Vol. 6, No. 5, Pg. 21. Help is Available for the Insolvent Taxpayer.

• Author: By Langdon M. Cooper and John H. Grzffing

South Carolina Lawyer

1995.

Vol. 6, No. 5, Pg. 21.

Help is Available for the Insolvent Taxpayer

21Help is Available for the Insolvent TaxpayerBy Langdon M. Cooper and John H. GrzffingWhen a client cannot pay the IRS, what can he or she do? Believe it or not, there are several options available. The traditional tax methods include the statute of limitations defense, qualifying for uncollectible status, penalty abatements, installment plans and offers in compromise, but there is also bankruptcy.

Statute of Limitations for Tax Liabilities

The statute of limitations is often the friend of the insolvent taxpayer. There are two relevant statutes: one for assessment (the determination of a taxpayer's liability) and one for collection of the taxpayer's liability. Several factors affect application ofthe statute of limitations for tax assessment and collection. The taxpayer's advisor should be certain to determine if assessment or collection is time barred.

Internal Revenue Code (IRC) § 6501 governs the statute of limitations for tax assessment. Under IRC § 6501, the IRS must assess a tax within three

22years after the return is filed, whether or not the return was filed on or after the due date. If the taxpayer files a false or fraudulent return, no statute of limitations exists to prevent assessment of additional tax liability. If the taxpayer has not filed a return, there is no statute of limitations defense.

If the taxpayer understates income by 25% or more on a return, there is a six year statute of limitations on assessment. There is a 10 year statute of limitations for collection under IRC § 6502. The statute of limitations for assessment or collection may be extended by such things as agreement by the taxpayer, offers in compromise or bankruptcy.

IRC § 6020(b) allows the IRS to file a return on behalf of the taxpayer, but does not require it to do so. Returns filed by the IRS do not start the statute of limitations running for assessment and collection under IRC § 6501(b)(3).

When a taxpayer owes for multiple years, the taxpayer should consider allocating payments to the most recent years and allowing the statute of limitations to continue to run on older years. The application of payments to various taxes, penalties and interest for different tax years turns on whether the taxpayer's payments are considered voluntary or involuntary. An involuntary payment is a payment made pursuant to a judicial action or administrative levy. Muntwyler v. United States, 703 F.2d 1030, 83-1 USTC Q 9275 (7th Cir. 1983). Involuntary payments are applied by the IRS to satisfy liabilities of the earliest outstanding tax year first. Although when applying partial payments to each tax year the IRS generally allocates the payments in the manner best serving the interest of the government, payments voluntarily tendered by the taxpayer with specific directions as to their application may be applied in accordance with those directions. Rev. Rul. 79-284, 1979-2 C.B. 83.

Uncollectible Status

If the statute of limitations on assessment or collection is not about to expire, the taxpayer may seek uncollectible status for the account. Placing an account in uncollectible status is an administrative process. Interest, penalties and the statute of limitations continue to run while a taxpayer is in uncollectible status, but the IRS does not pursue collection. Generally, the taxpayer must complete detailed financial information showing little, if any, income or assets with which to pay the tax.

There is no statutory authority for uncollectible accounts, but IRS Policy Statement P-5-71 provides that if, after reviewing the account, the revenue officer believes the account is uncollectible, the revenue officer should report it as such. Internal...