Financial Analysis Handbook
- 18.104.22.168 Expectations
- 22.214.171.124 Analyzing
- 126.96.36.199 Verifying
- 188.8.131.52 Shared Expenses
- 184.108.40.206 Internal
- 220.127.116.11 External
- 18.104.22.168 Allowable
- 22.214.171.124 National
- 126.96.36.199 Local
- 188.8.131.52 Other
- 184.108.40.206 Determining
- 220.127.116.11 Business
- 18.104.22.168 Business
- 22.214.171.124 Determining
- 126.96.36.199 Assets
- 188.8.131.52 Determining
Equity in Assets
- 184.108.40.206 Jointly
- 220.127.116.11 Income-Producing
- 18.104.22.168 Assets
Held By Others as Transferees, Nominees or Alter Egos
- 22.214.171.124 Cash
- 126.96.36.199 Securities
- 188.8.131.52 Life
- 184.108.40.206 Retirement
or Profit Sharing Plans
- 220.127.116.11 Furniture,
Fixtures, and Personal Effects
- 18.104.22.168 Motor
Vehicles, Aircraft and Vessels
- 22.214.171.124 Real
- 126.96.36.199 Mortgage
and Real Estate Loans
- 188.8.131.52 Accounts
and Notes Receivable
- 184.108.40.206 Inventory
- 220.127.116.11 Machinery
- 18.104.22.168 Tax-Exempt
- 22.214.171.124 Loans
- 126.96.36.199 Intangible
- 188.8.131.52 Cash
- 184.108.40.206 Making
the Collection Decision
- 220.127.116.11 Business
Entity and Collection
- Exhibit 5.15.1-1 Questions
and Answers to Assist in Financial Analysis (Reference:
- Exhibit 5.15.1-2 Financial
Analysis: On-Line Access to the Allowable Expense Tables
This chapter provides instructions for analyzing
the taxpayer's financial condition.
An interview should be conducted in order to
determine the appropriate case resolution. Complete
income and expense analysis is necessary only if the
taxpayer does not full pay, however secure a complete
Collection Information Statement upon initial contact.
The analysis of a taxpayer's financial condition
provides a basis to make one or more of the following
Request payment in full or in part from
File a Notice of Federal Tax Lien (IRM 5.12)
Initiate enforcement action if assets are
available to pay the liability and the taxpayer
is unwilling to voluntarily convert assets to
cash (IRM 5.10)
Enter into an Installment Agreement (IRM
Explain the Offer in Compromise provisions
Report the account Currently not Collectible
The taxpayer's financial information may be secured
Form 433-A, Collection Information Statement
(CIS) for Wage-earners and Self-employed
Form 433-B, Collection Information Statement
Form 433-F, Collection Information Statement
- Used by the Automated Collection System (ACS)
and the campuses for individuals owing less than
A business taxpayer's own financial statement
(income statement and balance sheet) can be used
as a substitute for the income and expense
section of the Form 433-B.
National and local standards are guidelines
established by the Service to provide consistency in
certain expense allowances such as groceries and
household expenses, housing and transportation.
Reference to these standards will be found throughout
this section. Exhibit 5.15.1-2 provide instructions
for on-line access to the actual standards for the
income levels and locales.
The standard amounts set forth in the national and
local guidelines are designed to account for basic
living expenses. In some cases, based on a taxpayer's
individual fact's and circumstances, it may be
appropriate to deviate from the standard amount when
failure to do so will cause the taxpayer economic
hardship. The taxpayer must provide reasonable
substantiation of all expenses claimed that exceed the
standard amount. Document the case file accordingly.
bank statements or canceled checks
credit card vouchers
rent/lease receipts and lease agreements
future expenses, e.g. the birth of a child or
the necessary replacement of a car that will
taxpayer with physical disabilities or an
unusually large family requires a housing cost
that is not anticipated by the local standard. The
taxpayer is required to provide copies of mortgage
or rent payments, utility bills and maintenance
costs to verify the necessary amount.
Analysis and verification of a Collection
Information Statement (CIS) should take place shortly
after receipt of the CIS. The ability to pay
determination based on this analysis will be
communicated to the taxpayer within a reasonable
amount of time after receipt of the CIS.
Collection Information Statements submitted by
taxpayers should reflect information no older than the
prior six months. If during the investigation of the
case, the information becomes older than 12 months,
update the information. If there is reason to believe
that the taxpayer's situation may have significantly
changed, secure a new Collection Information
Secure, review and discuss the financial statements
in person whenever possible. While some aspects of the
financial statement review process, such as securing
financial information, can occur by phone or
correspondence, a face to face meeting with the
taxpayer and/or his/her representative is preferred to
effectively facilitate the verification/validation of
the financial statements provided. This face to face
interview should be conducted at the taxpayer’s
business, residence or in the office unless the
taxpayer is physically unable to meet with the revenue
officer. The physical verification of the business
assets is required at some point early in the
financial statement review process and should be
conducted in the presence of the taxpayer and/or
Emphasize to the taxpayer how much we expect from
them rather than how we expect them to spend their
Advise the taxpayer that we expect an amount
equal to that amount in excess of necessary or
not allowable conditional expenses.
Advise the taxpayer that he or she is
responsible for determining what modifications
are needed in order to pay their liabilities. Do
not tell the taxpayer what he or she can or
Analyzing Financial Information
Analyze the income and expenses to determine the
amount of disposable income (gross income less all
allowable expenses) available to apply to the tax
Analyze assets to resolve the balance due accounts.
Request immediate payment if the taxpayer has
cash equal to the total liability.
Identify key source of funds.
Identify liquid assets which can be pledged
as security or readily converted to cash. (For
example, equipment or factoring accounts
Consider unencumbered assets, equity in
encumbered assets, interests in estates and
trusts, and lines of credits from which money
may be borrowed to make payment. (For example,
credit card advances or loans.)
Consider taxpayer's ability to get an
Consider deferring payment of certain other
debts in order to pay the tax liability.
In some cases, payments on expense items are not
due in regular monthly increments. Average expense
items with varying monthly payments over 12 months
unless the variation is excessive.
insurance may be paid quarterly or twice a year.
One Year Rule: Taxpayers who cannot full pay their
accounts within five years may be given up to one year
to modify or eliminate excessive necessary expenses.
By modifying or eliminating some conditional expenses,
a taxpayer may be able to full pay the liability
within the five-year limit. This would enable a
taxpayer to retain some conditional expenses.
Five Year Rule: All expenses may be allowed if:
Taxpayer establishes that he or she can stay
current in all paying and filing requirements.
Tax liability, including projected accruals,
can be paid within five years.
Expense amounts are reasonable.
Agreements will be based on a taxpayer's maximum
ability to pay; i.e., how quickly a taxpayer can fully
pay the tax liability. Do not automatically allow
agreements based on the five-year maximum.
Verifying Financial Information
When conducting interviews to secure and/or review
financial statements ask pertinent questions to
determine as much as possible about the taxpayer's
financial condition and document the results. For
How the taxpayer generates income, both
foreign and domestic.
The nature of their business process.
The main products/services, type of
customers, wholesale vs. retail, etc.
Major suppliers and competitors.
Assets held in the name of the taxpayer or on
their behalf, both foreign and domestic.
Observe and document the physical layout of the
business, the number of employees, the type and
location of equipment, machinery, vehicles and
inventory. A brief tour of the business premises may
help to gauge the business operation and the condition
A thorough verification of the Collection
Information Statement (CIS) involves reviewing
information available from internal sources and
requesting that the taxpayer provide additional
information or documents that are necessary to
determine reasonable collection potential. Consider
contacting third parties to verify or obtain
information (see IRM 5.1.17).
Collection issues that have been previously
addressed during a balance due investigation by field
personnel in the preceding 12 months will not be
re-examined unless there is convincing evidence that
such reinvestigation is absolutely necessary.
the previous revenue officer has completed a full
CIS analysis within the last 12 months including
verification of assets, income, and expenses and
has made a determination of Fair Market Value of
assets, equity in assets and monthly ability to
pay, the information should not be reinvestigated
unless there is reason to believe the taxpayer's
situation has significantly changed.
A taxpayer is not required to substantiate expenses
that are categorized as National Standards unless they
exceed the Standard.
A taxpayer may be required to substantiate expenses
that are categorized as Local Standards or Other
Necessary Expenses (LEM 5.3.1).
Substantiation of expense amounts could include
items like bank statements, credit cards vouchers,
rent/lease receipts and leases, payment coupons, court
orders, contracts, and canceled checks. Document how
obligations are being met and the source of funds.
