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					1/21/11 SYO Draft-in-Progress. Do not cite, quote, or circulate. Copyright Shu-Yi Oei.


    MODELLING THE FORGIVENESS OF TAX DEBTS: TOWARDS EFFECTIVE REFORM
              OF TAX LAW‟S OFFER IN COMPROMISE PROCEDURE.

                                            Shu-Yi Oei*

                                             ABSTRACT

         The Offer-in-Compromise (“OIC”) procedure is a procedure by which the United States
Internal Revenue Service deals with taxpayers who are experiencing difficulties in paying their
tax debts. This paper examines the OIC procedure with an eye towards two tasks: First, it
analyzes the procedure as a launching pad to thinking about broader issues of whether, how, and
to what extent a taxing authority should forgive tax debts. Second, it proposes a framework for
evaluating the likely effectiveness of any proposed reforms of the procedure. This paper presents
five arguments that the OIC procedure needs to be a strong and viable one. These arguments are
rooted in practicality, justice-based, rehabilitative, socio-economic, and jurisprudential
considerations. Unfortunately, an analysis of its recent history shows that the procedure is, in fact,
structured in a way that tends to undermine its effectiveness. The power to implement and
effectuate the procedure is dispersed among four players with divergent interests: (1) Congress;
(2) the IRS; (3) the taxpayer; and (4) financial backers of the taxpayer. Each of these players has
conflicting and contradictory interests in how the forgiveness of tax debtors in general, and the
OIC procedure in particular, should operate. And, over time, the actions and decisions of each of
these players lead to conflicting and counterproductive behaviors and responses by other players,
such that overall programmatic effectiveness is undermined. This paper argues that given this
dynamic between stakeholders, reforms that minimize or eliminate such downward-spiraling
interactions of divergent interests should be adopted. On the other hand, reforms that provoke or
encourage such interactions should be dismissed. This paper gives examples of each type of
reform.




*
  Associate Professor, Tulane Law School. [I am grateful to several people for their suggestions
and assistance with this paper so far. Most notably, to Professors Jancy Hoeffel and Amy Stein
for their suggestions on earlier drafts and to my research assistants Max Camp, David Gershel,
Morgan Levy, Jason Reichlyn, Jennifer Rigterink, Rachel Simes, Nathaniel Strand, Roger
Yamada, and Matthew Woodard for their impressive work on various aspects of this project. I am
sure I will need to thank many other people before this work-in-progress turns final.]

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                                          I.   INTRODUCTION

        What should happen when a taxpayer can‟t pay her taxes? Should that person, who may

be experiencing great financial hardship or may be facing exceptional personal circumstances,

always be compelled to pay the full amount of her tax liability to the taxing authority, no matter

what the consequences? And, what measures can or should the taxing authority take against a

taxpayer when she cannot pay? Under what circumstances should tax debts be forgiven, in

furtherance of greater societal and revenue goals? The answers to these and other questions are of

vital importance in analyzing the law of tax collections. With a few notable exceptions,1 however,

such collections issues tend to be regarded in the scholarship as an afterthought, secondary in

importance to high-profile “substantive” issues such as tax base, tax rates, tax expenditures, and

even tax penalties. These issues therefore tend to be under-studied and under-analyzed. Yet,

collections issues are actually of great policy importance. No less than questions of “substantive”

tax policy, the ways in which taxes assessed and owed are actually collected “on the ground”

implicate critical tax policy concerns, including the traditional concerns of efficiency, equity,

administrability, and distributive justice.

        In this paper, I analyze one of the elements of the IRS‟s collections toolkit – the IRS‟s

Offer in Compromise (“OIC”) procedure – and propose an analytical framework through which

the procedure should be understood and ultimately reformed. Briefly, the OIC procedure is a

procedure by which the IRS may forgive a portion of the debts of certain taxpayers who are

experiencing difficulty in paying the full amount of the taxes they owe the government. Such

taxpayers may make an offer to the IRS to settle their tax liabilities by paying only a portion of

the total taxes due. As further described below, the taxpayer must meet certain requirements and


1
  See, e.g., Steve R. Johnson, An IRS Duty of Consistency: The Failure of Common Law Making
and a Proposed Legislative Solution, 77 TENN. L. REV. 563 (2010); Bryan T. Camp, The Failure
of Adversarial Process in the Administrative State, 84 IND. L.J. 57 (2009); Danshera Cords,
Administrative Law and Judicial Review of Tax Collection Decisions, 52 ST. LOUIS U. L.J. 429
(2008).

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conditions in order to have her offer accepted, and the IRS may or may not accept the offer. Thus,

the OIC procedure is an important way in which the tax system copes with the problem of the

taxpayer who can‟t pay. Yet, there is very little academic literature on the subject.2

        My study of the OIC procedure has both programmatic and philosophical goals – in other

words, I examine the procedure both in the interests of program-specific reform, but also as a

gateway to considering broader philosophical issues of when, why and to what extent a tax

liability should be forgiven by the sovereign tax collector. I argue in this paper that because there

are important practical, fairness-based, rehabilitative, socio-economic and jurisprudential

arguments in favor of having a systemic “escape valve” for tax debt forgiveness, the OIC

program needs to be a robust one. Yet, an analysis of its recent history shows that the OIC

program is, in fact, of questionable effectiveness. Such questionable effectiveness is built into the

system because the OIC program is fundamentally structured in a way that tend to undermine its

effectiveness. The power to implement the OIC program and to impact its effectiveness is

dispersed among four stakeholders with divergent interests: (1) Congress; (2) the IRS; (3) the

taxpayer; and (4) those who support the taxpayer financially. Each of these players has

conflicting and contradictory interests in how the forgiveness of tax debtors in general, and the

OIC program in particular, should operate. And, the actions and decisions of each of the players

has feedback effects on the behavior of other players, such that overall programmatic

effectiveness is consistently weakened. In sum, dispersion of power, divergence of interests, and

behavioral feedback effects work together to ensure that over time, the program perpetually self-

corrects towards a weak or ineffective equilibrium. Yet, many proposals to reform the procedure

are formulated without regard to this dynamic. Given these stakeholder dynamics, reforms that


2
  The procedure has been studied and written about by practitioners, the Taxpayer Advocate, the
Government Accountability Office, and the Treasury Inspector General for Tax Administration.
However, there is very little academic scholarship dealing with the procedure. A notable
exception is a 1994 law review article on the question of whether a compromise of tax liabilities
is taxable income. Richard C.E. Beck, Is the Compromise of a Tax Liability Itself Taxable? A
Problem of Circularity in the Logic of Taxation, 14 VA. TAX REV. 153 (1994).

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will provoke or enhance these dynamics should be disregarded. On the other hand, reforms that

minimize the effects of power dispersal, interest divergence, and feedback effects should be

adopted.

        In Part II, I begin by describing the OIC procedure as it currently exists “on book.” In

Part III, I make the case that the OIC program should be a strong and viable one. I argue that a

robustly constituted tax debt forgiveness program (1) comports with the realities of debt

forgiveness in contemporary commerce, (2) reflects a rich conception of distributive justice that

looks beyond the tax return, (3) can serve the purpose of rehabilitating a tax debtor and

reintegrating her into a place of individual financial stability, (4) serves the interests of broader

social and economic stabilization in society, and (5) provides an important element of “flex” in

the tax system that puts tax in great jurisprudential conformity with other bodies of law. In Part

IV, I show that, unfortunately, the OIC program “in action” has had questionable effectiveness

and describe the problems with the program and how several aspects of the program have been

criticized by different quarters. In order to present a historically grounded understanding of such

criticism, I first trace significant events in the evolution of the OIC program since 1986, and then

summarize the criticisms that have been levied. I present, in Part V, a public choice-inspired

analysis of the OIC program‟s weakness, showing that one overarching reason that the OIC

program has suffered doubtful effectiveness is because power to effectuate the program has been

dispersed between four different stakeholders whose interests and goals do not align. And, the

intentions and actions of each of these players in response to the actions and intentions of other

players create feedback effects that can quickly offset any gains in program effectiveness that

may have occurred. Finally, in Part VI, I argue that to counteract the problematic dynamics

described above, the OIC procedure must be reformed with its inherent structural features in

mind. This can happen either (1) by centralizing power among fewer stakeholders or (2) by

adopting proposals that eliminate (or at least minimize) the downward-spiraling interactions that

occur among stakeholders with divergent interests, or both. Of the two strategies, the second is

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more promising, simply because it is difficult to change the realities underlying the IRS-taxpayer,

creditor-debtor, power dynamic and other relationships between stakeholders. Thus, proposed

reforms that facilitate the latter strategy should be adopted. I suggest two substantive proposals

that will eliminate such harmful interactions: (1) consideration of offer proposals by an

independent tribunal; and (2) rethinking the non-refundability of user fees and pre-payments. On

the other hand, one other reform that has been suggested by a commentator – more effective

follow up collection tactics with respect to rejected OICs – is likely to lead to unproductive and

dissonant interactions between divergent interests, and should not be implemented.

         The offer in compromise procedure is just one discrete element of the collections toolkit,

but the implications of my analysis are broad. A unique feature of the OIC program is its

orientation towards forgiveness of a tax liability that the tax system has already previously

decided is owed.3 Thinking analytically about whether and how to run such a program opens a

window into broader philosophical and logistical issues and tensions, such as whether it is

possible for a taxing authority to act as an altruistic creditor toward tax debtors, the extent to

which we need flexibility in our system of tax law, and the role of forgiveness in the tax system.

                  II.    THE OFFER IN COMPROMISE PROCEDURE “ON BOOK”

        The offer in compromise procedure is a method by which a taxpayer may settle unpaid

tax debts for an amount less than the full sum of taxes (and interest and penalties) owed. Offers in

compromise are not to be confused with installment agreements, under which a taxpayer who

cannot immediately pay her taxes in full generally agrees to pay the IRS in installments over

time.4 The ability of the IRS to enter into offers in compromise is authorized by statute in I.R.C. §




3
  Note that partial payment installment agreements also allow less than full payment of a tax debt.
See I.R.C. § 6159(a), (d) (authoring the IRS to enter into partial payment installment agreement
with a taxpayer).
4
  I.R.C. § 6159. However, as noted at note 2, under a partial pay installment agreement, the
taxpayer will not necessarily have to pay the full amount of the liability. IRM 5.14.2.1.

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7122.5 That statute provides that the IRS may compromise a civil or criminal tax case prior to the

case being referred to the Department of Justice for prosecution or defense.6

        The ability to compromise a tax liability is not necessarily a windfall without

consequence for the taxpayer. In exchange for settling the tax debt for less than full payment, the

taxpayer will be subject to certain requirements, conditions, and consequences, including a

requirement that she remain compliant with the tax laws (by filing the required tax returns) for the

next five years.7 The statute of limitations on collection is also suspended while the offer is being

considered (and for the duration of appeals of rejected offers).8 The Service may also credit

overpayments of tax made by the taxpayer against the liability that is the subject of the offer to

compromise and may offset such overpayments against the amount sought to be compromised.9

On the other hand, the IRS is prohibited from making any levy on property with respect to the

unpaid tax while the offer is pending, as well as for the thirty days following rejection of the offer

and during the period when an appeal is pending.10 All in all, an OIC is an attractive option

because, if successful, it lets the taxpayer settle a tax debt for less than the full amount owed.

        The current IRS Internal Revenue Manual sets forth four key policy objectives of the OIC

procedure:

                “Effect collection of what can reasonably be collected at the earliest

                possible time and at the least cost to the government.

                Achieve a resolution that is in the best interests of both the individual

                taxpayer and the government.




5
   I.R.C. § 7122.
6
   I.R.C. § 7122(a). After the case has been referred to the Department of Justice, the power to
compromise a tax liability lies with the Attorney General. Id.
7
  MICHAEL I. SALTZMAN, IRS PRACTICE AND PROCEDURE, at ¶ 15.07[8] [hereinafter SALTZMAN,
IRS PRACTICE AND PROCEDURE].
8
  I.R.C. § 6331(k)(3).
9
  Treas. Reg. § 301.7122-1(g)(5).
10
    I.R.C. § 6331(k)(1).

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                Provide the taxpayer a fresh start toward future voluntary compliance with

                all filing and payment requirements.

                Secure collection of revenue that may not be collected through any other

                means.”11

However, the Manual does not specify the order in which these four objectives are given priority

or weight in terms of the program‟s design and execution. This has the potential to create

problems in execution, especially since the goals can sometimes be in conflict.

        There are three permissible grounds for compromise: (1) doubts as to liability; (2) doubts

as to collectability; and (3) the promotion of effective tax administration.12

a. Doubt as to Liability

        Doubt as to liability offers arise where there is a “genuine dispute” about the amount of

tax liability.13 However, “[d]oubt as to liability does not exist where the liability has been

established by a final court order or judgment concerning” the liability. 14 Offers based on doubts

as to liability usually arise where taxpayers are using the procedure to contest an assessed tax

liability that has not been petitioned to the tax court within the applicable time period.15 In order

for such an OIC to be successful, the taxpayer must show that “there would be a hardship if the

disputed tax had to be paid and a refund suit filed.”16

b. Doubt as to Collectability

        Doubt as to collectability exists “where the taxpayer‟s assets and income are less than the

full amount of the liability.”17 Thus, OICs based on doubt as to collectability will require that the


11
   I.R.M. 5.8.1.1.4 (Sept. 23, 2008).
12
   Treas. Reg. § 301.7122-1(b).
13
   Treas. Reg. § 301.7122-1(b)(1).
14
   Treas. Reg. § 301.7122-1(b)(1).
15
    STEVEN R. MATHER & PAUL H. WEISMAN, FEDERAL TAX COLLECTION PROCEDURE –
DEFENSIVE MEASURES, BNA TAX MANAGEMENT PORTFOLIO 638-3d at A-43 [hereinafter
MATHER & WEISMAN, TAX COLLECTION: DEFENSIVE MEASURES]; SALTZMAN, IRS PRACTICE &
PROCEDURE, at ¶ 15.07[1][b][i]. The petition filing period is 90 days.
16
   SALTZMAN, IRS PRACTICE & PROCEDURE, at ¶ 15.07[1][b][i].
17
   Treas. Reg. § 301.7122-1(b)(2).

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Service determine the taxpayer‟s ability to pay the tax liability.18 Treasury Regulations provide

that, in determining ability to pay, taxpayers will be allowed to retain sufficient funds to pay basic

living expenses, and that although the individual facts and circumstances will be taken into

account, guidelines on national and local living standards must be considered.19

        Whether an OIC based on doubts as to collectability will be accepted depends on whether

the offer reflects the “reasonable collection potential” (“RCP”), defined in the Internal Revenue

Manual as “the amount that can be collected from all available means, including administrative

and judicial collection remedies.”20 The RCP calculation will generally take into account (1) the

amount collectible from the taxpayer‟s “net realizable equity” in her assets, (2) taxpayer‟s

expected future income (after taking into account necessary living expenses), (3) amounts

collectible from third parties, and (4) taxpayer income or assets that are available to taxpayer but

beyond the reach of the IRS (such as property held abroad).21 “Net realizable equity” in assets is

defined as the “quick sale value” of the assets minus amounts owed to lien holders with priority

over the federal tax lien.22 In sum, in determining whether an offer based on doubt as to

collectability is acceptable, the IRS essentially has to perform a financial analysis of the

taxpayer‟s assets, expenses, and liabilities.

        An OIC based on doubts as to collectability will generally not be accepted where the

taxpayer is capable of paying the tax in full as a lump sum, or where the tax is payable under an

installment agreement.23 In such situations, the offer will be denied unless “special

circumstances” exist to justify consideration of a lesser amount.24


18
   Treas. Reg. § 301.7122-1(c)(2).
19
   Treas. Reg. § 301.7122-1(c)(2).
20
   IRM 5.8.4.3 (June 1, 2010).
21
    IRM 5.8.4.3.1 (June 1, 2010); see also SALTZMAN, IRS PRACTICE AND PROCEDURE, at
¶15.07[6][a].
22
   IRM 5.5.5.4.1 (September 23, 2008). “Quick sale value” is generally the estimated price of an
asset where financial pressures cause the asset‟s owner to sell it within 90 days; “quick sale
value” is normally 80% of fair market value. Id.
23
   IRM 5.8.4.3 (June 1, 2010).
24
   Id.

