Dkt. No. 6650-02L , TC Memo.2004-163 July 13, 2004.

[Code Secs. 6330 and 7122]

Practice and procedure: Collection Due Process hearing: Offer in compromise: Liens and levies: Abuse of discretion. --
An IRS Appeals officer abused his discretion in denying a married couple's offer in compromise on the grounds that the taxpayers had inadequate income to meet their living expenses and pay the proposed monthly payments. The officer appeared to rely exclusively on the IRS's prescribed schedule of national and local average living expenses to determine that the taxpayers' basic living expenses exceeded their monthly income. However, all of the facts and circumstances, including the schedule of actual expenses submitted by the taxpayers, should have been considered to determine whether the taxpayers could pay both (Code Sec. 7122(c)(2)). The filing of the federal tax liens to secure the IRS's interest in the unpaid tax liability was not an abuse of discretion. --CCH.

MEMORANDUM FINDINGS OF FACT AND OPINION

GERBER, Chief Judge: Respondent, on February 21, 2002, sent Mark Fowlerr (petitioner) a Notice of Determination Concerning Collection Action(s) Under Section 63201 and/or 6330, in which respondent sustained the filing of a Federal tax lien for petitioner's 1990-92 tax liabilities. In that same notice respondent also rejected petitioner's offer in compromise. On that same date respondent sent Mark Fowler and Joylyn Fowler (petitioners) a second Notice of Determination Concerning Collection Action(s) Under Section 6320 and/or 6330. In this notice respondent sustained the filing of a Federal tax lien with respect to petitioners' 1994-96 tax liabilities, and respondent again rejected petitioners' offer in compromise.

Prior to these determinations, petitioners sought and were offered an Appeals hearing, but they did not attend due to personal reasons. One month after the scheduled hearing date, the Appeals officer issued the above determinations sustaining the filing of the Federal tax liens and rejecting petitioners' offers in compromise. With respect to both determinations, petitioners appealed to this Court.

The issue for consideration is whether respondent abused his discretion by rejecting petitioners' offers in compromise and by sustaining the filing of the Federal tax liens.

FINDINGS OF FACT2

Petitioners resided in Garden Grove, California, when the petition in this case was filed.

Separate Liabilities
Petitioner filed his 1990 Federal income tax return late on September 6, 1991. On July 21, 1993, respondent mailed a statutory notice of deficiency to petitioner for his 1990 taxable year. Petitioner did not petition this Court to dispute the deficiency. On December 20, 1993, respondent assessed the $399 income tax deficiency and a $98.74 late-filing penalty under section 6651(a)(1). In addition, $104.40 of interest was assessed. Petitioner does not contest the 1990 tax liability.

Petitioner timely filed his 1991 Federal income tax return that contained several mathematical errors. Respondent corrected the mathematical errors in accord with section 6213(b)(1), and assessments were made to correct the errors. Respondent subsequently selected petitioner's 1991 return for an audit examination. On April 5, 1994, respondent mailed petitioner a statutory notice of deficiency for his 1991 taxable year determining a $545 income tax deficiency. Petitioner did not petition this Court with respect to the 1991 notice of deficiency. On September 5, 1994, respondent assessed the $545 deficiency and $103.37 of accrued interest.

Petitioner filed his 1992 Federal income tax return late on July 28, 1993. Respondent selected petitioner's 1992 return for an audit examination. On January 11, 1995, respondent mailed petitioner a statutory notice of deficiency for his 1992 taxable year determining a $1,193 income tax deficiency and a $189 penalty for late filing under section 6651(a)(1). On July 17, 1995, respondent assessed the deficiency, the late-filing penalty, and accrued interest in the amount of $265.92. On the same day, the late-filing penalty was abated leaving an unpaid balance of $1,458.92 for 1992.

Joint Liabilities
Petitioners were married in 1993. Under cover of a letter dated September 15, 1997, petitioners submitted their untimely 1994, 1995, and 1996 joint Federal income tax returns. These returns were filed by respondent on September 29, 1997. Petitioners reported tax due for 1994, 1995, and 1996 on their returns in the amounts of $402.04, $402.03, and $1,480.66, respectively.

On October 27, 1997, respondent assessed the 1994 income tax liability, a late-filing penalty in the amount of $100, a failure to pay tax penalty in the amount of $62.32, and accrued interest in the amount of $128.35, for a total assessment of $692.71. On that same date, respondent assessed the 1995 income tax liability, a late-filing penalty in the amount of $100, a failure to pay tax penalty in the amount of $38.19, and accrued interest in the amount of $73.03, for a total assessment of $613.25. On November 17, 1997, respondent assessed the 1996 income tax liability, a late-filing penalty in the amount of $333.15, a failure to pay tax penalty in the amount of $59.23, and accrued interest in the amount of $99.21, for a total assessment of $1,972.25.

Events Leading to the Issuance of the Notice of Determination
On December 21, 1999, respondent mailed two separate Notices of Intent to Levy and Notice of Your Right to a Hearing to petitioners. The notices reflected petitioners' unpaid Federal income tax liabilities for 1990 through 1992 and 1994 through 1996. On January 26, 2000, petitioners informed respondent of their desire to submit an offer in compromise to resolve all of their individual and joint liabilities. In response, respondent mailed petitioners a package of materials for the submission of offers in compromise for their outstanding individual and joint liabilities.

On April 19, 2000, respondent received petitioners' offer to compromise the 1994 through 1996 joint liabilities for $1,150. On that same date respondent received petitioner's offer to compromise the 1990 through 1992 liabilities for $360. Both offers in compromise were submitted on Form 656, Offer in Compromise. Petitioners' offer was to make monthly payments to satisfy the liabilities. Petitioners planned to pay a portion of the offer amount from their expected tax refund for 1999.

On May 19, 2000, respondent's revenue officer advised petitioners that their offers in compromise could not be processed until petitioners' 1999 Federal income tax return was filed. Under respondent's procedures, offers are not processed while taxpayers are not in compliance with the internal revenue laws.

Petitioners had already filed for an extension of time to file for 1999 because they were awaiting information from third parties to complete the return. On June 15, 2000, respondent filed two Notices of Federal Tax Lien (NFTL) at the county recorder's office in Orange County, California, with respect to the individual and joint tax liabilities. Respondent sent petitioners the filed NFTLs and Notices of Right to a Collection Due Process Hearing. On July 14, 2000, petitioners submitted Form 12153, Request for a Collection Due Process Hearing (administrative hearing), contesting the NFTLs filed by respondent and noting the pending offers in compromise.

Sometime in 2001, petitioners' claims were assigned to respondent's Appeals officer. On June 20, 2001, the Appeals officer and petitioners had a telephone conversation discussing petitioners' desire to compromise all of the liabilities. The Appeals officer requested more information from petitioners, which they timely provided with a copy of their filed 1999 Federal income tax return. At some time in the process, petitioners submitted an amended offer in compromise for $2,400, to be paid in $100-monthly installments. Under those terms, the $2,400-offer could be paid in full in 2 years.