Taxpayers who own realty should provide documents
showing the monthly payment, the purchase price, date
of purchase, and the principal amount due. When
obtaining documents for substantiation, ask the
taxpayer for copies, not original documents. If
necessary, secure telephone numbers and contact names
of creditors. These can be used if verification is
When analyzing expenses for a business taxpayer,
ensure that business expenses are not included under
personal expenses. Compare the 433-A and 433-B to
income tax returns to verify assets and income or
analyze bank deposits.
claims the lease payment of an automobile for
business and personal use. The expense will not be
allowed as part of the transportation expense on
Secure third party information such as bank deposit
records, government agency records, competitors or
suppliers to determine the source of funds of the
taxpayer. Ensure that third party notice requirements
are met (refer to IRM 5.1.17, Third Party Contacts).
Use summons authority to secure leads to assets and
income (refer to IRM 25.5, Summons).
Compare income to expenses. If expenses exceed
income, ask the taxpayer probing questions to
determine alternate sources of income that may be
supplementing his/her income. Look for and consider:
"non-cash expenses" such as
depreciation or amortization of assets
"book value" vs. Fair Market Value
non-payment of accounts receivables (in
down-sizing/insolvent (a viable business)
roommate(s) or rental income
commingling of funds between unrelated
On business accounts, determine if there are
"non-cash " expenses such as depreciation or
amortization. Also consider a commingling of funds
between related entities. Examine prior year returns
to detect sporadic income. Review bank deposits for
the past 3-6 months to determine the taxpayer's stated
Generally, a taxpayer will be allowed only the
expenses they are required to pay. Consideration must
be given to any other income into the household and
any expenses shared with a not liable person(s).
Generally, the assets and income of a not liable
person are considered in the computation of the
taxpayer's ability to pay. Their income is considered
in the computation of the taxpayer’s ability to pay
the debt from disposable income. One notable exception
is community property states. Follow the community
property laws in these states to determine what assets
and income of the otherwise not liable spouse are
subject to collection of the tax.
Community Property States: Arizona, California,
Idaho, Louisiana, Nevada, New Mexico, Texas,
Washington, and Wisconsin. (IRM 18.104.22.168.2.1)
When the taxpayer indicates income is not
commingled and responsibility for specific expenses is
divided between the cohabitants, allow the expenses
assigned to the taxpayer or apply the taxpayer's
percentage of income to the total expenses, whichever
Verify as much of the financial statement as
possible through internal sources.
When internal locator services are not available,
or a discrepancy is indicated, request the taxpayer to
provide reasonable information necessary to support
their financial statement.
For CNC hardship or Offer in Compromise cases, a
full credit report is required on all cases with a
total liability (including accrued penalty and
interest) greater than $100,000. Unable to contact or
unable to locate CNC cases over $50,000 (including
accrued penalty and interest) require a full credit
report. For all other investigations, consider
securing a full credit report as additional
verification of the taxpayer's financial situation if
warranted by the facts and circumstances.
Regardless of the amount of the liability consider
cross-reference TIN's for related business
activity not declared on the CIS.
IMFOL and BMFOL
(IMF) or copy of the last filed return
Compare the amount of reported income to
that declared on the CIS.
•Identify past sources of income:
Schedule A: itemized
deductions, such as mortgage
Schedule B: interest and
Schedule C: self
Schedule D: capital gains
Schedule E: rental or other
investment income, net
operating loss deduction.
Schedule F : farm income
Schedule K-1: partnership
and/or copy of older year income tax returns
Compare real estate tax and mortgage
interest deductions to the amount declared
on the CIS. Higher amounts may indicate
present or past property ownership not
declared on the CIS. Lower amounts may
indicate that property has been recently
sold or transferred.
Identify assets not reported on CIS
such as certificates of deposit,
investment accounts, etc.
Verify sources of income, such as
employers, bank accounts, retirement
Identify recently dissipated
(BMF) or copy of last filed income tax
Compare the amount of reported
income to that declared on the CIS.
Compare the value of assets and the
amount of reported depreciation to the
asset values declared on the CIS. The
true vale of an asset may not be shown
on Form 4562 or the depreciation work
Check the location of depreciable
Motor Vehicle Records
motor vehicles registered to the taxpayer
but not declared on the CIS.
Check for ownership in
or lien holders.
Ownership of a
trailer may lead
as boats or jet
Identify real property titled to
the taxpayer but not declared on the
Identify property held by
transferee (IRM 22.214.171.124; IRM
5.1.14), nominee (IRM 5.17.2) or alter
ego (IRM 5.17.2).
divorce records, death certificate,
registered wills, and Uniform
Identify past residences and
Verify competing lien holders,
balances due and payment history.
Identify property not listed on
Identify other creditors as leads
to undisclosed assets.
Identify financial institutions
which the taxpayer has conducted
business with both past and present.
Look for entities and associations
with foreign banks and corporations.
Identify current real property,
transferred or sold property.
Identify vehicle ownership.
Identify interest in partnerships,
corporations or other businesses.
Identify potential third parties
residing with taxpayer.
Look for vessels and crafts (FAA).
Request appropriate documentation from the chart
below to verify the CIS. Do not make a blanket request
for information. Tailor your request to each
taxpayer's specific situation. Do not require the
taxpayer to provide information that is available from
Earner - Wage statements for the prior three
months. A statement with current year to
date figures is also acceptable.
Compare average earning to the
income declared on the CIS.
Verify adequate tax withholding.
Identify payroll deductions to
ensure the expense is necessary and
not claimed again on the CIS.
Identify deductions to savings
accounts, credit union accounts,
retirement accounts, savings bonds and
- proof of gross income (invoices, accounts
receivable, commission statements, etc.) for
the prior three months
determine the value of closely held stock
that is either not traded publicly or for
which there is no established market,
consider the following methods of valuing
the company and assign a proportion of the
company's value to the taxpayer's stock:
Secure and verify a CIS for the
corporation or partnership.
Review recent year's annual report
to stockholders, stockholder meeting
minutes and stock ledger books.
Review recent year's corporate
income tax returns.
Identify other stockholders,
consider relationship to taxpayer
Review stock book and verify total
amount of stock issued and
Request an appraisal of the business as a
going concern by a qualified and impartial
statements for the last three months.
checks and credit cards statement for the
last three months.
Verify amount and frequency of
Identify unnecessary expenses.
Look for unusual activity.
account statements, brokerage account
statements, securities or other investments,
annuity accounts, lottery winnings, trust
information, inheritance and insurance
the type, conditions for withdrawal, sale or
borrowing and current market value.
Identify the type, conditions for
borrowing or cancellation and the
current loan and cash values.
Verify the amount of required
premiums and whether they are being
Identify source of funds used to
vehicle (vessel or craft) purchase or lease
contracts, the pay off amount from the
estate, warranty or mortgage deeds, HUD
closing statements, quit claims, the pay off
amount from the lender.
the type of ownership, amount of equity and
monthly payment expense. Evaluate potential
or renter insurance policies and riders.
Compare the insured value to the
value declared on the CIS.
Identify high value personal items
such as jewelry, antiques or works of
statement recently provided to lending
institutions or others.
the financial information submitted to
others with that declared on the CIS.
disposition of assets in the property
settlement. Secure copy of interlocutory
orders for child support and proof of
Allowable expenses include those expenses that meet
the necessary expense test. The
necessary expense test is defined as expenses that are
necessary to provide for a taxpayer's and his or her
family's health and welfare and/or production of
income. The expenses must be reasonable.
The total necessary expenses establish the minimum a
taxpayer and family needs to live.
There are three types of necessary expenses:
National Standards: These establish standards for
reasonable amounts for five necessary expenses. Four
of them come from the Bureau of Labor Statistics (BLS)
Consumer Expenditure Survey: food, housekeeping
supplies, apparel and services, and personal care
products and services. The fifth category,
miscellaneous, is a discretionary amount established
by the Service. It is $100 for one person and $25 for
each additional person in the taxpayer's household.
All five standards are included in one total
national standard expense.
Local Standards: These establish standards for two
necessary expenses: housing and transportation.
Taxpayers will be allowed the local standard or the
amount actually paid, whichever is less.
Housing - Standards are established for each
county within a state. When deciding if a
deviation is appropriate, consider the cost of
moving to a new residence; the increased cost of
transportation to work and school that will
result from moving to lower-cost housing and the
tax consequences. The tax consequence is the
difference between the benefit the taxpayer
currently derives from the interest and property
tax deductions on Schedule A to the benefit the
taxpayer would derive without the same or
Transportation - The transportation standards
consist of nationwide figures for loan or lease
payments referred to as ownership cost, and
additional amounts for operating costs broken
down by Census Region and Metropolitan
Statistical Area. Operating costs were derived
from BLS data. If a taxpayer has a car payment,
the allowable ownership cost added to the
allowable operating cost equals the allowable
transportation expense. If a taxpayer has no car
payment only the operating cost portion of the
transportation standard is used to figure the
allowable transportation expense. Under
ownership costs, separate caps are provided for
the first car and second car. If the taxpayer
does not own a car a standard public
transportation amount is allowed.