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c. Effective Tax Administration

         As a result of changes to the statute brought about by the IRS Restructuring and Reform

Act of 1998, there is now a third ground for compromising a tax liability – the promotion of

“effective tax administration” (“ETA”).25 Under the regulations, an offer based on ETA grounds

may be entered into where “although collection in full could be achieved, collection of the full

liability would cause the taxpayer economic hardship.”26 In the absence of economic hardship, the

IRS may nonetheless compromise a tax liability on ETA grounds “where compelling public

policy or equity considerations identified by the taxpayer provide a sufficient basis” for

compromise.27 Regardless of whether the ETA offer is based on hardship, public policy, or

equity, offers based on ETA grounds will only be considered where the taxpayer does not qualify

for compromise under the two traditional bases – doubts as to liability, and doubts as to

collectability.28

                                            *****

         A taxpayer making an offer must submit such offer on IRS Form 656. 29 The submission

must include detailed information about the taxpayer‟s tax liabilities, grounds for the compromise

request, the proposed compromise amount, and the payment terms.30 The taxpayer must also

include the required financial statement that provides the requisite information about her




25
   Treas. Reg. § 301.7122-1(b)(3). The Committee Report for that legislation indicated that OICs
should be expanded beyond the two traditional bases. See Conf. Rep. to Pub. L. No. 105-206
(July 22, 1998) (available on RIA Checkpoint) (“the conferees expect that the present regulations
will be expanded so as to permit the IRS, in certain circumstances, to consider additional factors
… in determining whether to compromise … income tax liabilities …. For example, the conferees
anticipate that the IRS will take into account factors such as equity, hardship, and public policy
where a compromise of an individual taxpayer's income tax liability would promote effective tax
administration.”)
26
   Treas. Reg. § 301.7122-1(b)(3).
27
   Treas. Reg. § 301.7122-1(b)(3)(ii).
28
   IRM 5.8.11.1(5).
29
   IRS Form 656 (Offer in Compromise), available at www.irs.gov/pub/irs-pdf/f656.pdf.
30
    SALTZMAN, IRS PRACTICE AND PROCEDURE, at ¶ 15.07[4]; MATHER & WEISMAN, TAX
COLLECTION: DEFENSIVE MEASURES, at A-46.

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finances.31 An offer that is “processable” may be accepted or rejected. With respect to rejected

offers, Treasury Regulations provide that a taxpayer may appeal such rejection to the IRS Office

of Appeals by requesting administrative review “in the manner provided by the Secretary.” 32 An

offer that is not “processable,” such as one that the IRS cannot evaluate due to insufficient

information, or that is submitted solely to delay the collection of tax will be “returned.”33 On the

other hand, where OIC documents are returned to the taxpayer because the offer was

nonprocessable, for example, where the taxpayer failed to submit required information, or

because the offer is determined to have been submitted solely for purposes of delay, such return

of the offer will not be considered a “rejection” and hence the taxpayer will not be entitled to an

appeal.34 Thus, an actual determination on the merits is required in order to give rise to appeal

rights.

                    III.   JUSTIFYING THE FORGIVENESS OF (SOME) TAX DEBTS

          Before turning to a discussion of problems with the OIC program and how to reform it,

some consideration must first be given to the question of why an effective procedure for the

compromise of any tax debts is required in the first place. That such a procedure is desirable may

not be immediately clear. In fact, there are a few seemingly obvious arguments against making

efforts to compromise tax debts at all, based on the traditional tax policy notions of efficiency,

equity, and administrability. First, the forgiveness of already-assessed tax liabilities may seem to

violate the demands of horizontal equity, that is, the notion that similarly situated taxpayers

should be taxed similarly. Specifically, it seems inequitable to forgive the tax debts of some

taxpayers while insisting that others pay in full. Second, having a strong OIC program may give

rise to a moral hazard problem and encourage taxpayers to behave badly. That is, the stronger the


31
   See, e.g., IRS Form 433-A (Collection Information Statement for Wage Earners and Self-
Employed Individuals), available at www.irs.gov/pub/irs-pdf/f433a.pdf.
32
   Treas. Reg § 301.7122-1(f)(5)(i). Such appeal must be made within 30 days of receiving the
letter of rejection.
33
   Treas. Reg. §§ 301.7122-1(f)(5)(ii), (g)(4).
34
   Treas. Reg §§ 301.7122-1(f)(5)(ii), (g)(4).

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extant program of debt forgiveness, the more likely it is that a taxpayer will engage in risky

behaviors that leads her to being in the situation of being unable to pay the tax in the first place.

Third, a robust tax forgiveness program may be costly to administer. It seems nonsensical to have

to incur additional costs in order to more aggressively forgive tax debts, because then the entire

enterprise would be, on its face, a drain on the federal fisc.

        Such arguments are not persuasive. The unfairness argument, the moral hazard argument,

and the costliness argument are all specific applications of the three important traditional

demands of tax policy analysis – equity, efficiency (in the sense of behavioral distortions), and

administrability. However, the limitations of such traditional tax policy analysis are well known

in the literature. In a variety of contexts, other scholars have noted the inadequacy of traditional

tax policy rationales in addressing profound problems of fairness and distributive justice.35 Thus,

they should not be regarded in the first instance as analytically unassailable.

        Moreover, the traditional tax policy analytical framework is particularly ill-suited to

dealing with situations involving distressed taxpayers who actually cannot pay.36 These

traditional tax policy rationales have often been applied to theoretical, normative issues such as

“what is the appropriate tax base?” or “is the treatment of a particular tax item satisfactory, or can



35
   See, e.g., Nancy Staudt, The Hidden Costs of the Progressivity Debate, 50 VAND. L. REV. 919
(1997); Michael Livingston, Reinventing Tax Scholarship: Lawyers, Economists, and the Role of
the Legal Academy, 83 CORNELL L. REV. 366 (1998); Anthony C. Infanti, Tax Equity, 55 BUFF.
L. REV. 1191 (2008).
36
   On a side note, such a situation may raise questions about the application of tax policy‟s
“ability to pay” (or “faculty”) concept. Under “ability to pay” principles, taxes should be levied
based on the ability of each person to pay the tax. However, there is more than one way that
“ability to pay” may be understood. See, e.g., LIAM MURPHY & THOMAS NAGEL, THE MYTH OF
OWNERSHIP (Oxford 2002), at 20-28 [hereinafter MURPHY & NAGEL, MYTH OF OWNERSHIP]. On
the one hand, if a taxpayer really cannot pay, one conclusion might be that the underlying system
of tax liability determination has violated “ability to pay” in the sense of having overestimated
actual ability to pay. See Sagit Leviner, From Deontology to Practical Application: The Vision of
a Good Society and Taxation, 26 VA. TAX REV. 405, 427-28 (2006). On the other hand, an
“endowment” understanding of ability to pay would not necessarily lead to this conclusion. See
MURPHY & NAGEL, MYTH OF OWNERSHIP, at 20-23. A third alternative is that while this
particular taxpayer cannot pay, other taxpayers at the same income level can. Does the “ability to
pay” principle run out at this point in the analysis?

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it be reformed?” or, “on what basis should tax law make a decisions between two alternatives?”37

While suitable to analyzing such normative “best case” policy questions and choices, tax policy

concepts can be inadequate and problematic as applied to “on-the-ground” collection issues. It is

therefore unsurprising that such arguments have been particularly under-developed in their

application to the distressed taxpayer/collection context. In sum, because the OIC program largely

deals with situations in which the taxpayer cannot in fact pay which assessed taxes, the tools of

traditional tax policy debate are not an adequate foundation upon which to construct an analysis

of what degree and kind of tax debt forgiveness program is desirable.38 On the other hand, while

tax policy constructs have not been well developed to justify the existence of a taxpayer-

forgiveness or compromise program, concepts and arguments from other areas of law and

philosophy are well suited to this type of inquiry. For example, bankruptcy theory is well

acquainted with dealing with policy issues concerning those who cannot pay their debts, such as

whether or not such debtor should have to pay them or how the costs of non-payment should be

shared in the context of a multi-player game.39

        The following are five general arguments that support the construction and

implementation of a meaningful procedure for the forgiveness of tax debts.40

a. Revenue Benefits

37
   See, e.g., Richard S. Markovits, On the Economic Efficiency of Using to Increase Research and
Development: A Critique of Various Tax, Antitrust, Intellectual Property, and Tort Law Rules
and Policy Proposals, 39 HARV. J. ON LEGIS. 63 (2002); David Weisbach, Line Drawing,
Doctrine and Efficiency in the Tax Law, 84 CORNELL L. REV. 1627 (1999); J. Clifton Fleming.
Jr., Robert J. Peroni, Stephen E. Shay, Fairness in International Taxation: The Ability-to-Pay
Case for Taxing Worldwide Income, 5 FLA. TAX REV. 299 (2001).
38
   Of course, the line of reasoning presented thus far is less applicable to situations in which the
taxpayer can pay but will not. And of course, the distinction between the “can‟t pay” and “won‟t
pay” scenarios is not always clear. Be that as it may, this paper is mostly concerned with “can‟t
pay” situations.
39
   See e.g., THOMAS H. JACKSON, THE LOGIC AND LIMITS OF BANKRUPTCY LAW (Harvard 1986).
40
   These arguments are not exhaustive but rather set forth a general framework for understanding
why we should care about the offer in compromise procedure in the first place. In later work, I
develop a fuller argument in support of the forgiveness of tax debts and discuss the theoretical
and practical challenges of such tax debt forgiveness. Shu-Yi Oei, Theoretical and Practical
Challenges in Designing a Workable System of Tax Forgiveness (draft-in-progress, on file with
author).

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        Most obviously, a robust and functional tax debt forgiveness procedure can be beneficial

to the tax collector and to the national revenue. This is true both in terms of present dollar

collections and future compliance. An examination by the National Taxpayer Advocate (“NTA”

or “Taxpayer Advocate”) of rejected OICs shows that the IRS would have collected more cents

on the dollar through acceptance of those OICs than it ultimately collected from the taxpayers

who had proposed those rejected offers.41 The data shows that the IRS is seldom able to collect

rejected offers in compromise in full; rather these taxpayer accounts are often placed in “currently

not collectible” status.42 The Taxpayer Advocate has argued that while IRS rejections of offers

would be justified if the IRS was able to collect more from such delinquent taxpayers after

rejecting the offers, this has not been the case.43

        Moreover, even compared with the general (non-OIC) collections baseline for delinquent

debt, it is clear that accepting offers can add value for the IRS. In the 2007 fiscal year, OICs

accepted by the IRS generated 17 cents for each dollar owed, which is more than the 13 cents on

the dollar IRS had historically collected on two year old debts.44 In fact, during that time period,

the IRS had collected almost nothing on debts three or more years old.45 These numbers suggest

that far from being a drain on the national revenue, a well-administered tax debt compromise

program can generate more collections.

        In addition to boosting collection of taxes currently owed, a procedure that provides for a

“fresh start” for the debtor and reintegrates the debtor into the world of compliant taxpayers can




41
   2009 NTA Annual report at 205 (citing IRS studies finding that offers yield 18-20 cents on the
dollar while other collection methods yield about 13 cents on the dollar for debts over two years
old and “virtually nothing” on debts three years or older); but see TIGTA.
42
   2006 NTA Annual Report at 89.
43
   See sources cited supra notes 41 and 42.
44
   2007 NTA Annual Report, at 375. In FY 2008, accepted OICs generated 20 cents on the dollar
and in FY 2009, accepted offers generated 18 cents on the dollar. 2009 NTA Annual Report at
205 n. 53.
45
   Id. at 375.

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have benefits for future revenue collection.46 One of the requirements of the OIC procedure is that

a taxpayer must have filed all previous required tax returns; moreover, the taxpayer must remain

in compliance for the next five years.47 Studies have shown that a majority of taxpayers whose

OICs are accepted manage to remain in compliance.48 Thus, collection of presently owed dollars

aside, the forgiveness of tax debts can have a rehabilitative or reintegrative function that enhances

collections in future tax years. A compromise program therefore can help reintegrate previously

delinquent taxpayers into a set of compliant behaviors, and to keep such taxpayers in compliance

for time periods going forward. Thus, there is practical benefit both in terms of collection of

currently owed debts as well as of tax debts that will be owed in the future.

b. Debtor Rehabilitation, Debtor-Creditor Law, and a World Where Sometimes People Can’t

     Pay – Reimagining the Relevant Theoretical and Societal Baselines.

        Horizontal equity generally dictates that similarly situated taxpayers should be treated

similarly.49 The existence of any tax debt forgiveness program would therefore seem to

contravene traditional horizontal equity principles, because given the same assessed tax amount,

such program would demand full payment from some taxpayers while releasing others from their

full payment obligations. Traditional tax policy analysis might thus suggest against having a

robust (or any) tax compromise program, or might regard the existence of such a program as a

deviation from a fair tax.

        On this point, however, traditional tax policy tools are behind the curve. A look at other

areas of law, and at “real life,” clearly shows that the appropriate starting point for serious

46
   This “fresh start” policy was contained in IRS‟s 1992 Policy Statement P-5-100 (noting that
“[a]cceptance of an adequate offer will also result in creating for the taxpayer an expectation of
and a fresh start toward compliance with all future filing and payment requirements”), available
at http://www.irs.gov/businesses/small/article/0,,id=111920,00.html.
47
   MATHER & WEISMAN, TAX COLLECTION: DEFENSIVE MEASURES, at A-47; see also IRS Form
656.
48
   2998 NTA Annual Report at 205 (citing IRS determination that about 80% of taxpayers whose
offers were accepted between 1995 and 2001 stayed compliant with subsequent tax filing and
payment obligations); 2007 NTA Annual Report at 375 n. 9.
49
   See generally Brian Galle, Tax Fairness, 65 WASH. & LEE L. REV. 1323 (2008) (describing and
defending “horizontal equity” as a principle).

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analysis is not a world in which everybody pays their debts and the person who fails to do so is

the glaring exception. Rather, we live in a world where credit exists, where the terms of such

lending are not always fair, where borrowers sometimes cannot repay creditors, where sometimes

debts get forgiven (either through an overarching, in-place legal system such as the bankruptcy

system, or through non-bankruptcy debtor-creditor law, or through agreements entered into

formally or informally between individual debtors and creditors), and where sometimes debts just

go unpaid. And of course, the debtor-creditor world just described includes tax debtors and the

tax creditor. In the tax collections context, the IRS is in effect the creditor – the extender of credit

– and the delinquent taxpayer is the debtor. The IRS is in some sense “forced” to extend credit to

the taxpayer, as a result of withholding imperfections, the largely annual basis of tax return filing

and collection process, and the possibility of obtaining extensions for tax return filing.50

Measured against the “real world” of debtor-creditor relationships and distressed debt, it makes

perfect sense that sometimes a taxpayer is unable to pay her assessed taxes, interest and/or

penalties. In fact, substantive tax law itself has long recognized the existence of a world in which

debts are sometimes not repaid.51

        Moreover, the creditor role of the IRS is a bit different from other types of creditors.

Unlike the private context creditor, the IRS, as an agency of the government, has a dual role. The

government is not just a creditor but also a provider of welfare and other benefits. In other words,

along with the taxing side, there is a spending side to the government‟s function.52 If the

government as creditor takes too much from the tax debtor and renders him destitute, this might

not be the optimal outcome once benefits and spending side considerations are taken into

account.53 Thus, at least as much as for the average non-tax creditor and probably more so, there


50
   In this sense, the IRS‟s position may not be so different from that of other involuntary creditors,
such as tort victims.
51
   I.R.C. § 108 (regarding taxability of income from the discharge of indebtedness).
52
   The spending side encompasses both welfare and government benefits spending as well as tax
expenditures.
53
   This is discussed more in Part III.d, supra.

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should be an avenue whereby the government creditor forgives in certain circumstances some

amount of the tax collection due.54 The appropriate analytical baseline against which to think

about how such collections issues should be considered and implemented is not necessarily

traditional substantive tax policy; but rather debtor-creditor law.

        Of course, the above “distressed debtor” analysis does not necessarily justify the

“shouldn‟t have to pay” situation (for example, the situation raised by the “effective tax

administration” offer or the “doubts as to liability” offer, where the tax debtor can pay but

perhaps should not have to). However, the general points remains true, at least, for the “can‟t

pay” situation: If we concede that the “factual” world in which we live is one in which people do,

in fact, sometimes fail to pay, sometimes partially pay, sometimes forgive, and sometimes

renegotiate debts, and that the “legal” world in which we live is one in which there are already

systems in place to “officially” permit the settlement of tax debts for less than their full amount,

then it becomes clear that it is too simplistic simply to say that having an OIC procedure violates

horizontal equity. Something other than traditional “horizontal equity” principles is required in

order to effectively comment on such state of the world. The question then becomes not whether

tax debts should be forgiven or compromised at all, but rather how the tax creditor and the tax

system should manage the compromise process in order to ensure the best possible consequences

for the taxpayer, the service and society.55

c. Re-Imagining the Tax Return – Towards a Broader Conception of Distributive Justice

        A strong OIC program is also vital in putting in place a richer conception of tax justice

than one based merely on the U.S. tax return computation. The tax liability that is computed and

assessed based on the tax return should not necessarily be regarded as an absolute standard

against which deviations in collections/collectability are evaluated. This is the case for two


54
   Of course, this avenue of thought raises the question whether this would create a moral hazard
problem. The moral hazard issue raises questions of how, not whether, a compromise procedure
should exist.
55
   This issue of implementation is the subject of Oei, supra note 40.