On October 16, 2001, respondent's Appeals officer sent petitioners a letter informing them that he had reviewed the offers in compromise. The Appeals officer determined that the minimum offer to compromise both the individual and joint liabilities should be a total of $2,400. The Appeals officer used petitioners' estimate of their primary vehicle3 to calculate a quick sale value of $2,400, which was determined to be the minimum acceptable offer. The Appeals officer then attempted to determine whether petitioners would be able to meet the monthly installment offer obligation. In calculating petitioners' financial capability, the Appeals officer used petitioners' submitted monthly gross income figure of $4,608, but did not use petitioners' submitted $3,989 monthly expense figure. Instead of using the $3,989 expense figure provided by petitioners, the Appeals officer used $4,644, an estimated amount based on national statistical averages. Using $4,644 resulted in petitioners' estimated monthly expenses exceeding their monthly income by $36 and rendering petitioners ineligible due to their projected inability to make the $100-monthly payments.

The Appeals officer rejected petitioners' offers in compromise. Petitioners requested an in person hearing, but a hearing was not held due to petitioners' unavailability. On February 21, 2002, respondent issued two separate notices of determination for the individual and joint liabilities sustaining the filing of the notices of Federal tax liens and rejecting petitioners' offers in compromise. Petitioners timely appealed to this Court for review of respondent's determinations.

OPINION

Petitioners contend that the Appeals officer abused his discretion by rejecting their offers in compromise and by sustaining the filing of the Federal tax liens.

Section 6320 provides that a taxpayer shall be notified in writing by the Secretary of the filing of a Federal tax lien and provided with an opportunity for an administrative hearing. Sec. 6320(b). Hearings under section 6320 are conducted in accordance with the procedural requirements set forth in section 6330. Sec. 6320(c).

When an Appeals officer issues a determination regarding a disputed collection action, section 6330(d) allows a taxpayer to seek judicial review with the Tax Court or a District Court. Where the validity of the underlying tax liability is properly at issue, the Court will review the matter on a de novo basis. Sego v. Commissioner [Dec. 53,938], 114 T.C. 604, 610 (2000). However, when the validity of the underlying tax is not at issue, the Court will review the Commissioner's administrative determination for an abuse of discretion. Id. Petitioners do not dispute the validity of the underlying tax. Accordingly, our review is for an abuse of discretion.

We do not conduct an independent review of what would be acceptable offers in compromise. We review only whether the Appeals officer's refusal to accept the offers in compromise was arbitrary, capricious, or without sound basis in fact or law. See Woodral v. Commissioner [Dec. 53,206], 112 T.C. 19, 23 (1999). The Court considers whether the Commissioner abused his discretion in rejecting a taxpayer's position with respect to any relevant issues, including challenges to the appropriateness of the collections action, and offers of collection alternatives. See sec. 6330(c)(2)(A). This case involves collection alternatives.

Section 7122(a) authorizes the Secretary to compromise any civil case arising under the internal revenue laws. There are three standards that the Secretary may use to compromise a liability. The first standard is doubt as to liability, the second being doubt as to ability to collect, and the third being promotion of effective tax administration. Sec. 301.7122-1T(b), Temporary Proced. & Admin. Regs., 64 Fed. Reg. 39024 (July 21, 1999); see sec. 7122(c)(1). The record reflects that petitioners' offers are with respect to doubt as to collectibility.4

Section 7122(c) provides the standards for evaluation of such offers. Under section 7122(c)(2):

(A) * * * the Secretary shall 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.

(B) Use of schedules. --The guidelines shall provide that officers and employees of the Internal Revenue Service shall determine, on the basis of the facts and circumstances of each taxpayer, whether the use of the schedules published under subparagraph (A) is appropriate and shall not use the schedules to the extent such use would result in the taxpayer not having adequate means to provide for basic living expenses. [Emphasis added.]

The Appeals officer chose to use the national averages and that use resulted in petitioners' being categorized as not having adequate means to provide for basic living expenses.

The national average statistics are published by the Internal Revenue Service, but use of the statistics by Appeals officers is not mandatory. The Appeals officer exercised discretion in ignoring petitioners' submitted expense amount and, instead, used the national statistical amount as an estimate of petitioners' expenses. The use of the national averages for petitioners' expenses resulted in petitioners' monthly expenses exceeding their monthly income by $36. Therefore, by using the average expense figure, petitioners' income was $136 short of producing the $100 per month needed to compromise their tax liabilities for $2,400. We note that, percentagewise, the shortfall is less than 3 percent of petitioners' gross income. The Appeals officer chose to use the national statistical averages rather than the expense figures provided by petitioners. If the Appeals officer had used petitioners' submitted expense figure of $3,989, petitioners would have had $619 monthly and would have been financially capable of satisfying the $100 installments.

The Appeals officer is allowed to use the national schedules when considering the facts and circumstances of this case. However, if use of the schedules results in petitioners' not having adequate means to provide for basic living expenses, as here when the Appeals officer determined a negative $36 amount for basic living expenses, an installment offer may not be appropriate. See sec. 7122(c)(2)(B).

Under the regulations for doubt as to collectibility cases:

A determination of doubt as to collectibility will include a determination of ability to pay. In determining ability to pay, the Secretary will permit taxpayers to retain sufficient funds to pay basic living expenses. The determination of the amount of such basic living expenses will be founded upon an evaluation of the individual facts and circumstances presented by the taxpayer's case. To guide this determination, guidelines published by the Secretary on national and local living expense standards will be taken into account. [Sec. 301.7122-1T(b)(3)(ii), Temporary Proced. & Admin. Regs., 64 Fed. Reg. 39024 (July 21, 1999).]

The regulation provides that the guidelines are to be taken into account. When the Appeals officer reviewed petitioners' offers, he decided to use the guidelines because he thought petitioners' actual figures were too low. In that regard, there is no specific explanation why the Appeals officer believed that petitioners' monthly expenses of $3,989 was too low or why the guideline figure of $4,644 was more accurate. The use of the guideline expense figure resulted in a $136 shortfall in petitioners' capability to meet the $100-monthly installment to satisfy the $2,400 compromise. If petitioners' submitted monthly expenses of $3,989 had been used, there would have been a $619 surplus of income over expenses that would have enabled petitioners to meet the $100-monthly installment to satisfy the compromise.

