CDP Hearings and OICs: When Does the 24-Month Clock Stop? – Houston Tax Attorneys

When it comes to tax deadlines, taxpayers are often held to strict standards. Miss a filing deadline by a day, and the taxpayer could lose their rights and/or ultimately be stuck with a higher tax balance.

But what happens when it’s the IRS that has a deadline to meet? The short answer is that the courts often interpret rules more liberally when it comes to IRS deadlines. While hardly ever expressly stated in the court opinions, the policy seems to be to allow the IRS more time to operate. Underlying this is the concept that the IRS uses bulk processing methods for administering our tax laws. This often unstated policy underpins many court decisions involving tax matters.

A prime example of this is the two-year deadline for the IRS to disallow an offer in compromise submitted to settle a tax debt. Despite the clear statutory language and the sheer volume of OICs submitted each year, notably absent are reported court cases where taxpayers have prevailed on this issue—even though taxpayers submit thousands of offers each year and the IRS bulk processing undoubtedly misses deadlines. This is particularly acute now, given that the IRS essentially shut down for more than a year as many of its employees were not required to work during COVID.

The Brown v. Commissioner, No. 23-70009 (9th Cir. 2024), case provides an opportunity to consider this issue. It addresses the question of whose rejection of an OIC matters–the IRS collection function’s or the IRS appeals officer’s.

Facts & Procedural History

The taxpayer received a notice of federal tax lien based on unpaid taxes for the 2009 and 2010 tax years. Exercising their rights under the tax code, the taxpayer requested a Collection Due Process (“CDP”) hearing.

In April 2018, during the CDP hearing, the taxpayer submitted an offer in compromise to settle their outstanding tax liabilities.

Instead of deciding whether to accept the OIC directly, the Appeals settlement officer forwarded the OIC to the IRS’s Centralized Offer-in-Compromise Unit within the IRS Collection Division. This unit, in turn, returned the offer to the taxpayer, citing pending investigations that might affect the tax liability.

The taxpayer disagreed with this decision and raised the issue with the appeals officer as part of the CDP hearing process. However, the appeals officer did not act quickly. More than 24 months passed so one would think that the offer was “deemed accepted” under Section 7122(f). The appeals officer did not agree, concluding that the IRS Collection Division’s earlier return of the offer had stopped the 24-month clock.

This dispute eventually made its way to the U.S. Tax Court, which ruled in the IRS’s favor, and then, in the current court opinion, to the Ninth Circuit Court of Appeals.

About the IRS Collection Due Process Hearing

The IRS is required to afford taxpayers a collection due process hearing before taking certain collection actions.

These hearings can be requested when a taxpayer receives a notice of federal tax lien or a notice of intent to levy. The purpose is to provide taxpayers an opportunity to dispute the proposed collection action before an impartial IRS Appeals settlement officer.

These hearings are intended to satisfy the Constitutional requirement that the government not take a person’s life, liberty, or property without due process of law.

The law itself is found in Sections 6320 and 6330 of the tax code. These sections set forth a number of rules and limitations for CDP hearings. For example, they say that taxpayers can raise various issues during the CDP hearing, including challenges to the underlying liability (in certain circumstances), proposed collection alternatives, and procedural irregularities. One common collection alternative is the offer in compromise, which is at issue in the Brown case.

The hearing concludes with the IRS issuing a Notice of Determination. These notices explain, usually in detail, how and why the IRS thinks that it complied with all laws in assessing and collecting the tax. They will often sustain or not sustain the IRS collection function‘s collection action. The determination in this notice can be appealed to the U.S. Tax Court.

Internally, the IRS appeals officer will prepare an appeals case memorandum and/or, if an OIC is submitted, a Form 14559, Appeals Offer in Compromise Memorandum. The Form 14559 is often used as it has a table to list the taxpayer’s income, allowable expenses, and assets. This is easier for the appeals officer to fill out than manually writing a memo on the topic. These documents are usually not released to the taxpayer if they are not requested, but they serve as the equivalent of what an opinion a court might write explaining and justifying its determinations.

About the IRS Offer in Compromise

This brings us to the offer in compromise. An OIC is a formal proposal to settle a tax debt for less than the full amount owed.

The rules for the OIC are found in Section 7122 which just authorizes the IRS to compromise tax liabilities. The IRS promulgated regulations that provide additional instructions on the OIC. And, since the OICs are a matter of discretion with the IRS, the rules in the IRS’s Internal Revenue Manual (its employee policy manual). Many of the rules are found in Section 5.8 of the IRM. The rules in its forms and instructions for the OIC are also relevant.