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reasons. First, as has been argued by Liam Murphy and Thomas Nagel, the “pre-tax income

baseline” – roughly speaking, the “gross income”56 earned by an individual before it is taxed,

which is generally the number based on which the tax computation and assessment are

determined – is not a independent and neutral dollar amount that is “owned” by the individual.57

Rather, “pre-tax income” is really a dependent variable. Or, as Murphy and Nagel put it, the

amount of one‟s pre-tax income is predicated on the underlying social, economic and

governmental structures and conditions that permit such income to be earned in the first place.58 It

follows from this line of thinking that any injustices, inequalities, and disparities that are

embedded in such underlying social, economic and governmental structures have the propensity

to affect a person‟s opportunity or ability to earn pre-tax income in ways that may undermine

distributive justice. Such inequalities and disparities are many. They include, for example, wage

inequalities between men and women, or between whites and African Americans and Latinos.59

The inherent inequitability and dependency of the “pre-tax income” variable should make us

question the ultimate truth of the notion that it is necessarily “horizontally equitable” to tax two

person, each earning X dollars of pre-tax income, the same. Looking at the question from a

slightly different angle, if it is the case that Person A – due to underlying social structures and

disparities, which we know exist – has put in the same amount of inputs (e.g., effort, education,

time) but earns less pre-tax income that Person B, is it necessarily fair to impose the exact same

amount of tax on Person A and Person B?60 This line of thinking is not new. Like-kind analysis


56
   I.R.C. § 61.
57
   MURPHY & NAGEL, MYTH OF OWNERSHIP, at 175 (“We have to think of property as what is
created by the tax system, rather than what is disturbed or encroached on by the tax system.
Property rights are the rights people have in the resources they are entitled to control after taxes,
not before”).
58
   Id.
59
   See generally Ledbetter v. Goodyear Tire & Rubber Co., 550 U.S. 618 (2007), superseded by
Lily Ledbetter Fair Pay Act, Pub. L. 111-2, 123 Stat. 5 (2009); Laura Fitzpatrick, Why Do
Women        Still   Earn     Less    than     Men     (April     20,    2010),     available      at
http://www.time.com/time/nation/article/0,8599,1983185,00.html.
60
   Murphy and Nagel have expressed similar reservations, in critiquing the tax policy notion of
“ability to pay, as expressed through the “equal sacrifice” and “equal proportional sacrifice”

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has also been explored, for example, by scholars such as Anthony Infanti, who has pointed out

the misleadingly “homogenizing” effects of the tax equity concept and the false pall of neutrality

its use has cast over tax policy debates.61

        In sum, pre-tax income is, in fact, a non-neutral dependent variable, and pre-tax income is

the foundation upon which tax liability computation and assessment is constructed. It therefore

follows that the tax liability computation and assessment also cannot be assumed to be morally

neutral either. In determining equity and distributive justice, then, it is wrong to privilege the tax

assessment number as being per se fair. From that point of view, it is not necessarily any more or

less “just” or “equitable” to forgive at least some tax debts in at least some circumstances.

        Second, problems surrounding the “myth”62 of pre-tax income aside, the policy

indeterminacy of tax liability computation should caution us against taking the tax computation

and assessment number as a privileged standard for arguing about horizontal equity in an un-

considered manner. The federal tax liability computation consists of a series of income

inclusions, deductions, and credits all of which are associated with particular types of activities

(for example, wages from work, gains from sales of assets, deductions for medical expenses).63 In

the first place, each of these tax “items” represents a particular policy choice where other policy

choices could also validly have been made.64 Indeed, with respect to some of these items,


concepts. MURPHY & NAGEL, MYTH OF OWNERSHIP, at 24-30 (“If the idea of taxation in
accordance with ability to pay is made concrete through the principle of equal sacrifice, it
depends on the radical view that the distribution of welfare produced by the market is
presumptively just”).
61
   Anthony Infanti, Tax Equity, 55 BUFF. L. REV. 1191, 1196, 1203, 1209 (2008); see also id. at
1201 (noting that horizontal and vertical equity “transform three-dimensional, flesh and blood
individuals into two-dimensional accounting statements; also noting that “[b]y assuming a far
more homogenous population than the one that actually exists, horizontal and vertical equity
screen from the tax policy debate many issues relating to race, ethnicity, gender, sexual
orientation, and disability, and they tend to transmute any remaining issues into one of economic
class”).
62
   See generally MURPHY & NAGEL, MYTH OF OWNERSHIP.
63
   See generally I.R.C. §§ 61, 162, 1221.
64
   See generally Beverly I. Moran & William Whitford, A Black Critique of the Internal Revenue
Code, 1996 WISC. L. REV. 751, 753 (1996) (“many provisions of the Internal Revenue Code
deviate from the ideal of taxing all income in the comprehensive income tax base. Sometimes the

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different policy choices (with accompanying different distributive consequences) have, in fact,

been made in the past.65 Once it is recognized that the tax law with respect to individual tax items

is indeterminate and not written in stone, it becomes far less obvious that we should default to

privileging the sum total of all of these policy choices as a necessarily equitable outcome.66

        In addition, even assuming that all of the legal and policy choices surrounding each

individual tax item are not outcome indeterminate, our schedule-based and tax year-based tax

computation system suffers from a different type of pervasive indeterminacy in execution. This

“executional indeterminacy” stems from certain important features of the tax system – the timing

principle that “each tax year stands alone,” deviations from the overall “each tax year stands

alone” principle which allow losses from one year to offset gains from another year, the ability or

inability of certain taxpayers to utilize certain deductions, and bunching issues leading to certain

taxpayers being placed in higher or lower tax bracket in seemingly unprincipled ways, to name a

few issues. Put differently, because of the idiosyncrasies and intricacies of the on-the-ground

operation of how tax computation actually works, even tax items (i.e., income, deductions and

credits) that, in the abstract, may appear to be reasoned, rational, and equitable in their abstract

conception and enactment, may give rise to irrational or unequal outcomes in actual execution.

For example, while it may be horizontally equitable to include all business profits in gross income

as a general matter, the fact that one taxpayer has losses (perhaps carried over from previous tax

years) against which to offset such profits may lead to indeterminacy on a balance sheet basis.67

The fact that one taxpayer has a less consistent level of income than someone else may push her

Code compromises the ideal in order to achieve a more administratively practical rule. More
often, Congress has decided to encourage particular lifestyles or behaviors by holding out tax
benefits as an incentive”; suggesting that “deviations from the ideal of a comprehensive income
tax systematically favor whites over blacks”).
65
   The evolving treatment of annuities is an example. See MARVIN CHIRELSTEIN, FEDERAL
INCOME TAX ¶ 2.02, at 34-36 (11th ed. 2009) (describing the changing tax treatment of annuities
under the Code).
66
   The counterargument to all of this, of course, is that whether or not the legal outcomes are just
or not, the rule or law may be undermined if people are allowed to easily escape payment of tax
liabilities in full.
67
   See generally I.R.C. §§ 165, 172, 1222.

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into a higher tax bracket in some years and a lower one in others, giving rise to disparate

consequences.68 The most obvious incarnation of such “executional indeterminacy” can be seen

in tax shelter cases, wherein rules that are logical standing on their own can end up giving rise to

irrational outcomes given the right convergence of circumstances. Such “executional

indeterminacy” is what ultimately gives rise to judicial doctrines to fill in statutory gaps (such as

the assignment of income, claim or right, or economic substance doctrines). The forgiveness of

tax debts in certain circumstances should be viewed as a like-kind “gap filler.”

        In summary, the “myth” of “pre-tax income”, 69 policy indeterminacy, and executional

indeterminacy all suggest that computed and assessed tax liability should not be simply viewed as

the neutral and equitable “baseline” without further investigation.70 Correspondingly, a tax

compromise procedure should not be viewed simply as a deviation from such “baseline.” Rather,

the OIC procedure needs to be philosophically reconceived as an additional tax instrument,

which, albeit indeterminate, has the power to better account for big picture, “balance sheet”

inequities as between two taxpayers who might have the same “line item” tax computation figure.

Put differently, having a functional system of tax debt compromise is important because it

enables society to account for inequalities, injustices, or aberrations that may not be adequately

accounted for based on normative tax policy formulations or the tax computation that results from

the application (or non-application) of a large and uncoordinated number of tax provisions.

d. Social and Economic Stabilization

        A fourth justification for having a credible tax forgiveness procedure is that such a

procedure can promote economic and social stabilization. This fourth justification is inextricably

related to the previous three justifications, since dimensions of the fourth justification are

embedded in the previous three arguments. Briefly, the argument is that in certain circumstances,


68
   Tax scholars have come up with proposals to fix such problems. See Lily Batchelder, Taxing
the Poor: Income Averaging Reconsidered, 40 HARV. J. ON LEGIS. 395 (2003).
69
   MURPHY & NAGEL, MYTH OF OWNERSHIP.
70
   Id.

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forgiving all or part of a tax debt that is owed is better for society as a whole than enforcing full

payment of the entire debt. In some sense, the notion that in some circumstances – either due to

hardship or to public policy reasons – it is not productive on a macro level to collect the full

amount of the debt but is better for the collecting agency to forgive some part of it, is what the

creation of the OIC based on “effective tax administration” was meant to reflect. To take an

extreme case, it does society no good for the taxing authority to collect to the point where the

taxpayer is left destitute, unable to provide for herself or her family, unable to transport herself to

or from work, or otherwise in a vulnerable position socioeconomically. The National Taxpayer

Advocate has expressed similar macro-social concerns in comments about problems with overly

enthusiastic IRS use of liens or levies.71

         The argument can also be expressed in terms of the revenue expenditures: Given a world

in which tax collection is only one side of the revenue equation, and where spending on social

welfare benefits constitutes the other side – it may be better for the national “balance sheet” to

forgive debts in some instances. Macro-level social and economic concerns are of particular

concern at this time because many taxpayers are struggling financially as a result of the recent

recession.72 The IRS has expressed willingness to work with taxpayers in performing collections

in these tough economic times.73 However, IRS efforts in this regard have also been critiqued as

insufficient.74

         The need for considered collections actions by the IRS to promote socioeconomic

stability is particularly acute in light of changes in the legal landscape affecting distressed

debtors.75 Even as the OIC program has become less and less relevant and useful to taxpayers, it


71
   2008 NTA Annual Report, at 18-24.
72
   Taxpayer struggles in light of the current economic downturn have been noted previously by
the Taxpayer Advocate. 2008 NTA Annual Report at 15.
73
   See Michael Joe, IRS Willing to Work with Economically Distressed Taxpayers, 122 TAX
NOTES 195 (Jan. 12, 2009); IRS News Release 2009-2, IRS Begins Tax Season 2009 with Steps to
Help Financially Distressed Taxpayers; Promotes Credits, E-File Options (Jan. 6, 2009).
74
   2011 NTA Annual Report at 85-97.
75
   As discussed in Part II.b, the IRS is essentially a creditor to the delinquent taxpayer.

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has simultaneously become increasingly difficult for distressed debtors (tax and otherwise) to

obtain a bankruptcy discharge. Changes introduced by the 2005 Bankruptcy Abuse Prevention

and Consumer Protection Act (“BAPCPA”) have had the dual effect of forcing more taxpayer

into Chapter 13 filings by foreclosing the use of Chapter 7 filings by those not satisfying a new

“means test” and by eliminating the Chapter 13 “superdischarge” of certain debts not

dischargeable in a Chapter 7 filing.76 Whereas prior to BAPCPA, a taxpayer in a Chapter 13

bankruptcy could obtain discharge of certain tax debts not dischargeable to a Chapter 7 debtor,

the provisions governing discharge of tax debts in a Chapter 13 bankruptcy are now generally the

same as those in a Chapter 7 bankruptcy.77

        The confluence of the new “means test” for Chapter 7 qualification (which, interestingly

enough, adopts IRS standards used for evaluating offers in compromise for the computation of

the debtor‟s expenses) and the elimination of the Chapter 13 superdischarge has important

consequences for tax debtors.78 Very generally, the adoption of OIC standards for the bankruptcy

means test means that those tax debtors who don‟t qualify for OIC filing under the IRS‟s financial

standards will also not qualify for Chapter 7 liquidation, and will be forced into Chapter 13

bankruptcies. The elimination of the Chapter 13 superdischarge for taxes means that such tax

debtors are less able to obtain discharge for certain taxes owed than prior to BAPCPA, and have

also lost the ability to file for Chapter 7 bankruptcy after BAPCPA. The reduction of Chapter 7

availability, the elimination of Chapter 13 tax superdischarge, paired with the (general)

unavailability of OIC debt forgiveness suggests a “squeezing” of this subset of struggling tax

debtors, and raises the empirical question of what is now happening to struggling tax debtor

populations for whom a bankruptcy filing or an OIC are not feasible options.

76
   Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, Pub. L. No. 109-8
(signed into law on April 20, 2005); see also Stuart Larsen & Jonathan Blakely, Congress Kills
the Expanded Tax Discharge in Chapter 13, 109 Tax Notes 1554 (Dec. 19, 2005).
77
   11 U.S.C. §§ 523(a), 727, 1328; see also 11 U.S.C. § 1141; Larsen & Blakely, supra note 76.
78
   11 U.S.C. § 707(b); see also Matthew Stephenson & Kristin Hickman, The Administrative Law
of Borrowed Regulations: Legal Questions Regarding the Bankruptcy Law’s Incorporation of IRS
Standards, 1 NORTON BANKRUPTCY LAW ADVISER 1 (2008).

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        Despite this “squeezing”, bankruptcy filings are on the rise.79 This should not be

interpreted as suggesting that bankruptcy is now a sufficient remedy. Rather, the increase in the

number of filers for Chapters 7 and 13 bankruptcies notwithstanding the 2005 changes that

unquestionably made it harder for debtors to obtain personal bankruptcy relief reinforces the

importance of the question: What is happening to those debtors (and for our purposes, tax debtors

in particular) for whom bankruptcy relief is not available? Where are they going? How do they

get by? These are questions regarding which more research is required. However, what is likely is

that the simultaneous “squishing” effected by tax and bankruptcy law on the distressed tax debtor

means that the law both in the statute and in its implementation regarding such distressed debtors

is “running out” earlier and that such distressed debtors are simply disappearing from the system.

However, the fact that distressed tax and other debtors have become invisible does not mean they

are not there.

e. Creating Consistency With Other Bodies of Law

        Finally, having a procedure in place for the forgiveness of tax debts is jurisprudentially

sound, because its existence would align tax law, considered as a discrete system of law, with

other areas of law. Such alignment has two distinct components: (1) “equitable discretion”; and

(2) nonperformance exceptions.80




79
   Recent news reports tell use bankruptcy filings have increased 14% in the 2010 fiscal year and
are at their highest point since enactment of the 2005 changes. See
http://money.cnn.com/2010/11/08/news/economy/bankruptcy_filings/index.htm (finding that in
FY 2010, “Chapter 7 filings spiked nearly 15% to over 1.1 million, from 989,227 in fiscal 2009.
Chapter 13 filings, in which debtors are typically required to repay debts according to a budget
plan      that     the      court     sets     up,     rose      9.2%      in     the      year.”)
http://www.bloggingstocks.com/2010/11/09/bankruptcy-filings-surge-14-in-2010/
80
   Dan Markel, Against Mercy, 88 MINN. L. REV. 1421, 1435-36 (2004) (noting that “leniency”
has two components, one of which is “equitable discretion” (i.e., “when an offender receives less
or no punishment for reasons that are tied to the offender's choice to commit the crime, or to the
severity of the crime itself”) and the other of which is “mercy” (i.e., “remission of deserved
punishment, in part or in whole, to criminal offenders on the basis of characteristics that evoke
compassion or sympathy but that are morally unrelated to the offender's competence and ability
to choose to engage in criminal conduct”).

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        I borrow the term “equitable discretion” as used by Professor Dan Markel.81 As used by

Markel, “equitable discretion” denotes the meting out of less severe punishment based on the

circumstances and nature of the offense.82 Many bodies of law have features that either allow for

such a degree of leeway or discretion in imposing a cost, or a penalty, or damages on a person.

Examples include sentencing discretion in criminal law, commutation of sentences via executive

pardon in criminal law (at least in circumstances where there are reasons to question the actual

just-ness of the sentence), jury discretion over damage determinations in tort law, or increasing

amounts of fines depending on how fast one drives over the speed limit.83 In addition, some other

areas of law contain exceptions or doctrines that permit the non-performance of an action that

would otherwise be required in regular circumstances, and courts often have large degrees of

discretion in determining whether one of these exceptions applies. Examples of nonperformance

exceptions include the doctrine of excuse or impossibility in contract law, and the “endangerment

of own life” exception to the duty to rescue in certain civil law jurisdictions, and general judicial

discretion in formulating “duty” under our tort law.84

        Neither of these features is present in any significant way in the tax law. First, tax

liability is objectively determined based on the tax computation on the applicable tax form and

accompanying schedules. There is no “equitable discretion” concept in play.85 The amount of

penalties, too, is in many cases objectively determined under applicable penalties statutes.86

While there may be a question whether the requirements of these statutes are met, once these

statutory requirements are determined to have been determined, there is generally very little

flexibility in determining the amount of the penalty.87 The same is true for interest.88 And, once


81
   Id.
82
   Markel, supra note 80, at 1435-36.
83
   [     ]
84
   [     ]
85
   Markel, supra note 80, at 1435-36.
86
   See I.R.C. §§ 6651 – 6725. It is true that some penalties in the Code are imposed on a “not
more than” basis. I.R.C. §§ 7201, 7202.
87
   Id.