Other - Other expenses may be allowed if they meet
the necessary expense test. The amount allowed must be
reasonable considering the taxpayer's individual facts
Conditional expenses. These expenses do not meet
the necessary expenses test. However, they are
allowable if the tax liability, including projected
accruals, can be fully paid within five years.
National local expense standards are guidelines. If
it is determined a standard amount is inadequate to
provide for a specific taxpayer's basic living
expenses, allow a deviation. Require the taxpayer to
provide reasonable substantiation and document the
Generally, the total number of persons allowed for
national standard expenses should be the same as those
allowed as dependents on the taxpayer's current year
income tax return. Verify exemptions claimed on
taxpayer's income tax return meet the dependency
requirements of the IRC. There may be reasonable
exceptions. Fully document the reasons for any
exceptions. For example, foster children or children
for whom adoption is pending.
A deviation from the local standard is not allowed
merely because it is inconvenient for the taxpayer to
dispose of valued assets.
Revenue officers should consider the length of the
payments. Although it may be appropriate to allow for
payments made on the secured debts that meet the
necessary expense test, if the debt will be fully
repaid in one year only allow those payments for one
National standards include the following expenses:
Apparel and services. Includes shoes and
clothing, laundry and dry cleaning, and shoe
Food. Includes all meals, home and away.
Housekeeping supplies. Includes laundry and
cleaning supplies; other household products such
as cleaning and toilet tissue, paper towels and
napkins; lawn and garden supplies; postage and
stationary; and other miscellaneous household
Personal care products and services. Includes
hair care products, haircuts and beautician
services, oral hygiene products and articles,
shaving needs, cosmetics, perfume, bath
preparations, deodorants, feminine hygiene
products, electric personal care appliances,
personal care services, and repair of personal
Miscellaneous. A discretionary allowance of
$100 for one person and $25 for each additional
person in a taxpayer's family.
Allow taxpayers the total national standard amount
for their income level.
taxpayer's expenses are: housekeeping supplies -
$150, clothing - $150, food - $600, miscellaneous
- $400 (Total Expenses - $1,300). The taxpayer is
allowed the national standard of $1,100.
A taxpayer that claims more than the total allowed
by the national standards must substantiate and
justify each separate expense of the total national
taxpayer may claim a higher food expense than
allowed. Justification would be based on
prescribed or required dietary needs.
Local standards include the following expenses:
Housing and Utilities. The utilities include
gas, electricity, water, fuel, oil, bottled gas,
trash and garbage collection, wood and other
fuels, septic cleaning, and telephone. Housing
expenses include: mortgage or rent, property
taxes, interest, parking, necessary maintenance
and repair, homeowner's or renter's insurance,
homeowner dues and condominium fees. Usually,
this is considered necessary only for the place
of residence. Any other housing expenses should
be allowed only if, based on a taxpayer's
individual facts and circumstances, disallowance
will cause the taxpayer economic hardship.
Transportation. Vehicle insurance, vehicle
payment (lease or purchase), maintenance, fuel,
state and local registration, required
inspection, parking fees, tolls, driver's
license, public transportation. Transportation
costs not required to produce income or ensure
the health and welfare of the family are not
considered necessary. Consider availability of
public transportation if car payments (purchase
or lease) will prevent the tax liability from
being paid in part or full. Public
transportation costs could be an option if it
does not significantly increase commuting time
and inconvenience the taxpayer.
If the taxpayer has no car payment, or no
car, question how the taxpayer travels to and
from work, grocer, medical care, etc. The
taxpayer is only allowed the operating cost or
the cost of transportation.
Other expenses may be considered if they meet the
necessary expense test - they must provide for the
health and welfare of the taxpayer and/or his or her
family or they must be for the production of income.
This is determined based on the facts and
circumstances of each case.
If other expenses are determined to be necessary
and, therefore allowable, document the reasons for the
decision in your history.
The amount allowed for necessary or conditional
expenses depends on the taxpayer's ability to full pay
the liability within five years and on the taxpayer's
individual facts and circumstances. If the liability
can be paid within 5 years, it may be appropriate to
allow the taxpayer the excessive necessary and
conditional expenses. If the taxpayer cannot pay
within 5 years, it may be appropriate to allow the
taxpayer the excessive necessary and conditional
expenses for up to one year in order to modify or
eliminate the expense. (See
IRM 5.14, Installment Agreements)
is Necessary if:
and legal fees.
before the Service is needed or meets the
necessary expense tests. Amount must be
any other accounting or legal fees. Disallow
costs not related to solving current
to tax exempt organizations)
it is a condition of employment or meets the
necessary expense tests. Example: A minister
is required to tithe according to his
any other charitable contributions that are
not considered necessary. Example: Review
the employment contract.
day care, nursery and preschool)
meets the necessary expense test. Only
reasonable amounts are allowed.
of child care can vary greatly. Do not allow
unusually large child care expense if more
reasonable alternatives are available.
Consider the age of the child and if both
child support, including orders made by the
state, and other court ordered payments)
court ordered and being paid, they are
allowable. If payments are not being made,
do not allow the expense. Child support
payments for natural children or legally
adopted dependents may be allowed.
the court order.
Care(For the care of
the elderly, invalid, or handicapped.)
there is no alternative to the taxpayer
paying the expense.
is required for a physically or mentally
challenged child and no public education
providing similar services is available.
Also allowed only for the taxpayer and only
if required as condition of employment.
An attorney must take so many education
credits each year or they will not be
accredited and could eventually lose their
license to practice before the State Bar. A
teacher could lose their position or in some
States their pay is commensurate with their
for the health and welfare of the family.
Elective surgery would not be allowed such
as plastic surgery or elective dental work.
The taxpayer must provide proof of excessive
out of pocket medical expenses.
determine monthly expenses, the total out of
pocket expenses would be divided by 12. The
Schedule A may also be used to determine the
yearly expense. Ensure that the amount used
is out of pocket after insurance claims are
paid. Substantiate that payments are being
it is a requirement of the job; i.e. union
dues, uniforms, work shoes.
determine monthly expenses, the total out of
pocket expenses would be divided by 12.
it is a term policy on the life of the
there are whole life policies, these should
be reviewed as an asset for borrowing
against or liquidating. Life insurance used
as an investment is not a necessary expense.
or legally perfected debts
it meets the necessary expense test.
must substantiate that the payments are
the taxpayer substantiates and justifies the
expense, the minimum payment may be allowed.
The necessary expense test of health and
welfare and/or production of income must be
met. Except for payments required for the
production of income, payments on unsecured
debts will not be allowed if the tax
liability, including projected accruals, can
be paid in full within 90 days.
of unsecured debts which may be necessary
expenses include: Payments required for the
production of income such as payments to
suppliers and payments on lines of credit
needed for business and payment of debts
incurred in order to pay a federal tax
is for current federal, FICA, Medicare,
state and local taxes.
taxes are allowed regardless of whether the
taxpayer made them in the past or not.
Delinquent state and local taxes are
allowable depending on the priority of the
FTL and/or Service agreement with the state
and local taxing agencies.
Telephones and Telephone Services (Cell
phone, pager, Call waiting, caller
identification or long distance)
must meet the necessary expense test.
it is secured by the federal government and
only for the taxpayer's education.
must substantiate that the payments are
it meets the necessary expense test -
generally for production of income.
of loans made for payment of Federal Taxes
the loan is secured by the taxpayer's assets
when those assets are of reasonable value
and are necessary to provide for the health
and welfare of the family.
Determining Individual Income
For purposes of determining the taxpayers' ability
to pay, total household income must first be
determined. Refer to Section 126.96.36.199.4, Shared
Expenses for a complete explanation of determining
proportionate income and expense calculations. If the
taxpayer refuses to provide total household income,
allocate 50% (or an appropriate percentage based on
the number of household individuals) of household
expenses to the taxpayer.
Income consists of the following:
Wages - Wages include salary, tips, meal
allowance, parking allowance or any other money
or compensation received by the taxpayer as an
employee for services rendered. This includes
the taxpayer and spouse.
Use the following formulas to calculate
gross monthly wages or salaries:
If paid weekly, multiply weekly gross wages by
If paid bi-weekly (every 2 weeks), multiply
bi-weekly gross wages by 2.17.