This guidance generally says that there are two types of OICs: doubt as to collectibility and doubt as to liability. Most OICs are submitted based on doubt as to collectiblity. For doubt as to collectibility OICs, the IRS considers the taxpayer’s reasonable collection potential (“RCP”). This includes factors such as the taxpayer’s value of assets (including dissipated assets), the taxpayer’s income, and the taxpayer’s future earning potential. The IRS typically accepts an OIC if it represents the most the IRS thinks it can expect to collect within a reasonable period given its mechanical rules for determining what it can collect. There are also various procedural rules, such as rules about how submitting an offer extends the IRS’s collection period.

This brings us to the two-year deemed accepted rule. This rule is set out in Section 7122(f), which provides that an OIC “shall be deemed to be accepted by the Secretary if such offer is not rejected by the Secretary before the date which is 24 months after the date of the submission of such offer.”

The OIC Submitted During the CDP Hearing

The Brown case raises a number of questions about how the 24-month deemed acceptance rule applies when an OIC is submitted during a CDP hearing. As we see in Brown, the IRS often sends such offers to the Collection Division for initial review before returning them to Appeals for a final decision as part of the CDP process.

The IRS will issue the taxpayer a Letter 3820 for this purpose. The letter is prepared by IRS Appeals but mailed out by the IRS centralized offer in compromise unit (i.e., it is mailed by IRS collections). The letter tells the taxpayer that the OIC has been sent to IRS collections and that the taxpayer has the ability to respond to their determination.

The IRS appeals office will then hold the case pending a response from the IRS collection function. The collection function may contact the taxpayer, as it might in other non-CDP cases, or it might just send an acceptance or rejection letter. It is more common for the collection function to simply send an acceptance or rejection letter. The appeals officer will then be notified of the outcome, and they have the final say in whether to sustain or reject the collection function’s determination.

Application of OIC Deemed-Accepted Rule

The Brown case opinion issued by the Ninth Circuit Court of Appeals addressed several issues about the OIC deemed-accepted rule when an OIC is submitted as part of the CDP hearing process.

The key contention in Brown was whether the “rejection” for purposes of the 24-month period is based on the return by the campus processing center or the Notice of Determination issued by the appeals officer. The majority opinion in Brown held that the Collection Division’s return of the offer was sufficient to stop the 24-month clock, even though it occurred outside the context of the CDP hearing.

The concurring opinion in Brown argued that the submission of an OIC during a CDP hearing negates the 24-month deemed acceptance period. Thus, according to the concurring opinion, OICs submitted during a CDP hearing do not come with a 24-month deemed acceptance rule. The concurring opinion phrased this as a tradeoff of OICs not being judicially reviewable if submitted outside of the CDP hearing process, and reviewable if submitted as part of the CDP hearing process. Basically, you get judicial review, but you do not get a 24-month deemed acceptance rule.

The dissenting opinion in Brown concluded that the IRS appeals officer’s determination was the one to be considered. It argued that only the appeals officer’s determination should count as a “rejection” for purposes of Section 7122(f) when an OIC is submitted as part of a CDP hearing. Thus, the dissent sided with the taxpayer that the 24-month period had lapsed.

From a practical perspective, even though it would have handed the taxpayer a win in this case, the dissent may have gotten this decision right. The majority holding in the Brown case is a taxpayer-favorable decision. In this fact pattern, it has been our experience that the IRS collection function often fails to notify the taxpayer that the offer was returned or rejected. It is usually the IRS appeals officer who follows up much later and informs the taxpayer that the offer was returned or rejected. Given this process, there is a high probability that the IRS may miss the 24-month period. The majority decision puts the burden on the IRS appeals officer to confirm that IRS collection sent the notice. IRS Appeals may not always be able to do this.

Takeaway

The Brown case is only applicable to taxpayers in the ninth circuit. It is persuasive authority for how the courts might rule in similar cases for taxpayers in other circuits. The case highlights the interplay between CDP hearings and the OIC process for the 24-month deemed acceptance rule. The case suggests that the IRS may inadvertently accept OICs in cases where the IRS’s internal communication breaks down, which happens quite often in CDP hearing cases. This case opens the door for taxpayers to raise this as an issue in CDP hearing cases.