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the tax liability is determined, it must be paid in accordance with the assessment and collections

provisions, unless compromised by the IRS, which is the rare case.89 Tax law does not have any

significant doctrines covering situations in which non-performance of the duty to pay tax is

permissible, nor does it have structures that introduce flexible leeway into the determination of

the amount of tax, interest or penalties to be paid once the “duty” to pay is determined. Why this

is the case may be due to several reasons. In particular, it is possible that the extremely monetized

character of substantive tax law and tax policy analysis make overly salient (and therefore

unacceptable) the costs associated with allowing equitable discretion and forbearance/non-

performances in some circumstances, with the result that such features have not been

systematically built into the tax system.90 However, situations inviting forbearance, mercy,

excuse, or commutation of punishment in other areas of law also have costs, even if those costs

are less monetized and less obvious. In no other body of law has the law evolved in a way that

such costs are uniformly considered too much for society to bear.

        In sum, in its general lack of equitable discretion or a mechanism for excuse, tax law is

an outlier among systems of law. By designing and implementing a viable system of forgiveness

of tax debts or excuse from payment, tax can be better brought into conformity with other areas of

domestic law.

             IV.     THE OIC PROGRAM IN ACTION: QUESTIONABLE EFFECTIVENESS

        The arguments outlined above provide preliminary support the development and

institution of a viable procedure for the forgiveness of tax debts. A full theoretical or

philosophical treatment on the subject is beyond the scope of this paper. However, I develop

these concepts further, and discuss theoretical and practical problems associated with their



88
   I.R.C. §§ 6601, 6611.
89
   I.R.C. §§ 6201-07, 6301-17, 6501-04.
90
   It may also be the case that due to the tax law‟s complexity and its pervasiveness, it would be
inadministrable to introduce the degree of judicial or jury-based discretion present in other areas
of law into determinations of how much and when to pay.

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implementation in a workable system of tax debt forgiveness, in other work. 91 Having made the

case for a robust and effective procedure for the compromise of tax debts, I now turn to an

examination of how the OIC procedure has performed in action. Unfortunately, the procedure has

been less than effective in recent years. Various commentators have criticized and pointed out

problems with the content and administration of the program. In this section, I summarize some

of the major problems with and criticisms of the procedure. However, in order to understand the

underlying structural causes of these problems and criticisms and to situate them in their proper

historical context, it is first necessary to discuss how statutory content and implementation the

OIC procedure has evolved over the years.

a. A Recent History of the Procedure: OICs Since 1986

        The OIC statute and procedure has not been static and unchanging over time. Some

manner of statute authorizing compromise has existed since at least 1863, and the content of the

statute, as well as its interpretation, have evolved over time.92 The statute‟s early history is not


91
   See Shu-Yi Oei, Theoretical and Practical Challenges in Designing a Workable System of Tax
Forgiveness (draft-in-progress, on file with author).
92
   Section 10 of the Act of March 3, 1863 (12 Stat. 740) provided that
         “upon a report by a district attorney, or any special attorney or agent having
         charge of any claim in favor of the United States, showing in detail the condition
         of such claim, and the terms upon which the same may be compromised, and
         recommending that the same be compromised upon the terms so offered, and
         upon the recommendation of the solicitor of the treasury, the Secretary of the
         Treasury be, and he is hereby, authorized to compromise such claim
         accordingly.”
Act of March 3, 1863, § 10, 12 Stat. 740. This section was the precursor to Rev. Stat. § 3469.
Section 102 of the Act of July 20, 1868 provided that
         “in all cases arising under the internal revenue laws where, instead of
         commencing or proceeding with a suit in court, it may appear to the
         commissioner of internal revenue to be for the interest of the United States to
         compromise the same, he is empowered and authorized to make such
         compromise with the advice and consent of the Secretary of the Treasury; and in
         every case where a compromise is made there shall be placed on file in the office
         of the commissioner the opinion of the solicitor of internal revenue, or officer
         acting as such, with his reasons therefor, together with a statement of the amount
         of tax assessed, the amount of additional tax or penalty imposed by law in
         consequence of the neglect or delinquency of the person against whom the tax is
         assessed, and the amount actually paid in accordance with the terms of the
         compromise; but no such compromise shall be made of any case after a suit or

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particularly relevant for our purposes. Even putting early history aside, however, many significant

changes to the statute, and to its administrative implementation, have occurred since the Tax

Reform Act of 1986, the last major legislation overhauling the tax code.93 The following are some

of the most significant changes:

        1. 1992 Changes

        Arguably the first important change to the OIC procedure since the enactment of the 1986

Code occurred in 1992. These changes were not statutory in origin; rather they were IRS changes



         proceeding in court has been commenced, without the recommendation also of
         the Attorney-General. Provided, That it shall be lawful for the court at any stage
         of such suit or criminal proceedings to continue the same for good cause shown
         on motion of the district attorney.”
Act of July 20, 1868, § 102, 15 Stat. 125, 166, 40th Cong. Sess. II. [These early statutes were
consolidated in 1875 as part of the Revised Statutes of 1875. See R.S. 3229 and 3469, Revised
Statutes of 1875.] Not unexpectedly, in the early years of the provision‟s existence there seem to
have been questions about the proper extent and limits of the Commissioner‟s authority to
compromise a tax liability. The nature of these issues as to scope is reflected in early opinions of
the Attorney General, issued in response to inquiries posed by the Commissioner. Some of the
questions raised were procedural, concerning the proper use of compromise statute in the context
of the Commissioner‟s broader powers to assess and collect taxes. For example, in 1879, the
Attorney General opined that Rev. Stat. 3229 did not permit the Commissioner to use the
authority conferred by that statute to compromise a tax due from a solvent taxpayer, in
circumstances where excessive or illegal taxes had been exacted from that taxpayer in prior years.
See 16 Op. Att‟y Gen. 248 (Jan. 14, 1879) (the Attorney General also ruled that the
Commissioner lacked the power to allow the excessive amounts paid to be set off against later-
owed taxes). Other opinions concerned the grounds upon which the Commissioner may base a
decision to compromise, or the degree of discretion that the Commissioner may exercise in
making such compromise. In 1881, the Attorney General opined (somewhat cryptically) that
while the Treasury Secretary was not “at liberty to act from motives merely of compassion or
charity”, he was allowed “to consider not only the pecuniary interests of the Treasury but also
general considerations of justice and equity and of public policy” until such time that Congress
might decide to limit such authority. See 17 Op. Att‟y Gen. 213, 1881 U.S. AG LEXIS 13, at *6-
7. Thus the Attorney General opined that while compassion alone was an insufficient ground, the
ability to compromise was also not limited to cases in which compromise would mean “more
money” for the Treasury than “prosecution of the claim.” Id. at *6; see also id. (“[i]t is not
necessary to hold that the Secretary … is in the matter of compromise a fountain of the
compassion of the Government or an almoner of its charity”).It is not clear what sorts of “equity”
or “public policy” considerations the Attorney General considered to be acceptable grounds for
compromise. However, the AG expressly noted his disagreement with prior AG opinions, which
had held that the only acceptable consideration in deciding whether to compromise a tax liability
was “whether the government can realize more money by its prosecution than by accepting the
settlement proposed.” Id. at * 1-2.
93
   Tax Reform Act of 1986, Pub. L. No. 99-514, 100 Stat. 2085, (October 22, 1986).

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in policy that affected implementation of existing tax law.94 The IRS in 1992 issued Policy

Statement P-5-100, in which it set forth a change in IRS policy in implementing the OICs

program.95 Prior to the issuance of the Policy Statement, the OIC procedure was a little know,

seldom used procedure.96 The Policy Statement provided that the IRS would accept offers “when

it is unlikely that the tax liability can be collected in full and the amount offered reasonably

reflects collection potential”, that the OIC program is “a legitimate alternative to declaring a case

currently not collectible or to a protracted installment agreement”, and that “[t]he goal is to

achieve collection of what is potentially collectible at the earliest possible time and at the least

cost to the Government.”97

        Policy Statement P-5-100 represented a shift in policy from before 1992; prior to 1992,

IRS would accept an offer only if it resulted in “maximum collection with the least possible loss

or cost to the government.”98 The 1992 policy statement also reflected other, more taxpayer-

friendly, positions: it required assigned IRS employees to “discuss the compromise alternative

with the taxpayer and, when necessary assist in preparing the required forms” in situations where

an OIC appears to be a “viable solution”; it states that “the ultimate goal is a compromise which

is in the best interest of both the taxpayer and the Service”; and it envisions that acceptance of

OICs would “result in creating for the taxpayer an expectation of and a fresh start toward

compliance with all future filing and payment requirements.”99 1992 also saw substantial changes

to the Internal Revenue Manual provisions governing OICs, reflecting the IRS‟s new policies. 100

Such changes included simplified financial disclosure forms and more relaxed valuation

94
     See Paul Predmore, IRS Offers in Compromise (September 2001) (available at
www.gslaw.com/resources/pdf/IRS_compromise.pdf (last visited December 11, 2010).
95
             IRS          Policy          Statement         P-5-100          (available         at
http://www.irs.gov/businesses/small/article/0,,id=111920,00.html.
96
   See HEARINGS BEFORE THE COMMITTEE ON FINANCE UNITED STATES SENATE, 105TH CONG.
2D SESS. ON H.R. 2676, S. HRG. 105-529 (Jan. – Feb. 1998), at 99.
97
   Id. at ¶ 1; see also IRM 57(10)1.1. (February 26, 1992).
98
   Predmore, supra note 94, at 1 (citing IRM 57(1)1.4 (August 24, 1989).
99
   IRS Policy Statement P-5-100. However, the taxpayer still retains responsibility for making the
first concrete OIC proposal.
100
    Predmore, supra note 94, at 2.

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guidelines.101 As recently as 2009, the National Taxpayer Advocate suggested a return to the

1992 IRM guidelines as one solution to the declining effectiveness of the OIC program.102

        2. 1996 Taxpayer Bill of Rights 2 Legislation

        Prior to July 30, 1996, the OIC statute required that for accepted OICs over $500, the

Treasury Department General Counsel (or his delegate) file a statement of the reasons for

compromise, together with a statement of the amount of tax assessed, the amount of interest,

additions to tax, and penalties imposed, and the amount actually paid in the compromise, in the

office of the Secretary of the Treasury.103 This low dollar amount made little sense.104 The 1996

Taxpayer Bill of Rights 2 dramatically raised the dollar amount under which such General

Counsel filing would not be required. Effective July 30, 1996, no General Counsel opinion would

be required for the compromise of civil tax cases in which the unpaid tax liability (including

interest, additional amounts, additions to tax, and penalties) was less than $50,000.105 However,

such OICs would be newly subject to “continuing quality review” by the Secretary.106 The effect

of the 1996 change was therefore to increase IRS discretion (by decreasing record keeping and

accountability requirements) in accepting OICs with amounts less than $50,000.




101
    Predmore, supra note 94, at 2 (“the most significant IRM changes included: (1) IRS personnel
were instructed to discuss the possibility of an offer in compromise with taxpayers whose
financial position make it unlikely that their tax debt will be paid in full; (2) collectability offers
were to be processed by a Revenue Officer, often one familiar with the account, rather than by
Special Procedures Function; (3) simplified financial disclosure forms; (4) more liberal valuation
guidelines and considerations for certain property interests; (5) a present value analysis of the
taxpayer's current ability to make installment payments over a sixty-month period; (6) a five-year
compliance period upon acceptance of the offer; and (7) discouraged use of collateral agreements
with the offer”).
102
    2009 NTA Annual Report, at 198-99, 204-05.
103
    I.R.C. § 7122(b) (prior to amendment by Pub. L. No. 104-168, § 503(a)).
104
     See, e.g., Thomas Ruffin III, The New IRS Offers in Compromise Policy, JOURNAL OF
ACCOUNTANCY (Nov. 1, 1992) (characterizing the old law as “every bit as sensible as the New
England blue law prohibiting taking a bath on Sunday”).
105
    I.R.C. § 7122(b) (flush language) (Pub. L. No. 104-168, § 503(a), effective July 30, 1996).
106
    Id.

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        3. 1998 IRS Restructuring and Reform Act

        The 1998 IRS Restructuring and Reform Act was a watershed piece of legislation, which

introduced important changes to the OIC statute.107 These changes were due, in part, to criticisms

and concerns about the OIC program, as well as other practices and procedures of the IRS. 108

Criticisms included that the IRS was using “enforcement minded revenue officers” to administer

the program.109 Prior to the 1998 IRS Restructuring and Reform Act, the only grounds for

accepting an OIC were doubts as to collectability and doubts as to liability. In the 1998

Restructuring Act, Congress added a provision to the OIC statute allowing the Treasury to

prescribe guidelines for determining the circumstances under which and OIC would be

acceptable.110 The Act called for the Secretary to “develop and publish schedules of national and

local allowances designed to provide that taxpayers entering into a compromise have an adequate

means to provide for basic living expenses.”111 The Conference Report accompanying the 1998

Act evinced Congress‟s expectation that the Treasury regulations then in effect would be

expanded to permit the IRS to consider factors other than doubts as to liability and doubts as to

collectability in compromising individual tax liabilities.112 In response to Congress‟s entreaty, the

Treasury responded by enacting and finalizing regulations allowing the IRS to compromise




107
    See generally Paul Predmore, IRS Offers in Compromise: A Historical Look and What’s New,
501 PLI/TAX 211 (2001).
108
     See generally HEARINGS BEFORE THE COMMITTEE ON FINANCE UNITED STATES SENATE,
105TH CONG. 2D SESS. ON H.R. 2676, S. HRG. 105-529 (Jan. – Feb. 1998).
109
    HEARINGS BEFORE THE COMMITTEE ON FINANCE UNITED STATES SENATE, 105TH CONG. 2D
SESS. ON H.R. 2676, S. HRG. 105-529 (Jan. – Feb. 1998), at 99 (testimony of [AICPA
representative]).
110
    I.R.C. § 7122(d)(1) (added by P.L. No. 105-206, § 3462(a) as then I.R.C. § 7122(c)).
111
    I.R.C. § 7122(d)(2).
112
    HR REP. NO. 599, 105TH CONG. 2D SESS. at 289 (CONF. REP. 1999) (“the conferees expect that
the present regulations will be expanded so as to permit the IRS, in certain circumstances to
consider additional factors (i.e., factors other than doubt as to liability or collectability) in
determining whether to compromise the income tax liabilities of individual taxpayers. For
example, the conferees anticipate that the IRS will take into account factors such as equity,
hardship, and public policy where a compromise of an individual taxpayer‟s income tax liability
would promote effective tax administration”).

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liabilities in situations where compromise would promote “effective tax administration” (in

addition to cases of doubts as to liability and doubts as to collectability).113

        In addition to introducing the “effective tax administration” offer, the 1998 Act also

introduced the requirement that the IRS establish “independent administrative review of any

rejection of a proposed offer-in-compromise” before communicating rejection of the offer to the

taxpayer, as well as procedures allowing taxpayers to appeal an OIC rejection to the IRS Office

of Appeals.114 In final Treasury Regulations promulgated on July 19, 2002, however, the Treasury

took the position that where the IRS has returned an offer because such offer was submitted

solely to delay collection, because the taxpayer did not submit the required financial information

needed to process or evaluate the offer, or where the offer was returned as “nonprocessable”, such

return of the offer to the taxpayer would not constitute a “rejection”, and thus such taxpayer

would not have the right to appeal.115

        In addition, the Act also provided that offers from low-income taxpayers could not be

rejected solely on the basis of the offered amount.116 In the legislative history accompanying the

Restructuring Act, Congress expressed its desire that the IRS do a better job informing taxpayers

about the availability of the OIC procedure as a method of resolving tax debts.117

        4. 2001 Introduction of Centralized Processing

        The year 2001 saw important changes in the administration of the OIC procedure. In that

year, the IRS moved away from processing all offers in field offices, establishing instead

centralized processing centers in Brookhaven, New York and Memphis, Tennessee for processing


113
    T.D. 9007, 67 Fed. Reg. 48,025 (July 23, 2002) (preamble to final regulations); T.D. 8829,
1999-32 I.R.B. 235, 64 Fed. Reg. 39,020 (July 20, 1999) (preamble to temporary regulations).
114
     I.R.C. § 7122(e); enacted by Pub. L. No. 105-206, § 3462(c)(1) (effective for OICs and
installment agreements submitted after July 22, 1998).
115
     Treas. Reg. § 1.7122-1(f)(5)(2), introduced by T.D. 9007, Compromises – standards for
evaluation of offers (July 19, 2002).
116
    I.R.C. § 7122(c)(3)(A).
117
    H.R. Rep. No. 105-599, at 289 (1998) (Conf. Rep.) (“IRS should make it easier for taxpayers
to enter into offer in compromise agreements, and should do more to educate the taxpaying public
about the availability of such agreements”); see also 2002 GAO Study, at 13.