If income is sporadic or seasonal, use the
annual income figure from the W-2 or the 1040
and divide by 12 to determine the average
Interest and Dividends. Includes any interest
or dividends that the taxpayer receives or that
is credited to an account and can be withdrawn
by the taxpayer and used for household expenses.
The annual total should be divided by 12 to
determine the average monthly income Look for
brokerage accounts for dividends from publicly
traded corporations and look for undisclosed
bank accounts for interest payers.
If the interest bearing accounts are used
as an asset, and the taxpayer will be
withdrawing the funds from the account to
reduce the tax liability, the dividends or
interest would not be used in the income
Net Income from Self-Employment or Schedule
C. The amount the taxpayer earned after paying
ordinary and necessary business expenses. This
amount may be determined from an analysis of the
Form 433-B or the Schedule C from the most
current Form 1040. If the net business is a
loss, enter " zero" . Do not enter a
If the 433-B is used or the taxpayer
provides their own income and expense
statement, it must reflect a sufficient time
frame to accurately determine the monthly
average that could be expected for the entire
Net Rental Income. The amount earned after
paying ordinary and necessary monthly rental
expenses. If it is a loss, enter a
"zero" . Do not enter a negative
Pensions. Includes social security, IRA,
profit sharing plans, etc. Pensions could be
used as an asset or as part of the income
stream. Refer to IRM 188.8.131.52, Business
Child Support. Include the actual amount
received in addition to other debts or bills the
spouse is paying. For example, the court order
assigns $200 a week for support but also
requires all medical bills to be paid. In
determining total expense, adjust the expense
Alimony. Includes the assigned payments made
by the non-resident spouse. However, consider if
other bills are being paid, such as the
mortgage, and adjust the expense accordingly.
Other. This could include payments from a
trust account, royalties, renting a room,
gambling winnings, sale of property, etc. Tax
return information could include various sources
Businesses and individuals both have the same type
assets. For example, cash is the same for a
corporation or an individual. However, some assets
that are unique to businesses can be more complex or
difficult to determine actual value. Many businesses
employ accounting firms to maintain records and books
or use over the counter software programs. Because of
the complexity of business entities, acquiring and
reviewing these records are very important in
determining the true value of an asset. The statements
you should secure from business entities are described
Income Statement. Income Statement or Profit and
Loss Statement is a financial statement that shows
revenue, expenses and profit during a given accounting
period, usually either a quarter or a year. Along with
the balance sheet, the income statement is a tool used
to assess the health and prospects of a company. The
income statement shows revenue and expenses, including
operating expenses, depreciation, income taxes and
extraordinary items. Using the income statement, a
taxpayer or revenue officer can quickly figure cash
flow, profit margins and other important indicators of
how the business is doing.
Balance Sheet. A firm's balance sheet is a snapshot
of its financial picture on a given day. A balance
sheet shows the financial position of a company by
indicating the resources that it owns, the debts that
it owes and the amount of the owner's equity in the
business. One side of the balance sheet totals up
assets, moving from most liquid (cash) to least liquid
(plant and equipment or goodwill). The other side of
the balance sheet lists liabilities in order of
immediacy. Remember that assets must equal liabilities
plus shareholders equity. The balance sheet, along
with the income statement, is an important tool for
analyzing the financial health of a company. Using the
balance sheet, compare current assets and current
liabilities to assess equity; and consider hidden
value in assets.
Assets are any item of value owned by a
business. A firm's assets are listed on its
balance sheet, where they are set off against
its liabilities. Assets may include factories,
land, inventories, off-shore accounts, vehicles
and other items. However, not all assets are
created equal. Some assets, such as cash, are
easy to value and liquidate. In addition to
cash, there are assets called cash equivalents.
Cash Equivalents are short term, highly
liquid investments (three months maturity or
less) that are made with idle cash. These can be
included as equivalents of cash for cash flow
purposes. Others, such as buildings and
farmland, are quite real too, and somewhat more
difficult to value accurately. These kinds of
assets are collectively known as tangible
assets. Intangible assets, such as goodwill,
also can be important to the success of the
enterprise. Goodwill, for instance, could
include a valued brand gained in an acquisition
(a famous brand, such as Coca-Cola, doesn't
normally show up on balance sheet otherwise).
Other examples of intangible assets are patents,
franchises, licenses and customer lists.
In general, firms are required to carry
assets on their books at cost less depreciation.
This conservative principle means that the
balance sheets of most companies understate the
true value of their holdings.
Liabilities are the opposite of assets. A
liability is a debt, an obligation to pay. Thus,
short-term debt (less than 1 year to maturity),
long-term debt and certain other obligations
appear as liabilities on a company's balance
Consult local revenue agents with questions
about adjusting the financial information for a
The IRC permits a taxpayer entity to reduce its
income by deducting expenses paid to earn that income.
Often these expenses help to identify assets to pay
the tax liability.
Deductions may not necessarily be allowed as an
expense in determining the ability to pay-- only
actual cash expenses are used. If the taxpayer submits
their own income and expense statement, the non-cash
expenses should be removed from the analysis.
taxpayer takes a 10K deduction for depreciation -
this amount would not be allowed as an expense.
Substantiation and verification is required for
In analyzing and verifying the business income and
expenses or deductions, real or potential assets may
be identified. The following charts provide an
explanation of the income or expense item and other
considerations for identifying assets or other
Compensation of Officers. This amount represents
compensation paid to corporate officers during the
compensation paid to the officers in the
form of cash.
is not always in the form of cash. Corporate
officers may have compensation packages that
Often the officers are also shareholders or
close relatives of the shareholders. Make
The benefits provided during the
year are not for personal gain
The compensation is not excessive
for the corporation's ability to pay
or the local economy
The corporation is not inflating
the officers' salaries to reduce the
a revenue officer encounters the commingling
of corporate and individual assets and/or
income, coordinate with local Counsel and
consider pursuing alter ego or transferee
assessments. Since sufficient detail is not
always present on Schedule E, obtain it from
the representative or taxpayer.
Bad Debt. Bad debts are amounts owed to the
corporation but uncollectible.
debts are never an expense item.
deduction represents the amount that remains
uncollected after the corporation exhausts
all avenues to collect the debt. Determine
the relationship between the debtor and the
corporation. For example:
Loans to officers or shareholders
that were not repaid.
Absence of a note or security
agreement that proves the existence of
the loan to the officer or
The corporation chooses not to
pursue the debtor because of a close
relationship. For example, a loan made
to an officer or shareholder's child.
The corporation did not attempt to
collect the debt.
The debtor is insolvent and unable
to pay the debt.
This section is critical if the case is a
defunct or bankrupt corporation. Bad debt
may have caused the corporation to become
insolvent. Determining the next action would
depend on how the bad debt was incurred.
supplier files bankruptcy leaving the
taxpayer with an unmanageable bad debt and
subsequent bankruptcy or taxpayer
transferred assets to a relative and then
claimed bankruptcy. In the first example, do
not pursue; in the second example, review
IRC § 6901, Transferred Assets, and proceed
Taxes and Licenses. This represents deductible
taxes and license fees paid on assets by the
the type of taxes and licenses included and
for which assets they are paid.
can represent any asset deemed taxable by
local, county and state taxing authorities.
Land and buildings
Machinery and equipment
Taxi or Liquor License
the taxpayer the location of the assets.
Contact or research city, county and state
offices to verify the location, description,
valuation and other pertinent data for
possible enforced collection against the
assets. If you locate an asset being used by
a shareholder, officer or employee without
proper compensation, get the full details.
Consider an alter ego or transferee
Interest. Interest deduction represents any
interest paid or payable on corporate debt secured by
may be loans of cash to purchase real
estate, machinery, or equipment.
certain that the interest deduction is not
on any asset used by the corporate
shareholders or officers for personal gain.
Interest payments to corporate
officers on loans they made to the
corporation. This is potentially
preferential treatment of creditors if
other priority debt is not paid, e.g.,
Interest payments to corporate
officers on the capital investment
they made to the corporation, again a
Interest payment for personal debts
of the corporate officers or other
Interest payments on nonexistent
loans to corporate officers.
Revenue officers that encounter these
arrangements, should consider the
possibility of corporate assets being
dissipated. Pursue the beneficiary of this
arrangement with a transferee or alter ego
Depreciation. Depreciation is a method to deduct
the purchase price or basis of an asset over its
is never an expense item.
4562, Depreciation and Amortization, is used
to list the basis and depreciation of assets
for tax purposes.
Ask for the depreciation work papers or
schedules for the prior, current and
subsequent years. Comparing one year to
another can help determine the true value of
The disappearance of an asset from one
year's depreciation schedule could mean the
Discarded, sold, traded-in or
Fully depreciated for tax purposes.