In essence, the Appeals officer decided that petitioners could not live less expensively than the national average (guidelines). We find it curious that the Appeals officer relied on petitioners' figures for their vehicle and for their income, but chose not to use petitioners' figures for their monthly expenses. Petitioners made an estimate of $3,000 for the value of their primary car and the Appeals officer used this figure to calculate the quick sale value of $2,400. Based on this premise, the Appeals officer determined that an offer of $2,400 would be an appropriate amount to settle the outstanding liabilities due for 1990-92 and 1994-96. The Appeals officer requested a lump-sum payment through the sale of petitioners' primary vehicle. Petitioners rejected this approach as this was their primary vehicle and to sell it would have caused great financial harm.

Petitioners submitted an amended offer in compromise for $2,400, to be paid in $100 monthly installments. Under those terms, the $2,400 compromise could be paid in full in 2 years. That offer was rejected due to the Appeals officer's determination that petitioners were financially unable to make the payments. We note that petitioners had cooperated with all requests from the Internal Revenue Service in an attempt to resolve this matter.

Appeals officers, in the consideration of an offer in compromise should verify that the requirements of applicable law and administrative procedures have been met, and "whether any proposed collection action balances the need for the efficient collection of taxes with the legitimate concern of the person that any collection action be no more intrusive than necessary." See sec. 6330(c)(3)(C). The verification of applicable law and administrative procedure was met in this case. However, it is questionable as to whether the proposed collection action balanced the need for efficient collection of taxes with the concern of petitioners that any collection action be no more intrusive than necessary.

Payment plans are one possible option for an offer in compromise. According to the instructions that accompany the Form 656, there are three possible payment plans under the short-term deferred payment offer. One plan requires full payment of the realizable value of assets within 90 days from the date the Internal Revenue Service accepts the offer, and payment, within 2 years of acceptance of the amount that they could collect over 60 months. A second plan permits a cash payment for a portion of the realizable value of petitioners' assets within 90 days of the offer being accepted, and the balance of the realizable value plus the remainder of the amount that could have been collected over 60 months within 2 years. The third plan permits monthly payments of the entire offer amount over a period not to exceed 2 years from the date of acceptance by the Internal Revenue Service. Petitioners offered $100 per month for 2 years or 24 months, which equals the $2,400-compromise amount.5

Under the various payment options, respondent would be able to file Federal tax liens to protect his interests until such time as the liability is satisfied. Accordingly, respondent's interest would be protected through the liens while respondent received monthly payments. The result of the Appeals officer's financial analysis, however, was to deny petitioners' offers in compromise. To use the national guidelines rather than actual figures in this instance was arbitrary, capricious, and without a sound basis in fact. Petitioners have stated that they are still willing to compromise their tax liabilities for $2,400, but through monthly payments rather than a lump-sum payment.6

Therefore, based on the facts and circumstances of this case, we hold that respondent abused his discretion in denying petitioners' offer to compromise their tax liabilities for $2,400. We further hold that respondent did not abuse his discretion in sustaining the filing of the Notices of Federal Tax Liens.7

An appropriate decision will be entered.

1 Unless otherwise indicated, all section references are to the Internal Revenue Code.

2 The parties' stipulation of facts is incorporated by this reference.

3 Petitioners estimated the value of their primary vehicle to be $3,000. Respondent used this figure to calculate the $2,400 quick sale value.

4 Doubt as to collectibility exists in any case where the taxpayer's assets and income are less than the full amount of the assessed liability. Sec. 301.7122-1T(b)(3), Temporary Proced. & Admin. Regs., 64 Fed. Reg. 39024 (July 21, 1999).

5 Although not relevant to the facts of this case, there is also a deferred payment offer that provides for a plan similar to the short-term deferred plan (the third plan described above). The deferred payment plan allows the entire offer amount to be made in monthly payments over the life of the collection statute. The deferred plan could result in a longer payment period than 24 months.

6 Petitioners and respondent agreed on the amount of the compromise. The only disagreement here is the method of payment. Based on the financial information submitted by petitioners, a payment plan is a reasonable option.

7 Petitioners have made no argument of merit from which an abuse of discretion could be found with respect to respondent's determination that the filing of the Notices of Federal Tax Liens was appropriate.

Dkt. No. 8431-05L , TC Memo. 2007-312, October 15, 2007.

[Code Sec. 7122]

Offer-in-compromise: Dissipation of assets: Abuse of discretion. --
An IRS Appeals officer abused her discretion by including the full amount of an individual's dissipated assets in his net realizable equity (NRE) during her evaluation of his offer-in-compromise. The the individual's NRE should not have included amounts paid for: attorney's fees incurred in the representation of his tax case; attorney's fees incurred in a civil lawsuit he filed for unpaid wages; an estimated tax payment made for one of the tax years at issue; and a lump-sum payment of delinquent child support. The case was remanded to Appeals for 60 days, during which time the individual had the opportunity to amend his offer based on the revised amount of his tax liability and in consideration of his available monthly income. --

P filed a petition for judicial review in response to R's determination to proceed with collection by lien and/or levy of assessed income tax liabilities, plus additions to tax and interest, for 1996-2002. R's settlement officer rejected P's offer-in-compromise because it was not a viable alternative to collection. The settlement officer, applying guidelines established by the Internal Revenue Manual, determined that P should include in the amount of his offer-in-compromise the value of certain "dissipated assets", which, because of the dissipation, became unavailable for payment of P's delinquent income tax obligation. The settlement officer required this inclusion, notwithstanding that some of the assets had been used for proper purposes.

Held: R's rejection of P's offer-in-compromise was an abuse of discretion, and this case will be remanded to the IRS Appeals Office so that P may make a revised offer reflecting a reduced amount of dissipated assets.

MEMORANDUM OPINION

NIMS, Judge: This case arises from a petition for judicial review filed in response to a Notice of Determination Concerning Collection Action(s) Under Section 6320 and/or 6330. Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the years in issue as amended, and all Rule references are to the Tax Court Rules of Practice and Procedure. The issue for decision is whether respondent's rejection of petitioner's offer-in-compromise was an abuse of discretion.

Background

This case was submitted fully stipulated pursuant to Rule 122, and the facts are so found. The stipulations of the parties, with accompanying exhibits, are incorporated herein by this reference. At the time he filed the petition, petitioner resided in Louisiana.

Petitioner is a practicing physician specializing in adult and pediatric urology. He operates his own medical practice, David L. Samuel, M.D., A Professional Medical Corporation. Petitioner is also a partner in Pontchartrain Lithotripsy, LLC. Prior to starting his own practice, petitioner practiced with another urologist until sometime in 2002.