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certain offers.118 Under centralized processing, simpler offers in compromise would generally be

processed in Brookhaven and Memphis, while more complex offers would continue to be

processed by local field offices.119 The point of this move was to reduce case inventory backlog

and processing times.120 However, centralized processing has come under fire from various

commentators for ultimately reducing the effectiveness of the program. 121 For example, some

practitioners have complained that using the “strict gatekeeper” model to reduce backlog creates

the illusion of programmatic success by summarily returning offers with minor incompleteness

back to the taxpayer.122 The National Taxpayer Advocate has also questioned the effectiveness

and impacts of centralized processing.123

        5. 2003 Introduction of User Fee Requirements

        Further administrative-level changes were introduced to the procedure in 2003. In that

year, final Treasury Regulations were issued that introduced a $150 user fee requirement for

submission of an OIC.124 However, no user fee would be charged for offers based solely on



118
    2002 GAO Study (describing IRS initiatives to manage case inventory backlog, including
centralization of offer processing); see also 2004 NTA Annual Report at 313; TIGTA, Continued
Progress is Needed to Improve the Centralized Offer in Compromise Program, Ref. No. 2003-30-
182, 1-3 (Sept. 2003).
119
     See TIGTA, Improvements Are Needed in the Timeliness and Accuracy of Offers in
Compromise Processed by Field Offer Groups, Ref. No. 2005-30-013 (Dec. 2004); 2004 NTA
Annual Report, at 313 (describing the centralization initiative).
120
    2002 GAO Report, at 19-23.
121
    2004 NTA Annual Report at 314; Robert A. Zarzar, AICPA Letter to IRS SB/SE, at 2 (Oct. 14,
2003) (expressing concern that fear that “IRS employees at the COIC sites might be reducing
OIC inventory levels based on implementation of rigid procedures; tight rules regarding what
constitutes a “processable” offer and short time frames for submitting updated or missing
documents.”)
122
    See, e.g., Statement of Robert E. McKenzie on behalf of the American Bar Association
Section of Taxation, IRS Oversight Board Hearing, Washington, DC (January 27, 2003) (“This
strict „gatekeeper‟ approach is not consistent with recent Congressional efforts to liberalize the
OIC program and to encourage reasonable collection alternatives”).
123
    2009 NTA Annual Report, at 201 (noting that “centralization has created a „bottleneck‟”);
2008 NTA Annual Report, at 260, 264 (identify the impacts of centralization as one of the top 20
problems facing taxpayers); 2004 NTA Annual Report, at 313-16.
124
    Treas. Reg. § 300.3(b)(1) (added by T.D. 9086, 68 Fed. Reg. 48,785 (Aug. 15. 2003) (effective
Nov. 1, 2003)) (originally proposed by Prop. Reg. § §300.0, 300.3, Notice of Proposed
Rulemaking Fed. Reg. Vol. 67, No. 215, p. 67573 (Nov. 6, 2002)).

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doubts as to liability, and the fee would be waived for offers made by low-income taxpayers.125

For offers accepted based on effective tax administration grounds and offers accepted based on

doubts as to collectability grounds where it was determined that collection of more than the

amount offered would create economic hardship (within the meaning of the applicable

regulation), the user fee would be applied against the amount of the offer, unless the taxpayer

specifically requested that the fee be refunded.126 The user fee is otherwise non-refundable once

the OIC has been accepted for processing.127

        6. 2005 TIPRA and Tax Relief and Health Care Act of 2006

        The most recent major set of statutory changes were made by the Tax Increase Prevention

and Reconciliation Act of 2005 (“TIPRA”).128 As a result of the changes made under TIPRA, a

partial payment of the proposed offer must now accompany any OIC that is submitted. 129 For

lump-sum offers, a payment equal to 20% of the amount of the offer must accompany the

submission.130 For periodic payment offers, a payment of the amount of the first proposed

installment must accompany the submission.131 Under TIPRA, a periodic payment or lump-sum

OIC that is not accompanied by the required partial payment may be returned to the taxpayer as

“unprocessable.”132 After TIPRA, the IRS adopted procedures to allow continued processing of

lump-sum offers in cases where less than the full amount of the partial payment required is

included in the submission.133 However, an insufficient periodic payment (i.e., an insufficient

payment accompanying a periodic payment offer) will still cause the offer to be unprocessable. 134


125
    Id.
126
    Treas. Reg. § 300.3(b)(2).
127
    Treas. Reg. § 300.3(b)(3).
128
    Tax Increase Prevention and Reconciliation Act of 2005, Pub. L. No. 109-222, § 509(a).
129
    The provision is effective for OICs submitted on and after the date that is 60 days after May
17, 2006. Pub. L. No. 109-222, § 509(d).
130
    I.R.C. § 7122(c)(1)(A)(i). A “lump-sum offer-in-compromise” means an offer of payments to
be made in five or fewer installments. I.R.C. § 7122(c)(1)(A)(ii).
131
    I.R.C. § 7122(c)(1)(B).
132
    I.R.C. § 7122(d)(3)(C).
133
    IRM 5.8.2.4.1(1) (March 26, 2010); IRM 5.8.2.8(4) (March 26, 2010).
134
    IRM 5.8.2.8(5) (March 26, 2010).

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Furthermore, for periodic payment offers, the taxpayer must also continue to make installment

payments due under such offer during the time the offer is pending, and failure to do so is

regarded by the Service as withdrawal of the offer.135 Advance partial payment(s) made by an

OIC applicant will not be refunded by the Service if the OIC is rejected.136 The IRS also

announced that it would waive the partial payment requirements of I.R.C. § 7122(c)(1) for OICs

submitted by low-income taxpayers and for OICs submitted based solely on doubts as to

liability.137 However, as discussed in Part IV.b, there was a subsequent disproportionate decline in

the number of offers submitted by taxpayers below the poverty line nonetheless.138 Finally, as a

result of the TIPRA changes, the law now provides that if the IRS does not make a determination

on the OIC within 24 months of the date the offer is submitted, the offer will be deemed

accepted.139

        Also in 2006, Congress – in the Tax Relief and Health Care Act of 2006 – amended IRC

§ 6702 to impose a $5,000 penalty for “specified frivolous submissions”, which includes

submission of a frivolous offer in compromise.140 That same Act added current I.R.C. § 7122(g),

which authorizes the IRS to disregard any portion of an OIC application that is frivolous (within

the meaning of I.R.C. § 6702(b)(2)(A)) and treat it as if it were never submitted.141 These



135
    I.R.C. § 7122(c)(1)(B)(ii).
136
    I.R.C. § 7122(c); see also IRS Notice 2006-68, § 1.02; IRS News Release 2006-106, New Law
Revamps IRS Offer in Compromise Program; 20% Up-Front Payment Required in Many Cases
(July 11, 2006); IRS Fact Sheet FS-2006-22, Revamped Offer in Compromise Program Plays
New Role in Collection Process (July 2006) (advance partial payments are considered “payments
on tax” rather than refundable deposits (citing I.R.C. § 7809(b); Treas. Reg. § 301.7122-1(h)).
137
     IRS Notice 2006-68, §§ 4.02, 4.03. A “low-income taxpayer” is defined as “an individual
whose income falls at or below poverty levels based on guidelines established by the U.S.
Department of Health and Human Services under the authority of section 673(2) of the Omnibus
Reconciliation Act of 1981 (95 Stat. 357, 511), or another measure that is adopted by the
Secretary. Id. at § 4.02.
138
    See note [182], infra, and accompanying text.
139
    I.R.C. § 7122(f).
140
    I.R.C. § 6702(b), as amended by the Tax Relief and Health Care Act of 2006, Pub. L. No. 109-
432, Division A, § 407(a).
141
    I.R.C. § 7122(g), as amended by the Tax Relief and Health Care Act of 2006, Pub. L. No. 109-
432, Division A, § 407(d). Such “specified frivolous positions” include submissions any portion

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amendments apply to “submissions made and issues raised after the date on which the Secretary

first prescribes a list under section 6702(c)”, as amended by the 2006 Healthcare Act.142 The IRS

first issued such as list in Notice 2007-30.143

b. Trends and Criticisms

        There has been a great deal of criticism of and commentary on the OIC program over the

years, and these criticisms are too numerous to list in their totality. In the remainder of this Part, I

seek to identity the key comments and criticisms that have been leveled against the program.

However, because the procedure has evolved over time, it is useless just to list the criticisms out

of context. Thus, I first identify two major problematic trends that have been visible in the

program over time: (1) inventory backlog and long processing times; and (2) declines in receipts

and acceptances paired with increases in returns of “non-processable” offer submissions. I then

show that (A) many of the changes detailed in Part IV.a can be understood as either causing or

responding to one of these problematic trends; and (B) many if not most of the criticisms,

commentary, and suggested reform of the program can be understood as being raised in relation

to one of these two problematic trends.

        The analysis in this Part ultimately shows that the two major problematic trends in

program administration and participation have been caused, in significant part, by the behaviors,

decisions, or actions of one or another participating stakeholder in the operation of the OIC

program. In turn, the criticisms and suggestions raised in response to each of the trends are

largely targeted towards correcting the underlying behavior or action giving rise to the trend in

question.

        1. 1997-2001: Increasing Inventory Backlog and Longer Processing Times


of which (1) the Secretary of the treasury lists as frivolous; or (2) “reflects a desire to delay or
impede the administration of Federal tax laws.” I.R.C. § 6702(b)(2)(A).
142
    Pub. L. No. 109-432, Div. A, § 407(f).
143
    IRS Notice 2007-30, 1007-14, I.R.B. 883 (March 15, 2007), superseded by IRS Notice 2008-
14, 2008-4 I.R.B. 310 (Jan. 14, 2008) and IRS Notice 2010-33, 2010-17 I.R.B. 609 (April 7,
2010).

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        The first problematic trend is the existence of a growing inventory backlog and longer

processing times. This trend was largely noticed between 2000 and 2002.144 In a 2002 study by

the United States Government Accountability Office (“GAO”),145 GAO found that from 1997 to

2001, OICs resolved in under 6 months had fallen from 64% to 32%, while those closed in

between 6 and 12 months rose from 29% to 43%, and likewise those which took over a year to

close nearly quadrupled from 7% to 25%.146 In FY 2000, it took the IRS about 292 days to close

an OIC case and in FY 2001, it took about 312 days.147 Further, the year end “inventory” (that is,

the backlog of cases), rose from 32,279 in 1997 to 94,931 in 2001.148 The National Taxpayer

Advocate149 has also noted the large inventory backlog and long processing times. In the 2001

National Taxpayer Advocate Annual Report to Congress, the Taxpayer Advocate cited the large

backlog and delays in deciding offers as one of the most serious problems encountered by

taxpayers.150 The Taxpayer Advocate also pointed to “unacceptable” processing times in the 2000


144
     See Sheryl Stratton, AICPA Meeting – Offers in Compromise Program Logjammed, IRS
Official Says, 89 TAX NOTES 856 (Nov. 13, 2000).
145
     GAO is a congressional agency that serves as a “watchdog” over federal government
accountability and job performance. See http://www.gao.gov/about/index.html GAO performs its
work at the request of congressional committees and subcommittees, and its duties include
“auditing agency operations to determine whether federal funds are being spent efficiently and
effectively,” “reporting on how well government programs and policies are meeting their
objectives,” and “performing policy analyses and outlining options for congressional
consideration.” Id. At the request of Senator Charles Grassley, the GAO conducted the 2002
review of the IRS‟s administration of the OIC program to investigate concerns about the
“growing backlog of cases and longer processing times.” See United States General
Accountability Office, Report to the Chairman and Ranking Minority Member, Committee on
Finance, U.S. Senate, Tax Administration: IRS Should Evaluate the Changes to Its Offer in
Compromise Program. (March 2002), at 1.
146
    2002 GAO Study, at 10.
147
    Id. at 11.
148
    Id. at 1, 10.
149
    The National Taxpayer Advocate (“NTA” or “Taxpayer Advocate”) is an independent position
within the IRS created as part of the Taxpayer Bill of Rights. See Pub. L. No. 104-168. The
advocate submits two annual reports to Congress – an Objectives Report summarizing goals and
activities for the upcoming year, and an Annual Report, summarizing the 20 most serious
problems confronting taxpayers and giving recommendations to solve these problems.
http://www.irs.gov/advocate/article/0,,id=97404,00.html. In almost every year since 2000, the
Taxpayer Advocate has either directly or indirectly cited problems with the OIC program in her
list of the most serious problems confronting taxpayers. See 2010 NTA Annual Report at 311.
150
    2001 NTA Annual Report, at 52.

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Annual Report to Congress.151 While “commending” IRS improvements to the program, NTA

found that “time frames for acknowledging and processing offers remain[ed] at an unacceptable

level of service.152

        Commentators provided various explanations (and, therefore, solutions) for this trend.

The Government Accountability Office concluded that the increase in backlog and processing

times was largely due to OIC program changes, some resulting from the 1998 Act and some from

the IRS, which led to increased demand for OICs, more processing steps, and an increase in the

number of staff hours required to process an offer – all of which outpaced staffing increases to the

OIC program.153 For instance, the Restructuring Act required that the IRS inform taxpayers about

the program, and OICs were also being increasingly publicized by practitioners.154 Likewise, in

1999, the IRS began processing incomplete applications and working to obtain the necessary

information instead of returning them.155       Furthermore, the IRS relaxed its requirements

somewhat in 1999, expanding its bases for compromise to include the current “effective tax

administration” category and offering a new long-term deferred payment option which

undoubtedly increased the pool of those who would compromise.156 GAO also noted that as

described by IRS officials, the Restructuring Act‟s requirements of independent agency review,

and the requirement that some old offers be resubmitted with the new form, added a step to the




151
    2000 NTA Annual Report, at 36.
152
    Id. at 39.
153
    2002 GAO Study, at 12-15. The 2002 GAO report sought to determine (1) the cause of the
increased backlog and processing times, (2) the viability of any IRS initiatives to reduce the
backlog and processing times, (3) whether the IRS was fulfilling the Restructuring Act‟s
requirement with respect to independently reviewing all proposed OIC rejections; and (4) the
impact on taxpayers of a 1998 IRS counsel‟s decision that IRS lacked authority to enter into
partial payment installment agreements. Id. at 1.
154
     Id. at 13; see also Steve Johnson, The 1998 Act and the Resources Link Between Tax
Compliance and Tax Simplification, 51 U. KAN. L. REV. 1013, 1039-42 (describing how “new
demands” imposed by the 1998 Restructuring Act, including OIC program “liberalization” led to
an IRS “resources bind”).
155
    Id. at 14.
156
    Id.

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process and contributed to the problem.157       Finally, the 2002 GAO report found that the

aforementioned elimination of partial-payment installment agreements, previously allowed

(sometimes for over 15 years) meant that more people now had to turn to the OIC program. 158

All these things led to more OIC requests and a greater need for staff – one the IRS could not

keep pace with.159

        Similar to GAO, the National Taxpayer Advocate attributed the increase in inventory

(and thus the backlog) to (1) IRS service improvements and changes to the criteria for a

“processable” offer, (2) the fact that taxpayers who were unable to pay in full can could longer

enter into partial payment installment agreements and must now submit “deferred payment

offers,” (3) a lack of agreement or understanding regarding the purposes of the OIC program; and

(4) the expansion of the program effectuated by the 1998 Restructuring Act.160 On the last point,

the Taxpayer Advocate noted that the great increase in the number of offer applications submitted

over the past few years had caused the delays and backlog, despite IRS efforts into improving the

program (including increased resources being committed to the program).161

        In response to the backlog and processing time problem, the IRS undertook some

initiatives to cope with the situation.162 The IRS had proposed two key initiatives – “centralized”

processing, where complex and simple offers are separated so as to maximize high-grade staff

efficiency, and “fast track” processing, where the simple offers in the current backlog would be

sent to a special “fast track” to be sorted.163 The idea was that simpler cases required fewer

formalities, and staff dealing with the simpler cases would not waste time on these formalities. 164

The IRS expected to stabilize their backlog and keep pace with new cases through the


157
    Id. at 14-15.
158
    Id.
159
    Id. at 15-18.
160
    2001 NTA Annual Report, at. 52, 54.
161
    Id. at 52-53, 54.
162
    See generally 2002 GAO Report (describing these initiatives).
163
    Id. at 19-20.
164
    Id. at 20.

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implementation of this type of processing.165 In addition, IRS proposed many other measures.