There should be either an asset or proceeds
from the disposition of the asset.
true value of an asset is not necessarily
shown on the Form 4562 or the depreciation
work papers. Although the asset may have
been fully depreciated, it may have some
Depletion. Depletion is similar to depreciation,
but applies to assets such as oil, gas, coal or
gemstones. Since the asset is removed from the ground,
the depletion allowance is computed to account for
this removal from the source.
is never an expense item.
discloses the availability of an asset or a
right to an asset. Identify the source of
the asset and:
Locate the source of the depletion.
Gather the necessary information to
levy on the proceeds generated from
the depletion deduction. For example,
name and address of the payor.
The right to the asset can be sold. The best
customer will be the payor or company
removing the item from the ground.
Pension, Profit Sharing Plans and Employee Benefit
Programs. Generally, pensions, profit-sharing plans
and employee benefits programs indicate a retirement
account for the employees and corporate officers.
the corporation's interest in the plans.
corporations use investment firms for these
accounts. Other corporations maintain and
operate their own plans. Refer to the IRM
for details on the possibility of pursuing
collection action on this asset. For
The sole beneficiaries for these
accounts are the officers or
shareholders whose funds may be used
to offset the tax liability or the
Trust Fund Recovery Penalty
The deposits are to hide corporate
assets under the officers' or
The deposits can be borrowed
against to pay the outstanding tax
Get the specific details on the owners and
share amounts for each contributor and check
with an employee plans specialist before
Other deductions. Other deductions represent the
cumulative total of all deductions that do not have a
line entry on the return.
schedule of other expenses in order to
verify necessary business expenses.
may disclose assets not previously
identified. Clarify questionable or
excessive deductions. Be alert to expenses
made for the personal gain of the officers
or shareholders. For example:
Commingling of personal and business
expenses may lead to an alter ego or
transferee assessment. Duplicate expenses
should be eliminated.
Net Operating Loss (NOL) Deduction. The net
operating loss is not an "out-of-pocket"
expense but an artificial amount based upon tax law.
is never considered an expense.
discloses that the corporation may be able
to make a larger payment on the tax
Do not let the accountant or the corporation
reduce its ability to pay by this amount.
This represents a "paper loss"
only and not a real reduction in value.
Determining Business Income
Income represents the return in money from a
business, labor or capital investment: gains, profits,
salary, and wages.
Gross Receipts or Sales.
receipts represent money received by the
corporation for the goods sold or services
rendered. This figure is the total before
any expenses are reported.
receipts may be deposited in an operating
account at regular intervals, such as daily,
weekly, or any other time based on business
the prior, current and subsequent years'
gross receipts gives revenue officers a good
idea of the cash flow. This is helpful when
projecting future cash flow and considering
an installment agreement.
represent receivables or money received by
funds may be investment or security
accounts; or, they may be reinvested in the
entity paying them. This amount may not
reflect an entire year's earnings.
the length of time needed to earn the
amounts reported. A revenue officer may
determine that an amount initially thought
to be nominal, is in fact worth pursuing.
Review bank statements, Forms 1099, and
income represents money received from bank
accounts or investments.
reported interest income discloses the
source that generated the income. Examples
include cash, savings account and bonds.
These interest amounts may be credited to
the account on which they were paid;
deposited after receipt; or, used to
purchase additional investments.
revenue officer may determine that an amount
initially thought to be nominal, is in fact
worth pursuing. The amount could have been
earned over a short period of time, while
the corporation was looking for somewhere to
invest its money. Ask if the sources of
interest are still available to pay or
reduce the tax liability. If the taxpayer
says "no " , then ask what
happened to the funds and when did it
happen. If the taxpayer says "yes"
, ask where they are located and when can
rents represent payments received for the
use of corporate assets and may be in the
form of monies, services, assets, bartering
or any combination of these.
how payments are made to determine which
assets are available and the location and
value of assets. For example, the
corporation leases space to other
Gross rents disclose the existence of an
asset. Determine the asset and the payor,
then levy on the receivable or seize the
asset if necessary.
to gross rents but is normally earned on
assets such as recordings, films, or mineral
income can lead to an account receivable
that can be levied or the right to that
receivable that can be sold.
recordings look for a production company;
for films look for a distributor; and for
minerals, look for a site or buyer of
Capital Gain Net Income.
the net of the short-term and long-term
gains and losses reported on Schedule D,
Capital Gains and Losses.
D discloses proceeds from the sale of an
asset and may indicate the taxpayer disposed
of an asset. Determine what was sold; to
whom it was sold; what happened to the
money; was the asset replaced and where is
is not unusual for someone who sells stock
to own other stock and reinvest the sale
proceeds into more stock. If land was sold,
it could be a portion of a larger parcel
still held by the taxpayer. Identify the
asset and payor to determine possible levy
There may be a fraudulent conveyance if
assets are sold for a nominal amount to a
friend or relative to prevent IRS collection
Net Gain (or Loss).
4797, Sale of Business Property, is used to
report the gain or loss generated from the
sale of business assets.
form would include assets that were
partially or fully depreciated and then
the funds generated from the sale are still
available, apply the funds to the tax
liability. If the funds generated from the
sale are not available, determine what
happened to them.
income represents items that do not fit into
one of the specific categories on Form 1120.
A construction company may have
income from scrap construction
A legal firm may have referral
A Medical Professional Corporation
may have expert witness fees for
serving at a trial.
other income sources can disclose a wide
spectrum of items depending on the nature of
the business. Request an explanation of the
amount shown and then proceed according to
As described in the previous sections, analysis of
the income and expenses identifies many of the assets
the taxpayer may have. Additionally, each section of
the Collection Information Statement (CIS) should be
reviewed to ensure that all sections are completed and
all assets have been identified.
Secure the location (foreign or domestic) for each
asset, any debts owed on the assets, the date the debt
was acquired and the date the debt will be satisfied.
Proper valuation of the assets is necessary to
determine the total collection potential of the
taxpayer. The value should be based on the fair market
A field call should be made to locate and
personally observe the condition of assets based on
the merits and circumstances of the investigation.
Determining Equity in Assets
Determine the Fair Market Value (FMV). The FMV is
the price set between a willing and able buyer and the
seller in an arms length transaction with full
knowledge of the relevant facts.
Quick Sale Value (QSV) is an estimate of the price
a seller could get for the asset in a situation where
financial pressures motivate the seller to sell in a
short period of time, usually 90 days or less.
Generally, QSV is an amount less than FMV but greater
than Forced Sale Value (FSV). FSV is defined as no
less than 75% of FMV.
Normally, QSV is calculated at 80% of FMV less
amounts owed to secured lien holders with priority
over the federal tax lien. A higher or lower
percentage may be appropriate depending on the type of
asset and current market conditions.
Jointly Held Assets
When taxpayers own assets jointly with others,
allocate equity in the assets equally between the
owners, unless the joint owners demonstrate their
interest in the property is not equally divided. In
this case, allocate the equity based on each owner's
contribution to the value of the asset.
Although we may determine not to execute our lien
on jointly held assets, that would not prohibit us
from requesting the taxpayer to attempt to secure a
loan against the asset, at least to the equity we have
When determining the reasonable collection
potential, an analysis is necessary to determine if
certain assets are essential for the production of
income. When it is determined that an asset or a
portion of an asset is necessary for the production of
income, it may be appropriate to adjust the income or
expense calculation for that taxpayer to account for
the loss of income stream if the asset were either
liquidated or used as collateral to secure a loan.
When valuing income-producing assets:
is no equity in the assets.
is no adjustment necessary to the income
is equity and no available income stream
(i.e., profit) produced by those assets.
is no adjustment necessary to income stream.
are both equity in assets that are
determined to be necessary for the
production of income and an available income
stream produced by those assets.
the value of the income stream produced by
the income producing asset(s) to the equity
that is available. Determine if an
adjustment to income or expenses is
asset used in the production of income will
be liquidated to reduce the tax liability.
adjusting the income to account for the loss
of the asset.
taxpayer borrows against an asset that is
necessary for the production of income, and
devotes the proceeds to the reduction of the
the effect that loan will have on future
expenses and the future income stream.
taxpayer is either unable or unwilling to
secure a loan on the equity in income
the equity in the assets with income
produced by those assets. Determine if an
adjustment to the income stream is
appropriate to account for the potential
loss of the assets.