Beginning on February 3, 2003, petitioner began filing delinquent individual income tax returns for 1996-2002. The dates on which petitioner filed the returns and the Internal Revenue Service (IRS) assessed the taxes due are as follows:

Year Date Return Filed Date Taxes Assessed

1996 January 26, 2004 March 8, 2004

1997 February 3, 2003 March 24, 2003

1998 February 3, 2003 March 31, 2003

1999 February 3, 2003 March 24, 2003

2000 February 3, 2003 March 3, 2003

2001 February 3, 2003 March 3, 2003

2002 October 3, 2003 November 3, 2003

The so-called "TXMODA" computer transcripts of petitioner's IRS accounts for each of these years show adjusted gross income posted from petitioner's tax returns as follows:

Year AGI

1996 $187,108

1997 220,250

1998 205,492

1999 303,558

2000 140,213

2001 177,566

2002 211,991

Petitioner did not remit any payments for the amounts due on these returns when they were filed.

Respondent assessed the taxes shown on the above returns. Calculated as of January 1, 2005, petitioner owed in excess of $773,368 for the tax years 1996-2002, inclusive.

In October 2004, petitioner filed his 2003 individual income tax return. Withheld taxes for 2003 exceeded total tax by $8,016. The excess withheld taxes combined with an estimated tax payment of $15,600 resulted in a $23,616 overpayment of tax for 2003. This overpayment was applied to petitioner's 1996 unpaid tax liability.

Respondent sent the following collection notices to petitioner for unpaid Federal income taxes: Notice of Federal Tax Lien Filing and Your Right to a Hearing Under IRC 6320, dated October 2, 2003, for the 1997-2001 tax years; a Final Notice - Notice of Intent to Levy and Notice of Your Right to a Hearing, dated February 10, 2004, for 2002; a Final Notice - Notice of Intent to Levy and Notice of Your Right to a Hearing, dated March 8, 2004, for 1996; and a Notice of Federal Tax Lien Filing and Your Right to a Hearing Under IRC 6320, dated April 1, 2004, for 1996. (Neither party has explained this 1996 discrepancy.) Petitioner timely requested a hearing in response to each of these Notices. On each Form 12153, Request for a Collection Due Process Hearing, petitioner stated that he was preparing a Form 433-A, Collection Information Statement for Wage Earners and Self-Employed Individuals, and a Form 433-B, Collection Information Statement for Businesses, in order to submit an offer-in-compromise for his tax liabilities.

On July 8, 2004, petitioner submitted a Form 656, Offer in Compromise, along with two different Forms 433-A (both dated June 1, 2004) and a Form 433-B for his professional corporation. Petitioner submitted the offer on the basis of "doubt as to collectibility". Petitioner was not then, and is not now, contesting his 1996-2002 income tax liabilities. Petitioner offered to pay $30,000 to compromise his 1996-2002 tax liabilities. This was a short-term deferred payment offer payable in monthly installments of $1,250 for 24 months.

On one of the Forms 433-A, petitioner indicated that he operated David L. Samuel, M.D., P.C., and identified this corporation as his employer for the prior 4 years. Petitioner listed his assets as $1,409.89 in a checking account, a house valued at $330,000 (with a loan balance of $322,025), and furniture/personal effects worth $10,000. Petitioner indicated that he was the plaintiff in a $25,000 civil lawsuit for unpaid wages. Petitioner showed his only source of income as monthly wages of $7,963. Petitioner reported monthly expenses of: $976 for food, clothing, and miscellaneous (noted as the statutory allowance); $1,024 for housing and utilities (noted as the statutory allowance); $50 for health care; $2,470 for taxes; $2,750 for court-ordered payments (child support); and $250 for other expenses (later identified as attorney's fees for representation in the instant matter). The second Form 433-A contained the same information as the first, except that it reported gross monthly wages of $8,144.10 and monthly medical expenses of $41.20.

The Form 433-B for David L. Samuel, M.D., P.C., reflected that petitioner was the only shareholder. The total accounts/notes receivable of the medical corporation was shown as $87,388.73. The only other assets disclosed on the Form 433-B were $613.74 in a bank account, $200.22 of cash on hand, and office furniture valued at $4,000. In the "Investments" section, petitioner listed one share of Pontchartrain Lithotripsy, LLC, with a value of $10,000. Total monthly income for petitioner's professional corporation consisted of $26,435.20 in gross receipts and $4,416 in dividends for a total of $30,851.20. Petitioner reported monthly expenses totaling $33,523.93 for the professional corporation.

Petitioner's offer-in-compromise was accepted for processing and forwarded to respondent's New Orleans Compliance Office for investigation.

Petitioner requested a face-to-face hearing at the New Orleans Appeals Office, to which the IRS agreed. The face-to-face hearing was conducted in New Orleans on January 31, 2005. During the face-to-face hearing, petitioner disclosed that he sold an interest in Fairway Medical Center (FMC) in June 2003, for $108,000 and refinanced his home in September 2003, for a net cash payment to him of $25,158. Petitioner also discussed his ownership interest in Pontchartrain Lithotripsy, LLC, from which he reported $51,922 of income in 2003, but which he designated on the Form 433-B as a $10,000 investment held by his professional corporation. Petitioner explained that his $10,000 initial investment in Sabine Lithotripsy, LLC (which dissolved into four entities, one of which was Pontchartrain Lithotripsy, LLC) entitles him to access a medical mobile unit for use in his medical practice. He also receives monthly income receipts, which he said are deposited into his business account. After the hearing, petitioner provided a list of the monthly income received from Pontchartrain Lithotripsy. This income totaled $61,440 for 2004.

Petitioner clarified other issues at the hearing. He indicated that the lower of the two monthly income amounts on the different Forms 433-A, $7,963, should be used for consideration of the offer-in-compromise. Petitioner asserted that his interest in his professional corporation is limited to the value of the medical and office equipment (which he estimated to be $3,630) and that a patient list in the urology field has little or no value. Petitioner also gave details regarding the abovementioned lawsuit against his previous employer to collect back wages. He said that billings show that he is entitled to $60,000 plus interest.

On February 10, 2005, the settlement officer sent petitioner a letter with her preliminary determination. She stated her position that petitioner had "dissipated assets" with a disregard of his outstanding tax liabilities when he sold his interest in FMC and refinanced his home. She reasoned that at the time the transactions occurred, the outstanding assessed balances due to the IRS exceeded the amounts realized from the dissipated assets. In addition, she noted that none of the funds were remitted to the IRS, and she took the position that petitioner did not use any of the funds for necessary expenses. She said that unless petitioner increased his offer to $163,158 ($30,000 initial offer amount plus 100 percent of the dissipated asset values), she would assume that petitioner was not interested in pursuing the matter further, and that she would recommend that Appeals issue a notice of determination.

The settlement officer indicated that her preliminary determination did not represent a final amount determined to be an acceptable offer. She noted that she did not include in the reasonable collection potential calculation any amounts for petitioner's interest in his civil lawsuit, his ownership interest in his medical practice, or his interest in Pontchartrain Lithotripsy.