For example, the IRS proposed overtime work for some employees at processing centers. 166

Moreover, they suggested increasing the criteria for returning OICs to taxpayers to reduce time

wasted processing offers that were not serious.167 The IRS also suggested using “quick hits” to

consolidate multiple delinquencies into one series of installment payments. 168 Other measures to

reduce backlog and wait time included penalizing frivolous offers to reduce their volume, and

suspending the statutory period for collections while OICs were processed – thus reducing the

number of offers filed simply to try and delay collection until it was too late.169 The IRS likewise

proposed a change in the Code to mandate counsel review of OICs only when the amount is

greater than $250,000 instead of the current $50,000.170       Finally, the service requested the

assessment of a user fee for OICs.171 In its 2002 report, the Government Accountability Office

expressed uncertainty on whether these initiatives would be able to reduce wait time and backlog,

largely because the IRS could not provide a definite prognosis for these initiatives. 172 None of

these things were seen as definite, viable solutions under the report, largely because IRS had not

completed its own evaluation of their effectiveness.173

         In sum, there was a significant backlog problem and processing time increase for OICs

between 1997-2001, which caused serious problems for taxpayers. The commentators generally

agree that the increase was caused by a few factors, most notably, the 1998 Restructuring Act

changes and the non-availability of partial payment installment agreements, which led to a strain

on IRS resources and an inability to cope with offer volume. In response, the IRS undertook a

number of initiatives, including centralized processing, imposition of a user fee, and imposition of

165
    Id.
166
    Id. at 24.
167
    Id. at 24-25.
168
    Id. at 25.
169
    Id.
170
    Id.
171
    Id.
172
    Id. at 18-19.
173
    Id. at 27-28.

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frivolity penalties.   At the time, it was uncertain whether these measures would be effective.

Subsequent developments show that the effects of these initiatives – good and bad – were

profound.

        2. 2000-2009: Decline in Number of Offers Received and in Acceptances; Increase in

             Submitted Offers Returned to Taxpayers

        Another key problematic trend is the decline in the number of offers submitted to the IRS

as well as in the number of offers accepted between the 2000 and 2009 years. From 2000 to 2006,

received OICs declined from 109,818 to 73,301, while accepted OICs declined from 31,609 to

14,526.174 In essence, between 2001 and 2009, the program experienced steady decline of offers

received and accepted.175 On the other hand, between 2000 and 2006, repeat offers increased from

15% to 40% (reaching 44% in 2005), and 2005 data showed the majority of these were multiple

repeats.176 Also, the percentage of offers returned to taxpayers as “not processable” increased

from 39% in FY 2001 to 57% in FY 2004.177

        Various commentators have attempted to explain the decline in received and accepted

offers and the increase in the percentage of repeat offers and offer returns. In seeking to explain

the increased percentage of repeat offers, the Government Accountability Office suggested that

this could be the result of taxpayer confusion or collection delay tactics; however, it also

acknowledged that the increase could be the result of IRS desire to close cases quickly and to

reduce case inventory, creating a situation where taxpayers unable to negotiate on offers before

they are closed are forced to submit new offers.178 With respect to the decline in receipts and


174
    2006 GAO Report, at 12.
175
    2010 NTA Annual Report at 313. There was a slight improvement in FY 2010. In Q4 of FY
2010, Centralized Offer in Compromise units accepted 87% more offers than in Q4 of FY 2009,
and the dollar value of those offers increased by 64%. Id. at 316. NTA attributed the 2010 uptick
to new procedures introduced by the IRS to “streamline the centralized OIC process and found
the increase “very encouraging.” Id. at 315-16.
176
    2006 GAO Report, at 12-14.
177
    2004 NTA Annual Report at 311.
178
    2006 GAO Report, at 14. GAO noted that the IRS itself had not investigated the reasons for
the increased proportion of repeat offers.

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acceptances in the program, GAO questioned whether a decrease in program “accessibility” had

caused such decline.179 GAO noted that the Taxpayer Advocate, the American Institute of

Certified Public Accountants, the National Association of Enrolled Agents, and practitioners and

practitioner organizations have cited confusion about program requirements, lengthy processing

times, difficulty in getting reasonable offers accepted, and burdensomeness of the program as

barriers to accessibility.180 However GAO conceded that reduced program participation could

have occurred for reasons other than barriers to accessibility, and noted that IRS had not

measured the accessibility of the OIC program had changed, nor had IRS measured the declining

numbers against the changes in the pool of “potentially eligible taxpayers.”181 GAO concluded

that IRS therefore does not know whether declines in accessibility have caused participation

numbers to decline, and moreover IRS does not know whether the concerns raised by NTA and

others are correct.182

         Like GAO, the Taxpayer Advocate has also raised concerns about the decline in

submitted and accepted offers and the increase in returns and rejections, and has outlined causes

and criticisms, and ideas on how to fix the problem:

      In the 2004 Annual Report, NTA cited IRS‟s adoption of “inflexible policies” and

      “automated processes” (with the goal of managing OIC inventory) as being responsible for an

      increase in OIC returns and rejections.183 NTA claimed that the number of offers being


179
    Id. at 20-23 (defining “accessibility” as “how easy it is for potentially eligible taxpayers to
participate in the OIC program”).
180
     Id. at 20-21. In addition, The GAO report also criticized the rare use of offers based on
“effective tax administration” grounds as being inconsistent with the objectives of Congress,
given that most of the ETA offers were based on hardship and not meaningfully distinct from
offers based on doubts as to collectability. Id. at 33-37. In fact, the report pointed out that the new
ETA category may have created confusion, referring to advice from tax professionals on this
point. Id. at 37-38. GAO also investigated “offer mills” and appeals, concluding that the impact
of said offer mills was negligible, and that appeals were being afforded as Congress intended. Id.
at 28-32.
181
    Id. at 22-23.
182
    Id. at 23.
183
     2009 NTA Annual Report, at 313. NTA mentioned OIC processing centralization (in
Brookhaven and Memphis), reduction in the number of attempts SBSE would make to obtain

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    “substantively” evaluated by the IRS had decreased since the adoption of centralized OIC

    processing.184 NTA also complained that IRS data on OIC “dispositions” does not really

    indicate whether centralized processing is actually better at “substantive OIC processing” or

    whether centralization is just better at “quickly returning OICs.” 185 NTA also specifically

    cited the OIC user fee, IRS‟s refusal to process OICs from taxpayers undergoing bankruptcy

    proceedings, unrealistic expectations by the IRS, and the IRS position of rejecting offers

    where taxpayers qualify for long-term installment agreements, as contributing to high

    numbers of returns.186

    In the 2006 Annual Report, NTA noted – in expressing concern about declines in submitted

    and accepted offers187 – that based on focus group studies, “external stakeholders” (i.e.,

    practitioners) agreed that the OIC was “no longer a viable collection alternative” and that

    these stakeholders “felt that the IRS‟s first task was to find a reason - any reason – to reject

    the offer.”188 NTA recommended elimination of the 2005 TIPRA partial payment

    requirement, institution of an appeals procedure for returned offers, and expansion of

    exceptions to the partial payment requirements.189 NTA‟s concern was that the partial

    payment requirements instituted by TIPRA and the non-appelability of returned offers, would

    lead to a decline in “good” offers being submitted.190

    In the 2007 Annual Report, the NTA opined that new rules (including the 2004 introduction

    of the $150 user fee requirement and the partial payment requirements implemented by

    TIPRA), paired with the risks to taxpayers of a high rate of returned OICs and the lack of an


information from taxpayers (from “at least two” to one), and imposition of a user fee for OIC
submissions ($150 since Nov. 1, 2003).
184
    Id. at 314.
185
    Id. at 315.
186
    Id. at 319-20.
187
    2006 NTA Annual Report, at 90, 507.
188
     Id. at 91. These focus group participants “agreed that offers [were] not receiving fair
consideration.”
189
    Id. at 509, 518-19.
190
    Id. at 507-19.

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      avenue for appeal of such returns had made it more difficult and expensive for the taxpayers

      to submit OICs.191

      In the 2009 Annual Report, the Taxpayer Advocate mentioned as the causes of the decline of

      the OIC program a “daunting” application process, centralization of processing, IRS internal

      attitudes, new legislation making submission of an offer more expensive, and negative public

      perception.192 She recommended changes to improve the program and better effectuate

      congressional intent, including reinstatement of 1992 IRM provisions, reinstatement of “one-

      stop” customer service, better determinations of “reasonable collection potential”, and

      enforcement action against OIC preparers.193

          Like the Government Accountability office and the National Taxpayer Advocate, the

Treasury Inspector General for Tax Administration (“TIGTA”) has also studied the causes of

declining program participation.194 In a March 2010 evaluation report, TIGTA, like the Taxpayer

Advocate, pointed to the implementation of the IRS user fee as a possible cause of the decline.195

In addition, its June 2005 audit report, TIGTA found that IRS‟s implementation of the $150 OIC

user fee had reduced the volume of offers filed at all income levels, but that despite an exemption


191
    2007 NTA Annual Report, at 375-81. NTA noted, in particular, that the fee waiver for low
income applicants had been ineffective, citing TIGTA‟s findings that submissions from low
income taxpayers had fallen even more than for other taxpayers after imposition of the user fee.
Id. at 377.
192
    2009 NTA Annual Report, at 199-204. Note that in the 2008 Annual Report, NTA also listed
“The Impact of IRS Centralization on Tax Administration” as one of the top 20 problems, and
listed centralization of the OIC program as one of the IRS‟s centralization initiatives that had
been less than successful. Id. at 260, 264 (noting the 72% decline in offers accepted between FY
2001 and FY 2008).
193
    NTA 2009 Annual Report, at 204-216.
194
         TIGTA        provides      independent      oversight    over       the     IRS.     See
http://www.treasury.gov/tigta/about/tigta_brochure.pdf. TIGTA conducts audits of various tax
administration matters and files reports recommending reforms and improvements.
http://www.treasury.gov/tigta/oa_auditreports.shtml. Among the items studied by TIGTA have
been various aspects of the IRS‟s administration of the OIC program. TIGTA‟s reports evince
agreement with some, though not all, of the problems and criticisms identified by the Taxpayer
Advocate and Government Accountability Office:
195
     TIGTA, The Internal Revenue Service Restructuring and Reform Act of 1998 Was
Substantially Implemented but Challenges Remain, Ref. No. 2010-IE-R002, at 39-40 (March 1,
2010).

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from the user fee for poverty-level taxpayers, the decline was steeper for taxpayers whose income

was below the poverty level than for other taxpayers.196

                                              *****

           In sum, we can observe two major problem-trends in the recent history of the OIC

program – declining submissions and acceptances (together with an increases in the proportion of

repeat offers and offers returned to taxpayers), and (earlier) a backlog and processing time

problem. As described above, various commentators and stakeholders have sought to explain and

ameliorate these problematic trends, and some of their responses have created their own set of

problems. The next section explains how the behavior and interaction of the various players

effectuating the procedure can cause weakness.

      V.    EXPLAINING WEAKNESS: A POWER-DISPERSAL/INTEREST-DIVERGENCE FRAMEWORK

                                 FOR EVALUATING AND PROPOSING REFORM

           As discussed above, the OIC program has come under substantial criticism. The criticism

has not been uniform in content.197 This should not be surprising since there are clear weaknesses

in the program. In this Part, I present a coherent framework for understanding and evaluating the

ongoing weakness of the OIC procedure based on the interests and behaviors of the participants

in the program. I argue that the kinds of reforms that should be adopted are those that take into

account the role that interest divergence and dispersal of power between the players involved

plays in determining program outcomes.

196
    TIGTA, The Implementation of the Offer in Compromise Application Fee Reduced the Volume
of Offers Filed by Taxpayers at All Income Levels, Ref. No. 2005-30-096, at 1-2, 3 (June 2005)
(filings by taxpayers below poverty level declined by 36% but filings by those above poverty
level declined by only 26%). TIGTA did note than in early 2004, IRS had conducted a media
campaign to alert taxpayers about the user fee exemption for poverty level taxpayers. Id. at 2, 4.
197
     For example, the National Taxpayer Advocate has over the years (directly or indirectly)
identified problems surrounding the OIC program in her list of most serious problems affecting
taxpayers. The Treasury Inspector General for Tax Administration has been more positive than
NTA in its evaluation of IRS centralized processing, though it did find room for improvement in
the centralized processing system. See TIGTA, Centralized Sites Effectively Evaluated Offers in
Compromise from Self-Employed Taxpayers and Assisted in Reducing Overall Staffing, Ref. No.
2007-30-058 (March 26, 2007). Also, in Demonstrated in Part IV, the content of the criticisms
has varied depending on the historical context in which it arises.

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        The power to affect the OIC procedure‟s effectiveness is dispersed among four players:

(1) Congress; (2) the IRS; (3) the taxpayer; and (4) financial supporters of the taxpayer. Each of

these players is capable, through their actions, of derailing the effectiveness of the procedure.

And, each of these players has divergent and even contradictory interests in how the forgiveness

of tax debtors in general, and its specific manifestation in the OIC procedure, should operate.

Moreover, the actions of any one of these players can have feedback effects on the interests and

actions of other players. In this way, the divergent interests and behavioral responses of such

stakeholders work together to create weakness in the procedure at any given time. Thus, the

single most important factor in determining whether a suggestion to improve the program should

be adopted is whether or not that suggestion exacerbates or ameliorates the downward-spiraling

effects of these player interactions. In this Part, I briefly summarize the different roles and

interests of each of these five players in turn. I then describe two recent turning points in the

program‟s recent history that illustrate how the divergent interests and behaviors of these players

have led to suboptimal outcomes.

a. Explaining Weakness: A Power Dispersal Analysis

        1. Congress (and other Legislative Players)

        As the federal legislative body, Congress obviously has the power to impact the content

and shape of federal tax legislation. Tax legislation does not, of course, get created in a vacuum.

Rather, other participants in the tax legislative process play an important role in shaping federal

tax legislation.198 Such participants include committees, lobbyists, aides, and others. Tax

legislative players, mediated through Congressional action, have the power to suggest, enact,

amend and abolish tax legislation. Congress has in fact exercised this power with respect to the

OIC statute.199 The interactions between Congress and the other participants in the tax legislative


198
    See generally BORIS I. BITTKER & LAWRENCE LOKKEN, FEDERAL TAXATION OF INCOME,
ESTATES, AND GIFTS, at ¶¶ 116.1-116.3 [hereinafter BITTKER & LOKKEN, FEDERAL TAXATION
OF INCOME, ESTATES, AND GIFTS]
199
    See supra Part IV.a.

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process are well illustrated in the hearings and testimony leading up to the enactment of the 1998

Restructuring Act.200

        The interests of tax legislators are not static. In fact, Congressional priorities vary and

may change over time. For example, congressional motivations underlying the 2004 – 2005

statutory changes were far different from those underlying the 1998. The 1998 changes were

aimed at curbing excesses of the IRS in performing their collection function in the time period

prior to the legislation and in broadening the application of the OIC program, while the 2004 –

2006 changes showed concerning with managing the problems of an overburdened IRS.201

        2. The IRS

        The power to administer the OIC statute is vested in the IRS. The IRS is responsible for

promulgating the regulations that accompany and implement the relevant statutes, designing the

OIC Form (Form 656), and handling logistical issues of where and how OIC filings should be

handled (such as deciding whether processing should be centralized, and what kinds of employees

should handle filings, etc.). Thus, although the law is the statute is drafted and enacted by

legislators, the way in which the law is actually implemented is largely in the hands of the IRS.

        The actions and decisions of the IRS in implementing the procedure are an important

reason why the intentions of Congress, as expressed in the statute, have not always had the

anticipated results. This is not surprising since the power to effectuate the procedure rests with an

agency that does not necessarily share the Congressional interest.202 The agency also may not be

well suited to administration of a tax compromise procedure. In particular, the IRS‟s central job is

the collection of revenue, and enforcement of the tax laws. In contrast, the OIC procedure is at

core a procedure to settle the liability of the taxpayer for less than the full amount owed. It may

be too much to ask for an agency like the IRS to changes its enforcement culture overnight, even


200
    See HEARINGS BEFORE THE COMMITTEE ON FINANCE UNITED STATES SENATE, 105TH CONG.
201
    See WILLIAM V. ROTH & WILLIAM H. NIXON, THE POWER TO DESTROY (Atlantic Monthly
Press 1999); see also, generally, Part IV.b, supra.
202
    See 2011 NTA Annual Report (about how IRS has not fulfilled its welfarist mission).

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in the face of a major piece of legislation.203 Thus, the IRS may by its very nature be ill-suited to

the implementation of a robust OIC procedure.

        His point is not new: the perils of expanding the job of the IRS beyond its fundamental

collection mission has also been brought up most recently in the context of the expanding role of

the IRS in administering social programs.204 Practitioner groups and the National Taxpayer

Advocate have also noted in recent years that the IRS‟s actions in administering the OIC program

reflect “another agenda” that influences effectiveness and outcomes in OIC program

administration.205




203
     An example of such legislation is the 1998 Restructuring Act. The idea that it can be
problematic to ask the IRS to perform a welfare function that is at odds with its enforcement
culture is not new. In fact, the point has been recently raised by commentators with respect to the
question of whether the IRS should be asked to administer the recent Healthcare Act. [ ].
204
    See id.
205
    2006 NTA Annual Report to Congress Vol. 1 at 91 & n. 49 (citing 2005 IRS Nationwide Tax
Forums, Offer in Compromise Focus Group Report (Nov. 2005); id. at 99 (noting that in NTA‟s
encounters with the IRS, NTA “has also encountered what practitioners have described to us as
„another agenda‟, including (1) IRS concern that increase in use of collection alternatives will
harm voluntary compliance; (2) reluctance of IRS to appear to be an “installment lending”
institution; and (3) IRS concern with discouraging abusive use of the OIC procedure).