These considerations should be fully documented in
the case history. For example:
self-employed construction tradesman sells a
truck, which he used to haul materials, and
devotes the proceeds to the reduction of the
allowing the expected cost of delivery
services as a business expense.
of selling the truck, the tradesman borrows
against it and devotes the proceeds to the
reduction of the tax liability.
allowing the loan repayment as a business
loan cannot be secured and loss of the truck
would create an economic hardship.
warrant acceptance of less than reasonable
collection potential and document the case
outside salesman drives a luxury car when
all that is necessary is a moderate value
the equity in the analysis. Consider
allowing only a portion of the loan
repayment that would be required to purchase
a moderate value replacement vehicle.
business owns a vacation property that is
used for annual board meetings.
the equity in the analysis. Do not allow any
Assets Held By Others as Transferees, Nominees or
A critical part of the financial analysis is to
determine what degree of control the taxpayer has over
assets and income in the possession of others.
When these issues arise, apply the principles in
the Legal Reference Guide for Revenue Officers (IRM
5.17) or request an opinion from counsel.
Cash assets include currency on hand and bank
account balances, including checking, savings and any
other account. Determine the location (foreign or
domestic) of the bank accounts.
Determine the taxpayer's interest in bank accounts
by ascertaining the manner in which they are held.
Apply the principles described in the Legal Reference
Guide for Revenue Officers (IRM 5.17).
Verify whether deposits in escrow or trust accounts
are actually held for the benefit of others.
Financial securities are considered an asset and
their value should be determined.
To determine the value of publicly traded stock,
research a daily paper or inquire with a broker for
the current market price. Then, allow for the
estimated costs of the sale to arrive at QSV.
When a taxpayer holds only a negligible or token
interest, has made no investment and exercises no
control over the corporate affairs, it is permissible
to assign the stock no value.
Life insurance as an investment is not considered a
necessary expense. However, reasonable premiums for
term life policies may be allowed when the policy is
for the life of the taxpayer.
When determining the value in a taxpayer's
insurance policy consider:
taxpayer will retain or sell the policy to
reduce the tax liability.
is the cash surrender value.
taxpayer will borrow on the policy.
is the cash loan value less any prior policy
loans or automatic premium loans required to
keep the contract in force.
Retirement or Profit Sharing Plans
Funds held in a retirement or profit sharing plan
are considered an asset.
Contributions to voluntary retirement plans are not
a necessary expense. Review of the retirement plan
document is generally necessary to determine the
taxpayer's benefits and options under the plan.
When determining the value of a taxpayer's pension
and profit sharing plans consider:
account is an Individual Retirement Account
(IRA), 401(k) or Keogh Account.
taxpayer is not retired or not close to
is the cash value less any expense for
liquidating the account and early withdrawal
account is an Individual Retirement Account
(IRA), 401(k) or Keogh Account.
taxpayer is retired or close to retirement.
is the cash value less any expense for
liquidating the account and early withdrawal
penalty, or consider the plan as income, if
the income from the plan is necessary to
provide for necessary living expenses.
to a retirement plan is required as
condition of employment.
taxpayer is able to withdraw funds from the
is the amount the taxpayer can withdraw less
any expense associated with the withdrawal.
to an employer's plan is required as a
condition of employment.
taxpayer is unable to withdraw funds from
the account but is permitted to borrow on
is the loan value.
plan may not be borrowed on or liquidated
until separation from employment.
taxpayer is not eligible to retire and is
not being separated.
plan has no equity.
plan includes a stock option.
taxpayer is eligible to take the option.
is the value of the stock at current market
price less any expense to exercise the
When the taxpayer will liquidate the retirement
plan, allow any penalty for early withdrawal and the
current year tax consequence. Consider requiring the
taxpayer to submit an estimated tax payment as
Furniture, Fixtures, and Personal Effects
The taxpayer's declared value of household goods is
usually acceptable unless there are articles of
extraordinary value such as; antiques, artwork,
jewelry, or collector's items. Exercise discretion in
determining whether the assets warrant personal
There is a statutory exemption from levy that
applies to the taxpayer's furniture and personal
effects and an exemption that applies to the value of
tools used in a trade or business. These separate
exemption amounts are updated on an annual basis. The
levy exemption for tools of the trade does not apply
to corporate entities, but only to individual business
When determining the value consider the following:
taxpayer qualifies as head of household,
single, or married
a reduction in the value of personal effects
for the levy exemption amount.
property is owned jointly with any person
who is not liable for the tax
the value of the taxpayer's proportionate
share of property before allowing the levy
of the furniture or fixtures are used in a
are not personal effects, but they may
qualify for the levy exemption as tools of a
Motor Vehicles, Aircraft and Vessels
Motor vehicles, aircraft and vessels (boats) are
considered assets. Equity in these types of vehicles
must be determined and should be considered as
possible collateral for loans. The general rule for
determining net realizable equity, as discussed in
Allowable Expenses, applies when determining equity in
Generally, it is not necessary to personally
inspect automobiles used for personal transportation
since their value is easily determined by consulting
trade association guides. If the values are in
dispute, the taxpayer should be instructed to secure
an appraisal from a knowledgeable and impartial dealer
or the revenue officer may adjust the value based on
the condition of the vehicle. Adjustments to value
based on condition should be documented in the case
Assets such as airplanes and boats may require an
appraisal to determine FMV unless the items can be
located in a trade association guide. The case file
should document how these values were determined.
When these assets are used for business purposes
they may be considered income producing assets. See
IRM 184.108.40.206, Income Producing Assets for a full
discussion of the treatment of income producing
When determining equity in real estate, FMV of the
property must be established. FMV is defined as the
price a willing buyer will pay for the property based
on the property's current condition and use. The
following methods may be used to establish FMV:
Recent purchase price or an existing contract
Real estate tax assessment
Homeowners insurance replacement cost
In determining the interest of the liable party,
and the value of the interest, refer to the LRG (IRM
5.17) and state law for additional guidance. The basis
for the valuation should be documented in the case
The equity in real estate should be pursued as a
means to full pay or reduce the tax liability. The
taxpayer should be asked to secure a loan. Refusal to
pro-actively seek a loan will be considered refusal to
pay and appropriate enforcement actions should be
pursued. Refer to applicable sections within Part 5 of
Mortgage and Real Estate Loans
Mortgage and real estate loans represent money
loaned by the corporation to pay for real property.
This may disclose real property or real estate notes
Determine the status of the loan and who holds the
note or mortgage. Determine if the real estate note
can be used as collateral for a loan to satisfy the
tax liability or be factored or sold to the debtor.
Accounts and Notes Receivable
Trade notes and receivables are income or
"account receivable " amounts owed to the
taxpayer by others. Consider the value of accounts for
purposes of potential enforcement.
To determine the value of accounts receivable:
When the receivables have been sold at a
discount or pledged as collateral on a loan,
apply the provisions of IRC § 6323(c) to
determine the lien priority of commercial
transactions and financing agreements.
Determine if the receivable has previously
been secured by a lender. Refer to IRC §
6323(d) 45-day Period for Making Disbursements.
Examine accounts of significant value from
which the taxpayer is not pursuing collection.
Examine account that are receivables from
officers, stockholders or relatives.
When it is determined that liquidation of a
receivable would be detrimental to the continued
operation of an otherwise profitable business, careful
consideration should be given to levying the
Secure a complete listing of account receivables:
Name, address and telephone number
Age and date due
Inventory is property held for sale by the
The most common inventories are:
Determine the value of the inventory. This may be
used as collateral for a loan or may be seized and
sold in the event enforcement action becomes
Machinery and Equipment
To determine the value of business assets:
For automobiles and trucks, consult trade
association guides, such as Blue Books,
Automobile Dealers, newspapers, etc.
For specialized machinery and equipment,
consult a trade association guide, secure an
appraisal from a knowledgeable and impartial
dealer, or contact the manufacturer.
For especially difficult valuation problems
where no other resource will meet the need,
follow local procedure to request the services
of an IRS valuation engineer.
Tax-exempt securities are investment securities
that are not taxable.
These securities are assets. Since they are not
taxable, they are not always listed on the return. The
earnings from these securities are not reflected on
the interest or dividend lines of the tax return.
These securities can include:
Loans to Shareholders
These assets represent an account receivable due to
the corporation by its shareholders. Sometimes the
corporation grants a loan to a shareholder or relative
of the shareholder with no intention of repayment.
Determine the following to verify the existence of
Is there a written note?
Are there periodic payments made to the
corporation by the shareholder?
Is a reasonable rate of interest received or
Does the loan represent funds or assets?
Has the loan been forgiven subsequent to this
Make sure no corporate money is used for the
personal gain of corporate officers or
shareholders. Think about the factors that would
indicate the commingling assets.
Intangible assets are those without physical form
or substance. The most common are:
The existence of an intangible asset can indicate a
potential future benefit. While not
"physical" , these are valuable assets and
thus subject to amortization.