On March 2, 2005, petitioner responded to the preliminary determination letter. In his letter he said that when he "lost his job" practicing with another urologist in 2002, he accumulated substantial debt setting up his new medical practice and paying necessary living expenses and fell behind on his child support payments. The letter claimed that the payments made from the funds realized from the FMC sale in July and home refinancing in September 2003, were necessary to pay judgments rendered against him and to avoid additional legal proceedings. Petitioner provided details on the distribution of the proceeds of these two transactions. He alleged that he distributed the $108,000 from the sale of his interest in FMC as follows:

Payee Payment Amount

City Bank (credit card debt)* Payment pursuant to
court judgments

$13,591.78

City Bank (credit card debt)* Payment pursuant to
court judgments

12,468.72

First USA (credit card payoff) 2,745.69

MBNA (credit card payoff)** Lawsuit filed against
petitioner

30,000.00

IRS (2003 estimated tax payment) 15,600.00

Child support payments 5,464.02

Hibernia Bank (loan repayment) 8,820.20

Whitney Bank (credit line) 4,709.59

William A. Neilson (legal fees) 4,000.00

Paul Lea (legal fees) 5,000.00

Diane Cherry (legal fees) 3,000.00

Pedalhore (accounting fees) 1,600.00

Fintech (accounting fees) 1,000.00

From the refinance of his residence petitioner received a net amount of $25,158. Petitioner used $11,000 to pay delinquent child support and transferred the remaining $14,158 to his professional corporation (which was used to pay a supplier, malpractice insurance, delinquent telephone charges, and payroll).

Also in his response to the preliminary determination, petitioner asserted that the attorney's fees were an allowable necessary expense because they were necessary for his representation before the IRS with respect to his current tax matters. He closed the letter by saying he thought negotiation of an offer-in-compromise was possible given his belief that he did not dissipate assets and that he is allowed to claim attorney's fees as an expense.

On March 8, 2005, the settlement officer sent a letter to petitioner stating that her positions on the dissipated assets and attorney's fees remained unchanged. Petitioner did not respond to this letter and never increased his offer.

On April 8, 2005, Appeals issued petitioner a notice of determination sustaining the proposed collection actions. The summary of determination concluded that petitioner's proposed collection alternative was not a viable option. The notice indicated Appeals' finding that the IRS could collect more than the $30,000 offer. The notice referred to the discovery of the dissipated assets during consideration of the offer-in-compromise. The notice acknowledged the $15,600 payment to the IRS but pointed out that the remaining $117,558 was distributed to other creditors. It noted that petitioner was given the opportunity to increase his offer but declined to do so. The notice also stated that

The proposed levy action balances the need for efficient collection with the concern that it be no more intrusive than necessary because your offer-in-compromise does not outweigh the government's need for efficient collection of your tax liabilities. Your collection alternative was considered however we find that it is not a viable alternative given the facts and evidence raised.

The settlement officer's Appeals Case Determination (Case Determination) reflects that in recommending petitioner's offer based on doubt as to collectibility be rejected, she calculated petitioner's future income potential plus his net realizable equity (NRE) in assets to get the reasonable collection potential for the case.

In determining petitioner's NRE, the settlement officer decided that petitioner had dissipated assets in disregard of his tax liabilities when he sold his interest in FMC and when he refinanced his home. She considered the assets dissipated because petitioner realized the funds after his tax liabilities for 1996-2002 had accrued and after the amounts due for 1997-2001 were assessed, and he used all of the funds to pay other creditors, with the exception of the $15,600 payment to the IRS. She determined that 100 percent of the $133,158 received from the dissipated assets should be included in petitioner's NRE with the possible exception of the $15,600 paid to the IRS, the $5,000 legal fees incurred in the lawsuit against his former employer, and the $5,464 paid for child support. She reached this conclusion despite recognizing that the assets were dissipated before the offer-in-compromise was made. The settlement officer did not include any amount for the value of petitioner's residence in NRE, having determined that he had no equity. She also expressed doubt as to whether petitioner reported an accurate value for his interest in his medical corporation, noting the comparatively low value of equipment totaling $3,630 given that the business had gross income in excess of $300,000 in 2003. The settlement officer did not account for petitioner's interests in his medical corporation or Pontchartrain Lithotripsy in calculating NRE. The settlement officer determined petitioner's future income collection potential to be $946 per month, which, over 60 months (the multiplier for a short-term deferred payment offer) amounted to $56,760.

In response to the notice of determination, petitioner filed a petition with this Court.

Discussion

Before a levy may be made on any property or right to property, a taxpayer is entitled to notice of the Commissioner's intent to levy and notice of the right to a fair hearing before an impartial officer of the IRS Appeals Office. Secs. 6330(a) and (b), 6331(d). Section 6320 provides that after the filing of a Federal tax lien under section 6323, the Secretary shall furnish written notice. This notice must advise the taxpayer of the opportunity for administrative review in the form of a hearing, which is generally conducted consistent with the procedures set forth in section 6330(c), (d), and (e). Sec. 6320(c).

Where, as here, the underlying tax liability is not at issue, our review of the notice of determination under section 6330 is for abuse of discretion. See Sego v. Commissioner [Dec. 53,938], 114 T.C. 604, 610 (2000); Goza v. Commissioner [Dec. 53,803], 114 T.C. 176, 182 (2000). This standard does not require us to decide what we think would be an acceptable offer-in-compromise. Murphy v. Commissioner [Dec. 56,232], 125 T.C. 301, 320 (2005), affd. [2007-1 USTC ¶50,115] 469 F.3d 27 (1st Cir. 2006). Rather, our review is to determine whether respondent's rejection of petitioner's offer-in-compromise was arbitrary, capricious, or without sound basis in fact or law. Id.

At the hearing, taxpayers may raise challenges to "the appropriateness of collection actions" and may make "offers of collection alternatives, which may include the posting of a bond, the substitution of other assets, an installment agreement, or an offer-in-compromise." Sec. 6330(c)(2)(A). The Appeals officer must consider those issues, verify that the requirements of applicable law and administrative procedures have been met, and consider "whether any proposed collection action balances the need for the efficient collection of taxes with the legitimate concern of the person [involved] that any collection action be no more intrusive than necessary." Sec. 6330(c)(3)(C). As his collection alternative, petitioner chose to make an offer-incompromise. In the case before us, petitioner disputes respondent's rejection of his offer-in-compromise.

Section 7122(a) authorizes the Secretary to compromise any civil or criminal case arising under the internal revenue laws. Section 7122(c) provides that the Secretary shall prescribe guidelines for evaluation of whether an offer-in-compromise should be accepted. The decision whether to accept or reject an offer-in-compromise is left to the Secretary's discretion. Fargo v. Commissioner [2006-1 USTC ¶50,326], 447 F.3d 706, 712 (9th Cir. 2006), affg. [Dec. 55,514(M)] T.C. Memo. 2004-13; sec. 301.7122-1(c)(1), Proced. & Admin. Regs.