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         3. The Taxpayer

         A third player in the effectuation of the OIC procedure is obviously the taxpayer herself.

In order for an offer to be processed, handled, and approved, it first has to be filed, and this has to

be done by the taxpayer. While certain IRS initiatives have explored how to bring the OIC

alternative “to the taxpayer” by identifying those taxpayers most likely to benefit from the

procedure,206 such initiatives have not changed the underlying structural reality, which is that the

taxpayer initiates the filing. Decisions confronting the taxpayer in this regard include: whether to

file, when to file, how much to offer, and whether to make a lump-sum or a periodic payment

offer.

         The motivations of the taxpayer will generally be to minimize or at least reduce the dollar

amount that has to be paid. However, this deceptively simple statement obscures a more

complicated calculus. For example, the chances of the offer being successful have to be weighed

against the potential consequences of giving the IRS information that it might not previously

possess about the taxpayer‟s assets and financial situation and having the offer be rejected. Thus,

whether or not to make an offer involves a balancing of the chances of success against the odds of

detection and follow-up IRS action. In addition, after the introduction of the partial payment

requirement, the taxpayer will also have to weigh the odds of success against the chance that, in

the event of an offer being rejected, the IRS may refuse to return the partial downpayment

submitted with the offer.207 The taxpayer will also have to consider how the making and

acceptance of an offer may impact her ability to pay the other debts she owes, and whether an

offer, even if accepted, is likely to be successful in the light of other debts owed. Finally, the

taxpayer will likely weigh the advantages of a bankruptcy filing over the unilateral filing of a tax

OIC. The outcome of such calculus will vary between taxpayers, and will depend on the specifics


206
    Such an approach was recommended, for example by TIGTA in its July 17, 2006 audit report.
See TIGTA, The Offer in Compromise Program Is Beneficial But Needs to be Used More
Efficiently in the Collection of Taxes, Ref. No. 2006-30-100 (July 17, 2006), at 18.
207
    IRS Notice 2006-68.

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of each taxpayer‟s situation, including the type of tax debts, the years at issue, whether or not the

taxes are dischargeable in bankruptcy, the availability of bankruptcy as an alternative, the debts

owed by the taxpayer to other creditors.

        4. Other Stakeholders

        In addition to the legislature, the Service, and the taxpayer, the motivations and actions of

those who bankroll the taxpayer‟s offer have to be taken into account. Oftentimes, the taxpayer‟s

ability to propose and make good on an offer is dependent on the goodwill and financial

assistance of family members, friends or banks.208 This is particularly so after the introduction of

the partial payment requirement.209 The observation is that the introduction of the partial payment

requirement has made it more difficult for taxpayers to obtain the means to fund proposed offers,

because financial supporters (both familial and financial) may not be willing to provide the funds

to enable taxpayers to make an offer, particular given that these funds may be retained by the IRS

if the offer is rejected.210 Thus, the decisions of these players who financially support the taxpayer

are critical in determining whether offers are proposed, accepted, or successfully concluded.

        The interests of these bankrollers are in direct opposition to the interests of the IRS. They

may not always be completely aligned with taxpayer interests either. The presence of these

stakeholders may therefore cause program reforms to have consequences different from what was

intended. In performing their calculus, these players may, for example, consider the likelihood of

successful debtor rehabilitation, the other non-tax debts of the tax debtors, and other factors. If the

taxpayer‟s financial backers determine that a proposed offer is unlikely to be accepted and the

downpayment lost, their unwillingness to extend funds will effectively chill the market for offers,

irregardless of whether the taxpayer herself is willing to attempt an offer.

208
    See generally 2007 NTA Annual Report to Congress, at 379 (discussing sources of funding for
submitted offers).
209
    See 2007 NTA Annual Report to Congress vol. 2, Effect of Tax Increase and Prevention
Reconciliation Act of 2005 on IRS Offer in Compromise Program.
210
    Id. at 77 (finding that “[t]he most common source of offer funds is family and friends. It is
unlikely that these third parties will provide funds for an offer since they are likely to forfeit 20
percent of the offered amount without compromising the liability for the taxpayer”).

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b. Power Dispersal, Interest Divergence, and Feedback Effects in Action – A Story of Two

      Recent Historical Turning Points

         The manner in which the divergent interests and dispersed power of these four separate

stakeholders may operate to create unexpected and suboptimal outcomes can be illustrated by

considering two recent but related turning points in the development and administration of the

procedure.

         1. 1998 Changes, and IRS Responses to 1998 Changes

         Feedback effects between stakeholders with divergent interests arguably affected the

outcomes of changes made by the 1998 Restructuring Act. As discussed in Part IV, the 1998

Restructuring Act imposed new requirements on the IRS with respect to the OIC program, which

were aimed at making the program more accessible to taxpayers.211 Unfortunately, the reactions

and responses of the IRS stakeholder in reaction to the changes by the legislative stakeholder

limited the effectiveness of the 1998 changes.

         While the on-the-book changes made by Congress in 1998 were aimed at increasing

accessibility to the taxpayer of the OIC program, the on-the-ground implementation of such

statutory changes by the IRS probably in fact led to a decrease in taxpayer accessibility. Such

diminished accessibility is reflected in the growing inventory of cases and longer processing

times.212 As discussed in Part IV.b, these impacts were in part due to the 1998 Restructuring Act

changes themselves but were also in part due to the IRS‟s responses to and implementation of the

legislative changes.213 For one thing, there was an on-the-ground capacity issue - the demands of


211
     See Part IV.a, supra. Among these changes were the introduction of a new ground for
acceptances of offers (the effective tax administration ground), new requirements for independent
administrative review before rejecting an offer, a requirement of a “facts and circumstances”
analysis of each case, and a requirement that IRS not reject offers from low-income taxpayers
solely based on amount of the offer. See Part IV.A, supra; see also United States General
Accountability Office Testimony of Michael Brostek, Director, Tax Issues, Before the
Committee on Finance, “Tax Administration: Information on Selected IRS Tax Enforcement and
Collection Efforts, GAO-01-589T (April 5, 2001).
212
    See Part IV.b, supra.
213
    See generally 2002 GAO Report.

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the congressional changes (which had led to greater offer demand, more processing steps, and an

increased number of staff hours required to process an offer) outpaced IRS staffing increases. 214

In addition, the IRS, in response to the demands created by the congressional changes, undertook

its own independent initiatives to reduce offer processing time and inventory, the effects of which

were uncertain.215 IRS responses to the inventory backlog and increasing processing times

included institution of “centralized processing” of certain OICs in Brookhaven, New York, and

Memphis, Tennessee, which shifted offer processing responsibility away from the Collection

Field Function personnel to these centralized campuses.216 As noted repeatedly by the Taxpayer

Advocate and other commentators, centralized processing may have had the effect of reducing the

number of accepted offers, thereby reducing taxpayer accessibility to the program rather than

increasing it.217 In her most recent Annual Report to Congress, the Taxpayer Advocate noted that

(1) centralization essentially involved more emphasis being placed on “„moving‟ the workload,

rather than employees resolving collection cases with OICs” and that (2) OIC acceptances

declined each year following centralization, illustrating the “bottlenecking” effect on

processing.218 Other IRS responses to the 1998 Restructuring Act changes – such as advocating

for penalties for frivolous offers, proposing imposition of a user fee, introduction of a partial

payment requirement, and looking at potential suspension of the collection statute when an offer

is submitted, all of which eventually were legislated into reality – also had feedback effects on the




214
    Id. at 2, 9.
215
    Id. at 18-19.
216
    GAO-01-311, at 19 (discussing centralized processing and fast-track processing as two key
IRS initiatives to reduce inventory backlog and processing times).
217
    2009 NTA Annual Report, at 201. The IRS appeared to disagree with this, noting that while
centralization of OIC sites was established in 2001, new offers received by the IRS still increased
from fiscal years 2001, 2002, and 2003, and arguing, therefore, that the subsequent decline in new
offers received was not attributable to centralization of processing. See 2008 NTA Report, at 269.
The Taxpayer Advocate has countered that the delayed decline may be attributable to a time lag
in taxpayer‟s adjusting their behavior, and moreover points out that OIC acceptances by the IRS
declined immediately after centralization of processing, in fiscal year 2002. Id. at 272 n.32.
218
    2009 NTA Annual Report, at 201.

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actions of taxpayers, chilling taxpayer participation in the OIC procedure.219 Instead of reducing

frivolous offers, such reforms in fact had the effect of reducing all offers.220 Thus, the actions of

the IRS, and the feedback effects of such actions on the behavior of taxpayers, ultimately served

to undermine the intentions of Congress in enacting the 1998 Restructuring Act changes.

        2. Taxpayer (and Other Stakeholder) Reactions the Partial Payment Requirement, User

            Fees, and Frivolity Penalties.

         As described in Part IV.a, the years 2005 to 2006 also brought significant changes to the

OIC statute.221 One of the changes was the requirement that submitted offer proposals be

accompanied by a partial downpayment in order to reduce frivolous offers.222 Under TIPRA,

some offers that are not accompanied by the required partial payment may be returned to the

taxpayer as “unprocessable.”223 Advance partial payment(s) made by an OIC applicant are not

refunded by the Service if the OIC is rejected.224 In 2006, Congress also amended Section 6702 of

the Code to impose a $5,000 penalty for “specified frivolous submissions”, including submission




219
    See 2002 GAO Report.
220
    See Part IV.b, supra.
221
    See Part IV.a, supra.
222
     2005 TIPRA. For lump-sum offers (i.e. OICs of payments to be made in five or fewer
installments), a payment equal to 20% of the amount of the offer must accompany the
submission. I.R.C. § 7122(c)(1)(A). For periodic payment offers, a payment of the amount of the
first proposed installment must accompany the submission. I.R.C. § 7122(c)(1)(B). As noted in
Part [], supra, the IRS has announced that it will waive the partial payment requirements of I.R.C.
§ 7122(c)(1) for OICs submitted by low-income taxpayers and for OICS submitted based solely
on doubts as to liability.
223
    I.R.C. § 7122(d)(3)(C). The IRS has adopted procedures to allow continued processing of
lump-sum offers in cases where less than the full partial payment required has been included in
the submission. IRM 5.8.2.4.1(1) (March 26, 2010); IRM 5.8.2.8(4) (March 26, 2010). However,
an insufficient periodic payment (i.e., a payment accompanying a periodic payment offer) will
cause the offer to be unprocessable. IRM 5.8.2.8(5) (March 26, 2010).
224
    I.R.C. § 7122(c); see also IRS Notice 2006-68, § 1.02; IRS News Release 2006-106, New Law
Revamps IRS Offer in Compromise Program; 20% Up-Front Payment Required in Many Cases
(July 11, 2006); IRS Fact Sheet FS-2006-22, Revamped Offer in Compromise Program Plays
New Role in Collection Process (July 2006) (advance partial payments are considered “payments
on tax” rather than refundable deposits (citing I.R.C. § 7809(b); Treas. Reg. § 301.7122-1(h)).

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of an offer in compromise that is “frivolous.”225 And, in 2003, the IRS introduced a $150 user fee

requirement for submission of an OIC.226

        The 2004-2006 amendments had the effect of discouraging taxpayers from submitting

offers in compromise. Non-refundable partial payments, user fees, and frivolity penalties are all

changes that raised the costs to taxpayers of filing an offer. As illustrated in Section V.a.1, the

reasons for the changes stemmed from competing incentives of two of the actors in the OIC

game. Both Congress, as the enactor of the legislative change, and the IRS, as the administrator of

the OIC procedure, were concerned about resource issues facing an overburdened IRS stemming

in part from the 1998 Restructuring Act changes.227 As already noted, the IRS was active in

advocating for penalties for frivolous offers, proposing imposition of a user fee, and looking into

potential suspension of the collection statute when an offer is submitted, changes which were

supported by Congress.228 It was thought that these changes would reduce the number of frivolous

offers received by the IRS and would help reduce the backlog of offers in the processing queue.229

Unfortunately, these changes had a feedback effect on other stakeholders: taxpayers and their

financial supporters, who exercise ultimate power over the volume of offer submissions, and who




225
    I.R.C. § 6702(b), as amended by the Tax Relief and Health Care Act of 2006, Pub. L. No. 109-
432, Division A, § 407(a). Congress also added I.R.C. § 7122(g), authorizing the IRS to disregard
any portion of an OIC application and treat it as if it were never submitted. IRC §7122(g), as
amended by the Tax Relief and Health Care Act of 2006, Pub .L. No. 109-432, Division A, §
407(d).
226
    Treas. Reg. § 300.3(b)(1) (added by T.D. 9086, 68 Fed. Reg. 48,785 (Aug. 15. 2003) (effective
Nov. 1, 2003). However, no user fee is charged for offers based solely on doubts as to liability,
and the fee is waived for offers made by low income taxpayers. Id. For offers accepted based on
effective tax administration grounds and offers accepted based on doubts as to collectability
grounds where it is determined that collection of more than the amount offered will create
economic hardship (within the meaning of the applicable regulation), the user fee will be applied
against the amount of the offer, unless the taxpayer specifically requests that the fee be refunded.
Treas. Reg. § 300.3(b)(2).The user fee is otherwise non-refundable once the OIC has been
accepted for processing. Treas. Reg. § 300.3(b)(3).
227
    [    ]
228
    See 2002 GAO Report.
229
    Id.

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had an interest in minimizing both detection and taxes paid, became less inclined to file or fund

any offers, even those that had not become more costly as a result of the 2004-06 changes.230

        Part of the problem, as the NTA and other commentators have noted, is that taxpayers

submitting OICs have not generally had the cash on hand to fund proposed offers and may have

to borrow from family members or banks.231 The new partial payment requirement, and the risk

that any part payment would not be refunded upon rejection of the offer (or default), made

financial backers of offering taxpayers less willing to lend or give money to such taxpayers.232

For example, banks might be unwilling to lend to taxpayers unless a forgiveness of some tax

liability improves their chance of repayment (or their place in the lending queue); such banks

would therefore be less willing to lend the funds to pay a partial payment where the funds may be

retained if the offer is rejected.233 Family members, too, may be less willing to extend funds for

such requirements where there is no guarantee that some part of the tax debt will be forgiven.

        In short, while the intention of the Service and Congress in pushing for and enacting the

2004-2006 changes may have been to reduce the number of frivolous offers and to reduce waste

of IRS resources, the reactions and responses of other stakeholders to these changes led to a

reduction in program viability. The interaction of the stakeholders in negotiating these changes

shows that because of divergent interest and dispersed power between stakeholders, the effects of

any reform can be indeterminate.

                                             *****



230
    See Part IV.b, supra. For example, TIGTA has noted that the decline in offers received as a
result of user fees has been biggest among taxpayers below the poverty line, even though the user
fee is waived for such taxpayers. TIGTA, The Implementation of the Offer in Compromise
Application Fee reduced the Volume of Offers Filed by Taxpayers at All Income Levels, Ref. No.
2005-30-96 (June 14, 2005), at 3.
231
    2007 NTA Annual Report, at 379 & id., vol. 2, at 76 (finding that in approximately 70% of
cases accepted before TIPRA, the 20% partial payment requirement “was not available from
liquid assets”).
232
    Id.
233
    In that scenario, the taxpayer would no longer have the money, the underlying tax debt would
not be compromised, and the bank‟s chances of being repaid would be low.

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            Thus, an examination of these two recent turning points shows how, despite the

intentions of one stakeholder, the offsetting response of another stakeholder who is capable of

impacting the OIC program‟s effectiveness can to cause attempted improvements to not be

effective. Observations of player behavioral reactions to the last two sets of major changes

occurring in the OIC program – IRS reactions to the 1998 Act changes and taxpayer and other

stakeholder reactions to the 2005-6 changes – support the observation that an important challenge

confronting any reform to the OIC procedure is the fact that the responses of one or more

stakeholders to any reforms may render such reforms ineffective of even harmful. Part VI carries

the analysis a step further, discussing the kinds of reforms that should be adopted, given the

power dispersal/interest divergence framework just presented.

      VI.     EVALUATING PROPOSALS FOR REFORM: ELIMINATING DESTRUCTIVE INTERACTIONS

                                   BETWEEN COMPETING STAKEHOLDERS

            As discussed in Part V, the power to effectuate the OIC procedure is dispersed among

four different players, and these players have divergent and competing interests.234 The actions of

each of the players, and the reactions of one player to the behaviors of other players, can create

counterproductive, downward-spiraling effects that undermine the ultimate effectiveness of the

procedure. If my analysis of stakeholder dynamics is correct, then it stands to reason that what is

required in order to create a successful program is either centralization of power among fewer

stakeholders, or elimination of those features that provoke destructive or unproductive

interactions between divergent interests that create negative feedback effects, or both.

