2 cars valued at $500 and $4,700, for a total net worth of $5,700. The offer specialist would have advised the taxpayer that the offer of $800 was too low and needed to be increased to $5,700. The taxpayers may have responded they could increase the offer to $1,800, but the offer specialist would still have stated that was too low and would have recommended rejecting or withdrawing the offer and reporting the accounts as currently not collectible.

This case qualifies for special circumstances. Based on the fact that the taxpayers’ monthly expenses exceed income and what little income they have is used for the husband’s medical expenses, the taxpayers appear to qualify for economic hardship. Since the taxpayers’ net equity is less than the liability owed, the offer would qualify for doubt as to collectibility with special circumstances.

Assume Mr. and Mrs. Taxpayer B owe approximately $700 for 1 tax year and that they submitted a doubt as to collectibility offer for $100. The taxpayers also claimed special circumstances, stating they are not in good health and have limited income that does not meet basic needs.

Also, assume that Mr. and Mrs. Taxpayer B are 64 and 60 years old, respectively. Neither taxpayer works and their sole source of income is social security and disability. Their monthly expenses exceed monthly income and therefore there is no future income value. At the time the offer was filed, the taxpayers’ financial statement showed assets of a car with $3,000 equity, a trailer home worth $13,000, and one-fourth ownership in some rental property.

By the time the offer was investigated, the taxpayers had sold their trailer home and used the proceeds for basic living expenses and to move to another town closer to their daughter. The offer specialist would not have investigated the taxpayers’ part ownership of rental property, which they claim is worthless. Therefore, the combined net worth appears to be $3,000 (value of car).

Assume that the offer specialist made one contact with the taxpayer and concluded that in view of the taxpayers’ limited income, this situation called for the liability to be placed in currently not collectible status and not an offer in compromise. The taxpayers’ accounts would have already been placed in currently not collectible status prior to their filing the offer, due to the tolerance condition. The specialist would have advised the taxpayers to withdraw their offer, and they would have.

This case qualifies for special circumstance consideration. The taxpayers are unemployed and living on social security and disability, with monthly expenses exceeding monthly income. The offer specialist concluded the account could not be collected and should be reported as currently not collectible. Since the taxpayers’ net equity is greater than the liability, the offer would qualify as an effective tax administration offer.

Percent of Processable Offers with Special Circumstances by Office

Management’s Response to the Draft Report

The response was removed due to its size. To see the complete response, please go to the Adobe PDF version of the report on the TIGTA Public Web Page.