The section 7122 regulations set forth three grounds for compromise of a taxpayer's liability. These grounds are doubt as to liability, doubt as to collectibility, and the promotion of effective tax administration. Sec. 301.7122-1(b), Proced. & Admin. Regs. Petitioner seeks a compromise based on doubt as to collectibility.

The Secretary may compromise a tax liability based on doubt as to collectibility where the taxpayer's assets and income are less than the full amount of the liability. Sec. 301.7122-1(b)(2), Proced. & Admin. Regs. Generally, under the Commissioner's administrative procedures, an offer-in-compromise based on doubt as to collectibility will be acceptable only if it reflects the taxpayer's "reasonable collection potential". Rev. Proc. 2003-71, sec. 4.02(2), 2003-2 C.B. 517. Both parties appear to agree that petitioner's reasonable collection potential is substantially less than his tax liability which, as above noted, stood at more than $773,368, as of January 1, 2005. The parties obviously disagree as to petitioner's collection potential.

The IRS has developed guidelines and procedures for the submission and evaluation of offers to compromise under section 7122. Rev. Proc. 2003-71, supra. In furtherance thereof, the Internal Revenue Manual (IRM) contains extensive guidelines for evaluating offers-in-compromise. 1 Administration, Internal Revenue Manual (CCH), sec. 5.8, at 16,253. Both petitioner and respondent focus substantial attention in their briefs to the issue of "Dissipation of Assets", discussed below.

The IRM provides in part, in "Dissipation of Assets", section 5.8.5.4, at 16,339-6, the following:

(1) During an offer investigation it may be discovered that assets (liquid or non-liquid) have been sold, gifted, transferred, or spent on non-priority items and/or debts and are no longer available to pay the tax liability. This section discusses treatment of the value of these assets when considering an offer in compromise.

*******

(2) Once it is determined that a specific asset has been dissipated, the investigation should address whether the value of the asset, or a portion of the value, should be included in an acceptable offer amount.

(3) Inclusion of the value of dissipated assets must clearly be justified in the case file and documented on the ICS/AOIC history. * * *

(4) When the taxpayer can show that assets have been dissipated to provide for necessary living expenses, these amounts should not be included in the reasonable collection potential (RCP) calculation.

*******

(5) If the investigation clearly reveals that assets have been dissipated with a disregard of the outstanding tax liability, consider including the value in the reasonable collection potential (RCP) calculation. [Emphasis added.]

It is not totally clear how dissipated assets can be "no longer available to pay the tax liability" (see (1), above) while at the same time included in the "reasonable collection potential (RCP) calculation" (see (5), above).

The settlement officer apparently considered herself required to apply this rather cryptic guideline, and under an abuse of discretion standard we are not at liberty to challenge her judgment that it should be used. However, under the abuse of discretion standard, we must assure that the guideline is correctly applied.

The Appeals Case Determination states that

Appeals preliminary determination of Dr. Samuel's net realizable equity (NRE) in his assets is that it should include 100% of his dissipated assets totaling $133,158 with the possible exception of the $15,600 paid for his 2003 estimated tax payment, his legal fees of $5,000 incurred in association with his civil law suit against his prior employer and $5,464 paid for child support. He has no net realizable equity in his personal residence given that quick sale value (QSV) is used and offset against his mortgage of $322,000. Since his mortgage exceeds the QSV of $320,000 (80% of FMV determined to be at $400,000), he has no equity to include in his NRE. Appeals believes that his interest in his medical corporation exceeds that which was reported at the face-to-face hearing to be the value of the equipment totaling $3,630. This is an on-going business that had gross income in excess of $300,000 in 2003.

The Appeals Case Determination goes on to state that Dr. Samuel was provided the opportunity to increase his offered amount to at least include amounts he realized pursuant to his dissipated assets in order that his offer receive further consideration. He declined to so do.

The $15,600 which Dr. Samuel paid for his 2003 estimated tax payment should have been excluded from the dissipated assets category, and if Appeals was in doubt about the includability of the $5,000 incurred in association with Dr. Samuel's civil law suit and the $5,464 paid for child support, these amounts should have been excluded also. It was an abuse of discretion not to do so.

It is represented in his brief that petitioner has been current on all of the filings and payments of his taxes, starting with 2003. It appears from the Appeals Case Determination that petitioner has in fact minimal assets from which cash could be realized, but that he has a medical practice that produces a fairly substantial amount of income. Clearly, then, any IRS recovery from petitioner would have to come principally, if not entirely, from his medical practice income.

In connection with its consideration of petitioner's offerin-compromise, Appeals prepared the following table to illustrate petitioner's future income potential. The Case Determination states that the table is intended to show that petitioner's future income potential is more than his $30,000 offer.

Necessary
Total Income Living Expenses

Source Gross Claimed Allowed

Wages/salaries Natl.Std
T/P $7,963expenses $976 $953

Wages/salaries Housing &
spouse utilities 1,024 1,034

Interest Transportation 0 0

Net business
income Health care 50 100

Taxes 2,470 2,180

Court ordered
Rental income pmts. 2,750 2,750

Pensions T/P

Child/dependent
care 0

Pensions
spouse

Child support Life insurance

Alimony Secured debts

Other: Representation 250 0

IRA dstrbtn. Other:

Total income 7,963 Total expense 7,520 7,017

Net difference 946

Net difference times (a, b or c) = FIP [Future income potential] Net difference = $946 x 60 $56,760

(a) If the taxpayer is making a cash offer (offering to pay within 90 days or less) multiply the net difference by 48 or the number of months remaining on the statute.

(b) If the taxpayer is making a short term deferred payment offer (offering to pay within 2 years) multiply the net difference by 60 or the number of months remaining on the statute, whichever is shorter.

(c) If the taxpayer is making a deferred payment offer (offering to pay over the life of the statute), use the deferred payment chart to determine the number of months.

Petitioner points out that 2 Administration, Internal Revenue Manual (CCH), section 5.15.1.10(3), at 17,662, allows as a necessary expense accounting and legal fees if representation before the IRS is needed or meets the necessary expense tests. The costs must be related to solving the current controversy. In calculating petitioner's future income potential, the settlement officer failed to allow monthly payments of $250 which petitioner was making to his tax attorney in connection with the current controversy. The corrected income potential would thus be $41,760.

The Appeals Case Determination takes the position that Appeals was not required to counteroffer petitioner's offer-incompromise, but petitioner points out that 1 Administration, Internal Revenue Manual (CCH), section 5.8.4.6., at 16,308, provides that in the course of processing the case, if the taxpayer's offer must be increased in order to be recommended for acceptance, the taxpayer must be contacted by letter or telephone advising the taxpayer "to amend the offer to the acceptable amount". In the present case, petitioner should have been advised that instead of 100 percent of the dissipated assets, totaling $133,158, an acceptable amount would be $133,158 less $26,064 ($15,600 plus $5,000 plus $5,464), or $107,094. Appeals' failure to do so was an abuse of discretion, and we so hold.