Centralization of power, standing alone, is difficult to accomplish. The whole reason that the OIC

procedure exists in the first place is due to the debtor-creditor relationship between the taxpayer




234
      See Part V, supra.

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and the IRS. As mentioned earlier, this relationship is not entirely voluntary, but rather is foisted

upon the participants by structural features of the tax system.235

        Further, it will not be easy to disrupt pre-existing relationships between taxpayers and

their financial backers, whether familial or arm‟s length. Disrupting familial relationship

dynamics would require making changes to the underlying social fabric, and disrupting arm‟s-

length lending relationships would involve fundamental changes to economic and financial

realities. Finally, the realities of the tax legislative process mean that it is virtually impossible to

remove Congress from the mix as a participant. The tax legislative process ensures that proposals

can and do go before Congress from the Treasury and the IRS as well as from other sources. 236

Thus, Treasury and IRS proposals that go before and are passed by Congress may trigger

reactions from other stakeholders; conversely, legislation reflecting other stakeholder interests

may trigger reactions (sometimes in the form of legislative proposals) from IRS and Treasury.

        Hence, rather than unrealistically trying to centralize power or eliminate stakeholders, it

is more realistic to focus on eliminating features of the procedure that provoke destructive or

unproductive interactions between divergent interests, evaluating reforms based on whether they

are cognizant of the effects of divergent stakeholder interactions, and introducing reforms that

minimize (or at least account for) such unproductive interactions. I now suggest two specific

reforms that are consistent with my proposed analytical framework for evaluating reforms. I then

provide one example of a proposed reform that should not be implemented because of the

destructive stakeholder interactions it would provoke.

a. Reforms that Might Work




235
    Such as the fact that tax withholding is never perfect (and thus the taxpayer will sometimes
hold funds that are owed the government), and that the tax system largely operates on an annual
tax year basis with an annual tax return filing requirement (rather than a system where taxes are
paid as soon as accrued)
236
    BITTKER & LOKKEN, FEDERAL TAXATION OF INCOME, ESTATES, AND GIFTS, at ¶¶ 116.1-
116.3.

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        Consistent with the above analysis, there are two concrete suggestions that could be

adopted that will reduce downward-spiraling interactions between stakeholders. First, creation of

an independent (i.e., non-IRS) adjudicator of offers will make the process less adversarial and

less likely to trigger strong reactions of divergent interests. Second, rethinking the rules that

govern failed offers – that is, offers that fail to be accepted, and offers that, though accepted, fail

to be seen through completion – can also help mitigate adverse and counterproductive stakeholder

reactions.

        1.       Creation of a Non-Stakeholder Initial Adjudicator of Offers

        Under current procedures, “simple” offers are generally reviewed by the IRS for

processability in Brookhaven or Memphis and then processed by the IRS. 237 As discussed,

various aspects of IRS processing have come under criticism.238 Real or perceived IRS unfairness

in deciding whether to accept or reject offers may have led to reluctance on the part of taxpayers

to submit offers, particularly given the non-refundability of partial payment requirements.239

Thus, the agenda of one stakeholder causes another to change their behavior by withdrawing

participation.

        From the perspective of eliminating harmful interactions between players, the process

would be greatly improved if an independent third party performed the processing of offers. The

current approach – whereby proposed offers are submitted to the IRS and the IRS determines

whether to accept, reject or return as unprocessable the proposed offer – can be likened to the

cases where a debtor simply asks a creditor to forgive part of the debtor‟s mortgage (for example,

a mortgagor asking a mortgagee to consent to a short sale). In the mortgage scenario, the

mortgagee is unlikely to acquiesce unless the mortgagor has some degree of leverage in the

237
    See Part IV.a, supra.
238
    For example, the NTA and practitioners have voiced concerns that centralized processing has
led to IRS failure to consider the exigencies of taxpayers in various geographical areas. See supra
notes [] and accompanying text. More broadly, taxpayers and their advocates have complained
that the IRS has a “hidden agenda” and is too invested in summarily (and unfairly) rejecting
offers. See supra note 205 and accompanying text.
239
    See Part IV.b, supra.

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negotiation (such as the threat of “walking away” from the property and forcing the

commencement of foreclosure proceedings). An unsecured creditor (such as a credit card lender)

is probably less likely to acquiesce because an unsecured debtor likely has less leverage to

negotiate down the debt.240 In the taxpayer-IRS case, the IRS is no less a creditor than a private

creditor. However, a distressed taxpayer, like an unsecured creditor, is unlikely to have the

leverage possessed by a distressed mortgagor, because the statute of limitations on the collection

of tax debts is long, and because (as discussed in Part III.d above) filing for bankruptcy protection

is an increasingly unavailable alternative. Even if the taxpayer does have such leverage, the IRS

employee processing the case may have less incentive than the bank employee to recognize and

respond to the presence of such leverage.

        The idea that an independent third party adjudicator would improve interactions and

results between the IRS and a taxpayer is not without precedent. Interpolation of an independent

(or at least a less enforcement-minded) third-party mediator or adjudicator was suggested, for

example, by more than one witness at the 1998 Restructuring Act congressional hearings.241

Arguably, the perceived merits of having an independent voice in the collections process were

what led to the creation of the Office of Appeals, to which rejections of proposed offers are

currently appealable.242 Having rejections of submitted offers be appealable to an independent

appeals function is a step in the right direction. So, too, is the pilot arbitration and mediation


240
    Unless there is a viable threat of bankruptcy filing.
241
    HEARINGS BEFORE THE COMMITTEE ON FINANCE UNITED STATES SENATE, 105TH CONG. 2D
SESS. ON H.R. 2676, S. HRG. 105-529 (Jan. – Feb. 1998), at 241 (prepared statement of Douglas
C. Burnette on behalf of the National Society of Accountants; recommending that “the Finance
Committee consider removing the Offer in Compromise program from Collections and placing it
in a more suitable location within the IRS, such as Appeals or an expanded and independent
Taxpayer Advocate‟s Office”); see also id. at 377 (prepared statement of Michael I. Saltzman;
“[a] third party should be interposed in the offer in compromise process to help the taxpayer and
the IRS collection officer work out an agreement. . . . The third party should … have as his or her
objective, the development of a practical and attainable plan to pay as much of the tax as possible.
. . . [The third party] may come from a specialized group in the IRS‟s Appeals Division, the
Taxpayer Advocate‟s Problem Resolution function, or outside private practitioners who have
these skills”).
242
    [    ]

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program currently available in some cases after unsuccessful attempts at entering into an OIC.243

However, the process of filing and offer, waiting for it to be rejected, and then appealing and/or

applying for mediation, is a lengthy one. The process may discourage the filing of OICs by

taxpayers who are suspicious of the IRS‟s intentions and process, despite the existence of appeal

rights.

          Creation of an independent adjudicator of offers would minimize the detrimental effects

of divergent interests. First, creation of an independent adjudicator would better reassure

taxpayers that they were getting a “fair shot” at having their initial offer accepted. This is likely

reduce the current dynamic where taxpayers feel that they are bound to lose their partial payment

downpayment if their offers rejected and react by ceasing to make even meritorious offers.244

Creation of an independent adjudicator will also reduce the workload of the IRS, which will

reduce counterproductive IRS responses designed to reduce caseloads and processing times. 245

Even if the workload has just been shifted to an independent adjudicator, it is less likely that such

adjudicator will have the same degree of power, incentive, and influence as the IRS to effect the

kinds of legislative and administrative change that may influence taxpayer-stakeholder behavior

in detrimental ways. Thus, on both the taxpayer side and the IRS side, having an independent

adjudicator of offers should minimize the downward-spiraling dynamics of divergent interests

and lead to greater program success.

          2.     Re-Thinking Implementation of User Fee and the Partial Payment Requirement.

          Another reform that could be adopted that would lessen the effects of interest-divergent

behaviors among players is to reconsider and modify the treatment of certain aspects of returned

243
    I.R.C. § 7123. Under I.R.C. § 7123, the IRS was required to establish a pilot program by
which the taxpayer and the Office of Appeals can jointly request arbitration for any factual issue
unresolved at the conclusion of an unsuccessful attempt to enter into an OIC. See also IRS
Announcement 2011-6; Rev. Proc. 2009-44, 2009-40 IRB 462, IRS Announcement 2008-111;
Rev. Proc. 2006-44.
244
    Which practitioners have noted.
245
    As noted above, IRS initiatives (such as introduction of user fees, frivolity penalties, and
partial payment requirements) aimed at reducing backlog have had the undesirable effect of
reducing even meritorious offers. See Part [] supra.

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and rejected offers. Specifically, the current user fee and partial payment requirements need to be

rethought and reconfigured. As discussed above, one of the harmful dynamics that has surfaced in

the administration of the OIC procedure is that IRS and legislative initiatives (such as the

imposed user fee, partial-payment requirement, and frivolity penalties) to reduce backlog and

reduce frivolous offers have led to a decline in good offers as well as frivolous ones and has had a

particularly chilling effect on taxpayers below the poverty line.246 In particular, the institution of

the partial-payment requirements for both lump sum and installment OICs has disincentivized

taxpayers and their financial backers from submitting offers.247

           Having a partial payment requirement or user fees is not per se a bad thing – such

barriers to entry can have the effect of ensuring that taxpayers are likely to be able to satisfy the

offers they make, and of reducing the costs of the program by discouraging submission of

unrealistic offers.248 Therefore, the solution is not necessarily to eliminate all fees and

payments.249 On the other hand, the non-refundability of fees and downpayments goes a step too

far.250 While the submission of a downpayment may insure against a “subprime” offer, non-

refundability creates a situation where the taxpayer and her financial backers effectively have to

make a “bet” that her offer will be accepted. The cost of the bet is that if the taxpayer is wrong,

she loses the downpayment or fee. A taxpayer and/or a financer of the taxpayer who is forced to

make such a bet might well conclude that it makes no sense to submit the offer (or, in the case of

a financial backer, to lend or give funds to the taxpayer who is submitting the offer), especially

246
      See Part IV.b, supra.
247
248
    Stated differently, a 20% downpayment requirement can prevent “subprime” offers from being
accepted.
249
    In this, I differ from the Taxpayer Advocate. Note that there was legislation pending to repeal
the partial payment requirements imposed by TIPRA. Tax Compromise Improvement Act of
2009, H.R. 2343, 111th Cong. § 2 (May 12, 2009). However, the proposed legislation was never
enacted.
250
    As described elsewhere in this paper, the IRS will not return the user fee if it accepts a
proposed offer for initial processing but subsequently returns it. NTA 2007 Annual Report at 377.
And, lump-sum or periodic partial payments submitted will be treated as payments of tax, and not
a refundable deposit, and therefore will not be refunded if the IRS returns or rejects the offer.
Notice 2006-68; see also NTA Annual Report at 380.

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since the party reviewing the offer is the creditor to whom the liability is owed, who has an

incentive to reject the offer and retain the downpayment.251 In addition, there will also likely be

an incentive for the taxpayer to submit a “lowball offer,” since this will reduce the amount “lost”

if the offer is rejected or returned and the partial payment retained.252

        Therefore, while there are plausible arguments in favor of allowing the imposition of user

fees and downpayment requirements to continue (though they should be relaxed in appropriate

circumstances, as is current practice), any such partial payments made should be refundable to the

taxpayer in the case of a rejected or returned offer. This will minimize the likelihood of taxpayers

reacting to the partial payment and user fee requirements that have been put in place by the IRS

by “refusing to play.” To further encourage taxpayers (and their bankrollers) to submit offers, and

assuming my first proposal (i.e., the creation of an independent initial adjudicator) is also

adopted, a system could be put in place whereby partial payments are escrowed or otherwise

placed in the hands of a non-creditor party, to either be applied to the tax liability (should the

offer be accepted) or returned to the taxpayer (should the offer be rejected). Such a system would

achieve the objective of weeding out non-viable offers while not also causing a precipitous

decline in the number of viable offers being submitted. Put differently, such a system would

promote the interests of the tax collector while not incentivizing taxpayer (and taxpayer financial

backer) reactions that jeopardize the effectiveness and relevance of the procedure.

b. A Reform that Probably Won’t Work

        Under the framework proposed in this paper, reforms should be evaluated based on

whether they may lead adverse behavioral responses by stakeholders with divergent interests, and


251
    This is especially problematic given the 2007 Taxpayer Advocate Service study that showed
that in approximately 70% of offers accepted by the IRS prior to introduction of the partial
payment requirement and other 2005 TIPRA changes, the 20% partial payment requirement
would not have been available from the taxpayer‟s “liquid assets,” a finding that underscores the
importance of financial backers of the taxpayer. 2007 NTA Annual Report at 379.
252
    The incentive to “lowball” has previously been noted by the Taxpayer Advocate. See 2007
NTA Annual Report at 379.


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reforms that generate such responses should viewed with suspicion. An example of such a reform

is a 2006 recommendation by TIGTA that more be done to generate collections on taxpayer

accounts for which OICs were either rejected or returned. In its report, TIGTA observed that

while OIC determinations involve the investment of much time and resources, “when an offer

evaluation results in a decision not to accept, the IRS generally returns the taxpayer‟s delinquent

account to the normal collection process” and that “the systemic processes involved, in effect,

suspend the IRS‟ contact with the taxpayers while delinquent accounts await assignment to other

collection functions.”253 TIGTA recommended that the SB/SE Commissioner should look at the

effectiveness of collections efforts on taxpayer accounts for which OICs were not accepted and

consider whether more could be done to collect on those accounts.254 In response, the IRS noted

that it was “evaluating the use of a Hand-Off Unit at the Brookhaven campus,” which “initiates

appropriate collection procedures on rejected or withdrawn cases,” and would determine whether

such a Unit should be permanent.255

        It is probably true that more aggressive efforts could be undertaken to generate

collections off accounts for which OICs have not been accepted. And, such efforts may make

sense, given that submitted OICs may generate contact with the delinquent taxpayer and

knowledge of the taxpayer‟s assets that could be leveraged into higher collections. Yet, such

efforts must be approached with caution. If potential applicants perceive that there is an

information risk associated with the act of offering to compromise a tax, and that information

provided may be used to “chase” taxpayers harder after an offer is rejected, this is likely to

disincentive such taxpayers from submitting an offer. This is especially likely in an environment

in which taxpayers and their representatives already perceive unwillingness on the part of the IRS

to accept offers. Thus, implementation of more aggressive and efficient collections actions on


253
     TIGTA, The Offer in Compromise Program is Beneficial but Needs to Be Used More
Efficiently in the Collection of Taxes (July 17, 2006), at 22.
254
    Id. at 26.
255
    Id.

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rejected (or returned) offers is exactly the kind of reform that, while undertaken by one

stakeholder (the IRS) with good intentions, could cause another (the taxpayer-applicant) to react

in ways that ultimately harm the effectiveness of the program. The potential adverse implications

of this proposal therefore need to be seriously analyzed before being adopted

                                       VII.    CONCLUSION

        The offer in compromise program is not a strong one, but it needs to be. Jurisprudential,

socioeconomic, practicality, rehabilitative, and tax justice considerations all support the existence

of a meaningful tax debt forgiveness procedure. Unfortunately, the OIC program is structured in

a way that tends to compromise its effectiveness. I have argued in this paper that the power to

implement the OIC program and to impact its effectiveness is dispersed among four players with

conflicting and contradictory interests in how the forgiveness of tax debtors in general, and the

OIC program in particular, should operate: (1) Congress; (2) the IRS; (3) the taxpayer; and (4)

financial backers of the taxpayer. Over time, the actions and decisions of each of these players

have feedback effects on the behavior of other players, such that overall programmatic

effectiveness is constantly undermined. In sum, dispersion of power, divergence of interests, and

behavioral feedback effects work together to ensure that the program perpetually self-corrects

towards a weak or ineffective equilibrium.

        To counteract the effects of power dispersal and interest divergence, the OIC procedure

must be reformed by either centralizing power among fewer stakeholders or eliminating features

that provoke downward-spiraling interactions of divergent interests, or both. Since it is hard to

modify the dynamics of power dispersal in an IRS-taxpayer dynamic, the latter strategy is more

effective. In particular, restructuring the program such than an independent adjudicator

determines whether to accept submitted offers, and rethinking the treatment of “failed” offers (in

terms of the user fee and partial payment requirements) are both concrete reforms that can

minimize the downward-spiraling effects of divergent and competing stakeholder interests. On

the other hand, reforms currently being considered that will use information and taxpayer contact

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1/21/11 SYO Draft-in-Progress. Do not cite, quote, or circulate. Copyright Shu-Yi Oei.


generated through submitted but non-accepted offers in order to generate subsequent collections

will likely maximize such effects, and should be seriously evaluated before adoption. I do not

mean to suggest that the solutions I have proposed are the only way in which the OIC procedure

can and should be reformed. Rather, the point is that meaningful structural reform is a

prerequisite to effective programmatic change.

                                                  ***




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