Amortization, like depreciation, is the write-off
of an investment expense over a specified period or
the economic useful life of the intangible asset. The
amount on the return is the unamortized residual
balance of the intangible. In other words, it is the
amount that has not been written off.
The value of the intangibles can be obtained
through the sale of the asset. Examples include:
Restaurants and bars that may have a liquor
TV or radio stations that have an FCC license
Athletic teams that may possess a league
A manufacturer that may have a trademark or
A long time and well established operation
may have "goodwill " , that is a
favorable consideration shown by its customers.
In other words, a good reputation that is
valuable for business income.
Cash Flow Analysis
Taxpayers may substitute the corporate financial
statements for the income and expense section of the
433-B. However, if the taxpayer does not submit the
income and balance sheet of the corporation, they
should be requested in order to review the viability
of the corporation and to complete a cash flow
analysis if appropriate as discussed in IRM 220.127.116.11,
The taxpayer may be asked to submit a cash flow
analysis. These are often completed when taxpayer's
seek loans or investors and may already be available
for the revenue officer's review.
Cash Flow. Cash flow is net income minus preferred
dividends plus depreciation (as given in the income
statement). Generally speaking, cash flow is the best
measure of a company's profits. It is usually
calculated by adding depreciation and any other
non-cash charges to earnings after taxes. Investors
look to cash flow for several reasons:
firms have accounting leeway when it comes to
reporting net income;
depreciation charges, while substantial in
many industries, aren't genuine bills that have
to be paid; and
Cash flow is the key to a company's ability
to pay dividends, cover debts and so forth.
Thus, some analysts focus on the ratio of price
to cash flow rather than the traditional
price/earnings (P/E) measure. Cash flow is
especially useful in assessing firms in
capital-intensive industries such as cable TV,
in which huge depreciation charges can hide
Making the Collection Decision
The analysis of the taxpayer's financial condition
provides a basis for making one or more of the
Request payment in full or a partial payment
based on the liquid equity in available assets.
Consider filing a federal tax lien. See IRM
5.12, Federal Tax Liens.
Enforced Collection. After taxpayers have
been given the opportunity to resolve their
accounts and failed to do so, consider enforcing
collection. See applicable sections in Part 5 of
Installment Agreement. See IRM 5.14,
Currently Not Collectible. When financial
analysis indicates no means of payment, see IRM
5.16, Currently Not Collectible (CNC) Handbook.
Offer-in-Compromise. See IRM 5.8, Offer in
Address full compliance and ensure taxpayer is
current with all filing and paying requirements,
including federal tax deposits and estimated tax
When analyzing and verifying the financial data, be
alert to any indications of fraud. If indications of
fraud are identified, refer to IRM 25.1, Fraud or
contact the Fraud Referral Specialist (FRS) before
further contact with the taxpayer or representative.
Trust Fund Recover Penalty (TFRP). If the
delinquency includes trust fund employment taxes, a
TFRP investigation must be completed. The finances of
any responsible person would be considered in
analyzing the potential payment of the account. See
IRM 5.7, Trust Fund Compliance Handbook.
Business Entity and Collection
The Internal Revenue Code does not include specific
provisions for liability collection from most state
law business organizations. The provisions of state
law that establish limitation for liability for
business types are used as guidance for determining
the entity liable for taxes incurred in a business.
In the absence of specific guidance on collection
issues from business entity types, rely upon
characteristics substantiated in the code of Federal
Regulations for determining the party liable for taxes
(26 CFR 7101-1).
Since state law is also the determining factor for
defining property and rights to property, the
attachment of a federal lien to property is highly
dependent upon factors outside federal law. The
principle of state law definition for property and
rights to property is one that has been confirmed
repeatedly in decisions of the federal courts.
Determining an effective course of collection
action requires the application of classification
principles to first determine the identity of the
liable party and then to determine if state law
definitions of property are sufficient to justify
attachment of a federal lien.
Application of these principles is not a
significant concern for treatment of most tax
assessments. An assessment of tax in the name of a
business entity can be generally taken as evidence of
liability on the part of the party assessed.
In recent years the popularity of the state law
limited liability company (LLC) and its classification
under federal regulations, in certain circumstances,
as an entity "disregarded" as separate from
its owner has created problems for determining the
party liable for tax.
Business entities fall into four broad
The proprietorship is the simplest form of
The proprietorship is a business name for
It is not protected from the liabilities of
their owner under state law.
A proprietorship cannot own property in its
own name distinct from its owner.
The owner and the proprietorship are
essentially one and the same.
Income of a proprietorship is allocated to
the owner for federal income tax purposes.
Partnerships are organized under state law
through ownership agreements.
Partners may be individuals or state law
State law generally specifies that partners
are liable for the debts of the partnership.
Partnership assets generally cannot be
attached for liabilities incurred by the
Partnerships are further categorized into
general partnerships and limited partnerships
in state law.
In general partnerships, the partners are
generally held liable for partnership debts as
provided in state law.
In limited partnerships, a partner,
generally known as a managing partner, is
designated the operating partner and is
generally held liable for the consequences of
actions taken on behalf of the partnership.
The managing partner is therefore often
held responsible for the trust fund recovery
penalty authorized by IRC § 6672.
Income tax is allocated to the partners
based upon the percentages specified in the
partnership agreement by filing Form 1065 with
associated Schedule K-1s. Schedule K-1 income
is in turn reported on the partners’ income
Corporations are chartered by the states under
specific incorporation statutes.
They are organized under the provisions of
a corporate charter filed with a designated
state official (secretary of state or
equivalent position) that specifies the
business rights and privileges given the
corporation and is represented by an official
registered agent, often the attorney who
represented the entity in its incorporation
The charter specifies the duties of
corporate officers and the right to issue
Corporations have a separate legal
existence under state law, own property in
their own right and have limitation of
liability relative to the debts of the
Corporate assets cannot be attached for
debts of the owner/stockholders except in
circumstances when transferee liability or
state law alter ego and/or nominee theories
are successfully pursued.
Corporations are usually taxed for the
income produced by their activities.
Subchapter S corporations pass the income
to their shareholders via Schedule K-1 who in
turn report the distribution on their personal
Limited liability companies (LLC) are a hybrid
business organization authorized in state law.
The LLC is owned by one or more persons
known as "members. "
The LLC may own property in its own name
and owners have no direct interest in such
The LLC offers limitation of liability
available under corporate organization to
protect LLC assets from member/owner debts.
It offers maximum flexibility of operation
of the business and is subject to less
stringent requirements under state law for its
It files articles of organization with a
designated state official.
Unlike state partnership law, state LLC law
specifically limits the liability of owners
for debts of the LLC.
Income Tax Treatment For LLC Produced Income
When the LLC is owned by more than one person,
income may be allocated to the owners via Schedule
K-1 as would be the case for a partnership. Such
"multi-member LLCs" may also elect to be
treated as a corporation for income tax purposes by
filing Form 8832 with the designated campus.
An LLC owned by one person, also known as a
"single member LLC" may also elect to be
taxed as a corporation by filing this election. If
no election is made, the LLC is classified as a
"disregarded entity." The disregarded
entity has no separate tax existence from that of
The disregarded entity has no tax status separate
from that of its owner. It can have no more than one
A proprietorship is effectively a
disregarded tax entity of its owner because it
has no separate tax existence from its owner.
A proprietorship, however, is not eligible
for differing tax treatment offered to solely
owned entities, such as the LLC, that have a
separate legal existence under state law. This
is the short explanation of why the LLC cannot
be treated as a proprietorship.
The disregarded LLC can create a number of
complications for collection of tax, particularly
employment tax liabilities.
The owner is the common law employer, even
though the LLC, under some circumstances, may
file the employment tax return in its own
Assets of the owner, not the LLC, must be
addressed for collection; LLC law specifies
that the owner holds no direct ownership
interest in LLC assets.
The assessment of tax against a disregarded
entity can be taken as evidence of liability.
Questions and Answers to Assist in Financial Analysis
If, as a condition of employment, a minister is to
tithe, a business executive is required to
contribute to a charity, or an employee is
required to contribute to a pension plan, will
these expenses be allowed?
Yes. The only thing to consider is whether the
amount being contributed equals the amount
actually required and does not include a voluntary
A taxpayer has a child in an expensive university.
She has already paid the university $25,000 for
tuition and housing for the school year. and she
intends to pay another $25,000 next July for the
following school year. Should this expense be
if we can get a full pay within five years.
Otherwise, the expense will not be allowable. If
the provisions of LEM 5.3 are met, the taxpayer
may be eligible for an allowable expense to cover
the child's enrollment at a local college. The
reduced education expense could make it possible
for the taxpayer to take advantage of the
five-year rule. Tell the taxpayer that we expect
an amount equal to the tuition. She is responsible
for deciding what expense modifications or
eliminations are needed to pay the tax liability.