Petitioner should be given the opportunity to revise his offer-in-compromise to reflect the $107,094, referred to above. However, since petitioner appears to lack any substantial assets outside his medical practice which could provide a source for paying any compromise amount, it is obvious, as previously observed, that any payments would come from his medical earnings. The table prepared by Appeals, above, unquestionably reveals that petitioner has ample income in excess of his $30,000 offer payable over 24 months.

We shall remand this case to Appeals for a 60-day period within which petitioner may, if he so chooses, revise the amount of his offer-in-compromise and suggest new terms of payment in accordance herewith.

An appropriate order will be issued.

[T.C. Summary Opinion 2006-75]
A. Sampson v. Commissioner.

Docket No. 4170-05S . Filed May 8, 2006.

[Code Secs. 6320, 6330 and 7122]

Tax Court: Summary opinion: Tax liens: Collection Due Process (CDP) hearings: Offer-in-compromise: Abuse of discretion. --
An Appeals officer abused his discretion when he rejected an individual's offer-in-compromise on the ground that the taxpayer had sufficient future income to pay his tax liability in full. Since the individual's employment history did not allow the Appeals officer to accurately estimate his fututre income, the Appeals officer should have considered using a future income collateral agreement. Moreover, there was no indication that the Appeals officer attempted to calculate the taxpayer's forgone earnings; instead he assumed that the taxpayer would earn sufficient income to pay his tax liability in full. However, the taxpayer's employment history and modest wage income raised doubts about the validity of this assumption. --

PURSUANT TO INTERNAL REVENUE CODE SECTION 7463(b),THIS OPINION MAY NOT BE TREATED AS PRECEDENT FOR ANY OTHER CASE.

PANUTHOS, Chief Special Trial Judge: This case was heard pursuant to the provisions of sections 6330(d) and 7463 of the Internal Revenue Code in effect when the petition was filed. The decision to be entered is not reviewable by any other court, and this opinion should not be cited as authority. Unless otherwise indicated, all subsequent section references are to the Internal Revenue Code in effect at relevant times.

This proceeding arises from a petition for judicial review filed in response to a Notice of Determination Concerning Collection Action(s) Under Section 6320 and/or 6330 (notice of determination) sent to petitioner on February 19, 2005. Pursuant to sections 6320(c) and 6330(d), petitioner seeks review of respondent's determination sustaining the filing of a notice of Federal tax lien against petitioner. The issue for decision is whether respondent abused his discretion in rejecting an offerin-compromise (OIC) that petitioner submitted for the taxable year 2002.

Background

Some of the facts have been stipulated, and they are so found. The record consists of the stipulation of facts and supplemental stipulation of facts with attached exhibits, an additional exhibit admitted during trial, and the testimony of petitioner. At the time of filing the petition, petitioner resided in San Francisco, California.

Petitioner was 43 years old at the time of trial. He has been sporadically employed throughout his adulthood. Social Security records covering the taxable years 1978 through 2003 indicate petitioner's annual wage income has never exceeded $19,432. The records also indicate petitioner earned no wage income from 1998 through 2003.1 For the past several years, petitioner has been a student at City College of San Francisco (City College). At the time of trial, petitioner was a senior at City College but was unsure when he would graduate. Petitioner indicated that City College had recently reduced its offering of courses due to budget constraints, which has delayed his graduation. Petitioner has maintained himself during this time by using student loan proceeds and by minimizing his living expenses.

In the taxable year 2002, petitioner won a car from Centra Marketing & Communications, LLC (Centra) as part of an Internet sales promotion. Petitioner sold the car shortly after receiving it, although it is not clear what he did with the proceeds. Centra issued a Form 1099-MISC, Miscellaneous Income, to petitioner reflecting $38,540 of gross income attributable to the car. Petitioner reported that amount on his 2002 Federal income tax return, as well as $146 of interest income, but made no payments toward his tax liability.

Respondent made assessments against petitioner for the taxable year 2002 totaling $5,942.01 for income tax and related penalties and interest. In July 2004, respondent filed a notice of Federal tax lien and sent petitioner a Notice of Federal Tax Lien Filing and Your Right to a Hearing Under IRC 6320. Petitioner timely submitted a Form 12153, Request for a Collection Due Process Hearing. He also submitted an OIC, in which he made a cash offer of $2,000 to compromise his 2002 tax liability.2 The OIC was based on doubt as to collectibility.

Petitioner's OIC was assigned to an Appeals officer. As part of his evaluation of the OIC, the Appeals officer calculated the monthly income that petitioner could pay toward his 2002 tax liability. The Appeals officer used petitioner's 2002 gross income of $38,686 as a baseline and then projected that amount over a 48-month period. After subtracting allowable expenses, the Appeals officer calculated that petitioner could pay $932 a month toward his 2002 tax liability, which would allow him to pay the liability in full in less than a year.

Petitioner and the Appeals officer participated in an administrative hearing in January 2005. Prior to the hearing, the Appeals officer was unaware that petitioner's 2002 gross income was attributable almost entirely to the car he had received from Centra. After learning of this fact, the Appeals officer requested and received additional information from petitioner.

On January 19, 2005, the Appeals officer sent petitioner a letter stating in part:

Part of the process of evaluating an offer from a person who is unemployed is to consider what that person would earn if they were working. Usually that is done by looking at previous income history. In your case, that is problematical because of your history, but it seems clear that were you to find employment you would be able to pay the tax liability for 2002. The fact that you have chosen to go to school rather than work is not really relevant.

On February 19, 2005, respondent issued petitioner a notice of determination sustaining the filing of the notice of Federal tax lien. The notice of determination states that the Appeals officer verified that the requirements of law and administrative procedure had been met and that petitioner's OIC was rejected because petitioner could fully pay his 2002 tax liability.

Discussion

Section 6321 imposes a lien in favor of the United States on all property and rights to property of a person when a demand for the payment of the person's liability for taxes has been made and the person fails to pay those taxes. Such a lien arises when an assessment is made. Sec. 6322. Section 6323(a) requires the Secretary to file notice of Federal tax lien if such lien is to be valid against any purchaser, holder of a security interest, mechanic's lienor, or judgment lien creditor. Lindsay v. Commissioner, T.C. Memo. 2001-285, affd. 56 Fed. Appx. 800 (9th Cir. 2003).