A taxpayer is starting the second year of two-year
lease for a luxury car. Car payments are $1,200 a
month. Should the taxpayer be allowed this
if we can get a full pay within five years.
Otherwise, the taxpayer must justify the expense.
There are some occupations which require luxury
cars. The type of car can also depend on the
location. A real estate agent will probably drive
a more expensive car if she is working a suburb
with very expensive homes than a middle class
suburb. If the taxpayer could be expected to drive
a more reasonably priced car, then steps should be
taken to eliminate the expense. Ask the taxpayer
what the penalty would be to return the car to the
dealer. With only one year left on the contract,
the penalty might not be negligible compared the
amount we could receive if the taxpayer leased a
A taxpayer is living in an apartment which rents
for $2,000 per month. The lease has another six
months to run. The lease agreement includes a
termination penalty equal to the lesser of two
months rent or the monthly rent due for the
balance of the lease. The taxpayer has a $500
security deposit. Local rental data indicated that
an acceptable rental apartment in the same general
neighborhood can be rented to house the family at
a cost of $1,500 per month. The taxpayer cannot
full pay within five years. Should the taxpayer be
required to move to cheaper living quarters as a
condition of an installment agreement?
Since breaking the lease would cost more than
keeping it until expiration, an installment
agreement may be written which allows the taxpayer
to live in his present quarters for the balance of
the lease but which requires an increase of $500
with the seventh month.
A taxpayer is a commissioned sales person living
in a home with a $3,000 monthly mortgage. The
property was purchased in 1989 at the peak of the
local real estate market and has lost
approximately 25% of its value in that time due to
local market declines. The present value is
approximately equal to the mortgage balance. A
single family home of a size adequate to house the
family is available in a middle class neighbor
convenient to work and schools for $1,800 per
month, including utilities. If the taxpayer
remains in his home, income and expenses are
approximately equal, leaving no disposable income
to apply to the delinquent federal taxes. Should
the account be reported currently not collectible?
No. The difference between the cost of renting and
owning indicated that a significant payment can be
made if the residence were sold. The loss of the
taxpayer's equity is not the primary
consideration. Advise the taxpayer he will have up
to one year to adjust his expenses so that the
Service will then receive an amount equal to the
excessive housing expense. Make an installment
agreement for a lesser amount in the interim, with
an increase in payment at the date the house is
supposed to be sold. Advise the taxpayer that
enforcement may be taken at the end of a year if
the installment agreement defaults for any reason,
including because the taxpayer failed to pay the
required increase. If there is a default, the
taxpayer will have to demonstrate that a good
faith effort was made to sell or borrow on the
A taxpayer claims her cable TV expense of $40 per
month is a necessary expense because she lives in
a remote area where reception is poor. Should this
expense be allowed?
Yes, if we can get a full pay within five years.
But it is not a necessary expense. Also, the
National Standards include an amount for
"miscellaneous" expenses which could
cover cable TV.
taxpayer claims that she needs more than the
amount provided by the National Standards because
she has five teenage children. Can she get an
Yes, if she can fully pay the tax liability within
five years. Otherwise, she has to substantiate and
justify all the expenses included within the
National Standards. The fact that she spends more
than the National Standards allow for one
category, such as clothing, does not in itself
constitute a justification.
self-employed taxpayer who has no other source of
retirement income has an Individual Retirement
Account (IRA). Should payments to the IRA be
allowed if it will take six years for her to fully
pay the tax liabilities?
No. Tell the taxpayer to apply the amount going to
the IRA to the tax liability, in addition to other
identified disposable income. If the taxpayer
wishes to continue making IRA payments, she must
divert the money from allowed expenses.
Question. We have
a joint tax liability against a married couple.
They have submitted a Form 433-A. Our analysis
indicates that it will take a four-year
installment agreement to fully pay the tax
liability. The husband is a truck driver who is
responsible for his own food and lodging expenses
on the road. He usually pays as he goes with a
credit card. He requests that this monthly payment
be allowed. Should we allow the expense?
First, we need to determine if these are business
expenses. If they are, they should not appear on
the Form 433-A. The income which appears on the
433-A should not reflect business expenses which
have already been deducted from business income to
arrive at personal income. If they are not
business expenses and its determined they are
necessary, they should be allowed. How they are
paid, cash or credit card, doesn't concern us. If
the taxpayer needs to make minimal payments to
keep his credit card active, he should be told
that the payments should come from the amount
allowed by the National Standards, which includes
a miscellaneous amount. Then monthly additions to
the credit card should be fully paid from the
amount allowed for the expense.
taxpayer completed a CIS which indicates that she
can fully pay the liability within five years.
Since the assessment of the tax liability, she has
purchased a luxury car which has increased her
expenses by $2,000 a month. Should the provisions
of the five-year or the one-year rule apply?
If it appears that she, although aware of the tax
liability, committed part of her disposable income
to excessive necessary or not-allowable
conditional expenses, the Service is not obligated
to allow the excessive expenses even though the
liability could be fully paid within five years.
It may be appropriate to inform the taxpayer that
for the Service to consider an agreement, she will
have to pay us immediately an amount equal to the
down payment on the car and to pay us, as part of
an installment agreement, an amount equal to the
increased monthly costs for the car. This amount
would be in addition to her other disposable
A taxpayer has a child in parochial school. Should
the taxpayer be allowed this expense?
Yes, if we can get a full pay within five years.
Otherwise, the expense will be allowed if it is
for a physically or mentally challenged child and
no public education providing similar services is
available. If the expense is not to be included
among allowable expenses, tell the taxpayer that
he or she is responsible for deciding what expense
modifications or eliminations are needed to pay
the tax liability.
Because of budget constraints, a public school
district has begun charging fees for certain
services which were previously provided free.
Should a taxpayer be allowed the expense of paying
Yes, if the fees are required of all children in
the school district. Fees for optional services,
such as music lessons, are allowable if the tax
liability including projected accruals will be
paid within five years.
Question. An area
has an arrangement with Consumer Credit Counseling
Services (CCCS) in which CCCS submits installment
agreement proposals on behalf of the taxpayer. Are
these cases be subject to the new allowable
Yes, unless the agreement falls under the
streamlined installment agreement procedures. Any
installment agreement in which financial analysis
is required will be subject to the allowable
expense guidelines. The area office must share
allowable expense procedures with CCCS.
corporation owes a $75,000 tax liability of which
$55,000 is trust fund. The corporation does not
have sufficient assets to pay but two of the
officers have in excess of $100,000 in assets. Do
we need to assess the Trust Fund Recovery Penalty
(TFRP) before we pursue payment of the liability
from the responsible persons?
No, we do not need the TFRP assessed before we
look to the responsible officers for payment of
the corporate liability. Our investigation of the
corporation should include an investigation of the
officers or responsible persons. In this scenario,
the officers should be asked to loan the full
payment to the corporation. However, no
enforcement actions could be taken until the
assessment is made and we would be limited to the
collection of the trust fund only.
taxpayer lives with his fianc. Both of them are
wage earners. The home is owned by the fianc but
the taxpayer claims he pays all the household
bills. They have a joint checking account and all
wages are electronically deposited to that
account. The taxpayer's proportionate share of
household income is 64%. The house has a QSV of
$15,000 after encumbrances. How would you
determine the excess income and would you consider
the real property in making a determination of
The total allowable and conditional expenses would
be determined for the entire household the same as
a married couple. The taxpayer would then be
allocated 64% of those expenses for purposes of
the monthly installment agreement. Consideration
should be given to requesting that the taxpayer
secure a loan on the equity of the home, depending
on the liability and the effect on the excess
monthly income. Whether or not the occupants have
a legal relationship (marriage), or are roommates
sharing expenses and regardless if the liability
is joint or not, a determination must be made on
how income is allocated to expenses. Unless it can
be substantiated that they are entirely separated,
we will generally allocate expenses proportionate
Financial Analysis: On-Line Access to the Allowable
Expense Tables (Reference 5.15.1)
The Allowable Expense Tables (Collection Expense
Standards) are web-based and are located on the following
Complete the following steps for internet access:
Enter http://www.irs.gov/ for access to the IRS
Digital Daily page
Next, under Contents
click on Individuals.
Click on Collection
Complete the following steps for intranet access:
Enter http://sbse.web.irs.gov/ for access to the
SB/SE Home Page
Next, under Resourcesclick
Then under Compliance,
click on Allowable Expense
Now click on "searchable web site" .
For legal assistance on tax matters, please contact Nathan Zeliff,