Section 6320 provides that a taxpayer shall be notified in writing by the Secretary of the filing of a Federal tax lien and provided with an opportunity for an administrative hearing. Sec. 6320(b). An administrative hearing under section 6320 is conducted in accordance with the procedural requirements of section 6330. Sec. 6320(c). At the administrative hearing, a taxpayer is entitled to raise any relevant issue relating to the unpaid tax, including a spousal defense or collection alternatives such as an OIC or an installment agreement. Sec. 6330(b) and (c)(2); sec. 301.6320-1(e)(1), Proced. & Admin. Regs.

A taxpayer also may challenge the existence or amount of the underlying tax liability, including a liability reported on the taxpayer's original return, if the taxpayer "did not receive any statutory notice of deficiency for such tax liability or did not otherwise have an opportunity to dispute such tax liability." Sec. 6330(c)(2)(B); see also Urbano v. Commissioner, 122 T.C. 384, 389-390 (2004); Montgomery v. Commissioner, 122 T.C. 1, 9-10 (2004). Section 6330(d) provides for judicial review of the administrative determination in the Tax Court or a Federal District Court, as may be appropriate. Where the validity of the underlying tax liability is properly at issue, the Court will review the matter de novo. Where the validity of the underlying tax liability is not properly at issue, however, the Court will review the Commissioner's administrative determination for abuse of discretion. Goza v. Commissioner, 114 T.C. 176, 181-182 (2000). Whether an abuse of discretion has occurred depends upon whether the exercise of discretion is without sound basis in fact or law. See Freije v. Commissioner, 125 T.C. 14, 23 (2005); Ansley-Sheppard-Burgess Co. v. Commissioner, 104 T.C. 367, 371 (1995).

Petitioner does not seek to challenge his underlying tax liability. He challenges only the rejection of his OIC. We therefore review for abuse of discretion.

Section 7122(a) authorizes the Secretary to compromise any civil case arising under the internal revenue laws. The Commissioner will generally compromise a liability on the basis of doubt as to collectibility only if the liability exceeds the taxpayer's reasonable collection potential. Lemann v. Commissioner, T.C. Memo. 2006-37. A taxpayer's reasonable collection potential is calculated by determining and adding together the taxpayer's net equity and his future income. See id.; sec. 301.7122-1(b)(2), Proced. & Admin. Regs. Respondent concedes that petitioner had no equity available to satisfy his 2002 tax liability. Respondent argues, however, that petitioner had sufficient future income to pay his tax liability in full.1

Section 7122(c) provides that the Secretary shall prescribe guidelines for IRS personnel to determine whether an OIC is adequate and should be accepted. These guidelines have been published and include certain provisions of the Internal Revenue Manual (IRM). See Lemann v. Commissioner, supra; Spurgin v. Commissioner, T.C. Memo. 2001-290. IRM sec. 5.8.5.5 (Nov. 15, 2004) provides guidelines for calculating a taxpayer's future income. "Future income is defined as an estimate of the taxpayer's ability to pay based on an analysis of gross income, less necessary living expenses, for a specific number of months into the future." IRM sec. 5.8.5.5(1) (Nov. 15, 2004). For cash offers, income and expenses are estimated for a 48-month period. Id. The calculation of future income should take into account "the taxpayer's overall general situation including such facts as age, health, marital status, number and age of dependents, highest education or occupational training and work experience." IRM sec. 5.8.5.5(3) (Nov. 15, 2004). The IRM provides that "Some situations may warrant placing a different value on future income than current or past income indicates". IRM sec. 5.8.5.5(5) (Nov. 15, 2004). For example, if income or necessary expenses will increase or decrease, then the amount or number of expected payments should be adjusted accordingly. Id. If a taxpayer is "temporarily unemployed or underemployed", then income should be calculated as if the taxpayer were fully employed. Id. If a taxpayer has a "sporadic employment history or fluctuating income", then earnings over several prior years should be averaged. Id.

As the Appeals officer acknowledged, estimating petitioner's future income is "problematical". Petitioner intends to graduate and find work, but it is uncertain when he will graduate, what type of employment he will find, or how much he will earn. While the IRM addresses situations where the taxpayer is "temporarily" out of work, petitioner has not been employed for several years. Petitioner has a history of sporadic employment and thus is a candidate for income averaging. See IRM sec. 5.8.5.5(5) (Nov. 15, 2004). Because of his limited earnings, however, petitioner's average income over the several years prior to 2002 is close to zero.

Despite the unusual circumstances of petitioner's case, the IRM provides the following guidance:

In some instances, a future income collateral agreement may be used in lieu of including the estimated value of future income in reasonable collection potential (RCP). When investigating an offer where current or past income does not provide an ability to accurately estimate future income, the use of a future income collateral agreement may provide a better means of calculating an acceptable offer amount. * * *

Example: A taxpayer is currently in medical school and it is anticipated that upon graduation income should increase dramatically.

IRM sec. 5.8.5.5(6) (Nov. 15, 2004).

Assuming petitioner secures employment after graduation, he likely will earn significantly more income than he has over the past several years. For the reasons stated above, however, it is difficult to estimate the amount of his future income or when he will receive such income. The facts of petitioner's case therefore appear to fit squarely within IRM sec. 5.8.5.5(6). Nevertheless, there is no indication that the Appeals officer considered using a future income collateral agreement. Instead, the Appeals officer determined that because petitioner's status as a student was "not really relevant", petitioner's future income included the wages he could have earned, but chose to forgo, in order to pursue his studies (forgone earnings). The Appeals officer also determined that petitioner's forgone earnings were sufficient to pay his 2002 tax liability in full.

It is true petitioner could have increased his income had he discontinued his education and found work; however, we can find nothing in the IRM suggesting that a student's forgone earnings are a component of future income. In fact, the example in IRM sec. 5.8.5.5(6) indicates a taxpayer can qualify for an OIC despite choosing to pursue education rather than employment. The example does not include forgone earnings as part of the taxpayer's reasonable collection potential.

Even if petitioner's future income did include forgone earnings, the difficulty of calculating the amount of such earnings is evident. Petitioner's forgone earnings presumably depend on the type of employment he could obtain, which in turn depends on factors such as his work experience, job skills, and the strength of the labor market. There is no indication the Appeals officer considered these factors or attempted to calculate petitioner's forgone earnings.4 Rather, it appears the Appeals officer assumed that petitioner would earn sufficient income, after allowable expenses, to pay his tax liability in full. Petitioner's history of intermittent employment and modest wage income raises doubts about the validity of this assumption. Furthermore, it is unclear whether the Appeals officer considered that petitioner might have increased expenses if he discontinued his studies, such as student loan repayments.

We conclude the Appeals officer abused his discretion in rejecting petitioner's OIC on the ground that petitioner had sufficient future income to pay his 2002 tax liability in full. We therefore shall remand this matter to the Appeals Office for reconsideration of petitioner's OIC.

Reviewed and adopted as the report of the Small Tax Case Division.

To reflect the foregoing,