Yes. In certain cases, the IRS can require you to liquidate retirement account funds as part of an installment agreement to pay off back taxes. If the IRS determines your retirement savings exceed what you'll need for retirement, it may treat the excess as an available asset and factor it into your payment calculation.
A recent Tax Court case, Kosmides v. Commissioner of Internal Revenue, made this uncomfortably clear. The taxpayer proposed paying $400 per month. The IRS countered with $3,375, arguing he should tap his retirement accounts and cut expenses the IRS considered unnecessary. Understanding how the IRS calculates installment payments, what it considers a "necessary expense," and when retirement accounts are fair game is essential for anyone negotiating a tax debt repayment plan.
What Is an IRS Installment Agreement?
An installment agreement lets taxpayers pay off what they owe over time instead of in a lump sum. The IRS offers several types:
Streamlined installment agreement: For taxpayers who owe $50,000 or less, with simplified approval and fewer financial disclosures required
Partial payment installment agreement (PPIA): For taxpayers who can't pay the full balance within the collection statute. Monthly payments are based on the IRS's calculation of your ability to pay
Non-streamlined installment agreement: For larger balances, requiring detailed financial disclosure
The right type depends on how much you owe, your income, your assets, and your expenses. The IRS doesn't just take your word for what you can afford. It runs its own calculations using strict guidelines.
How Does the IRS Calculate Your Monthly Payment?
The IRS uses the Internal Revenue Manual (IRM 5.15.1) and its Collection Financial Standards to determine what you can reasonably pay each month. The formula is straightforward: your income minus allowable expenses equals your payment.
The catch is what the IRS considers "allowable." Necessary expenses generally must meet this test: they're needed for the health, welfare, and income production of the taxpayer and their family. Standard allowances include:
Housing and utilities: A set amount based on your state, county, and family size
Vehicle ownership and operating costs: A standard allowance that covers payments and maintenance
Health insurance: The cost of maintaining coverage is generally allowed
Out-of-pocket healthcare: A standard monthly allowance
What the IRS often doesn't allow:
Credit card minimum payments
Secondary or supplemental insurance the IRS considers optional
Vehicle payments that exceed the standard allowance
Tuition, charitable giving, and other discretionary spending
In the Kosmides case, the IRS Appeals Officer rejected expenses for secondary health insurance, above-standard vehicle costs, and credit card payments, arguing none met the "necessary expense" test. That's what drove the payment from the taxpayer's proposed $400 to the IRS's $3,375.
When Can the IRS Go After Retirement Accounts?
This is where the Kosmides case gets particularly relevant. The taxpayer explicitly stated he would not liquidate retirement accounts to fund payments. The IRS disagreed.
Under IRM 5.15.1, the IRS can consider retirement accounts as available assets when:
The account balance exceeds what the taxpayer will need for retirement
The taxpayer is at or near retirement age and the funds are accessible without early withdrawal penalties
Liquidating a portion of the account wouldn't create undue financial hardship
The IRS essentially performs a calculation: how much does this person need for retirement, and is there an excess? If so, the excess may be subject to liquidation to help settle the tax debt.
This doesn't mean the IRS automatically drains every retirement account. But it does mean retirement savings are not automatically off-limits in installment agreement negotiations. The assumption that 401(k)s and IRAs are untouchable is one of the most common and costly misconceptions taxpayers have when entering these discussions.
What the Kosmides Case Teaches Taxpayers
The key takeaways from this case:
The IRS controls the math. Your proposed payment means nothing if it doesn't align with IRS financial standards.
Retirement accounts are on the table. Stipulating that you won't touch them doesn't make them exempt.
Documentation matters. The taxpayer in Kosmides couldn't provide sufficient evidence that his expenses were necessary, and lost on appeal.
"Necessary" has a specific IRS definition. It's not what feels necessary to you. It's what meets the IRM standard.
How to Protect Yourself in Installment Agreement Negotiations
If you're negotiating an installment agreement with the IRS, particularly a PPIA, preparation is everything:
Know the Collection Financial Standards before proposing a number. If your expenses don't fit within the IRS allowances, have documentation ready to justify deviations.
Understand your retirement account exposure. If you're near retirement age with significant balances, the IRS will look at those funds.
Document every expense. Medical costs, housing, vehicle needs. If you can't prove it's necessary, the IRS will remove it from the calculation.
Don't wait to respond. There are strict time limits on appeals. Missing them can result in the IRS moving forward with levies against your assets.
An experienced tax debt lawyer can review your financials, anticipate what the IRS will challenge, and build a case that supports a realistic payment amount. The difference between a $400 payment and a $3,375 payment often comes down to how well the proposal is prepared.
What If You Disagree With the IRS's Calculation?
You have the right to appeal. Options include:
Requesting a Collection Due Process (CDP) hearing before any levy action
Filing an appeal with the IRS Independent Office of Appeals
Petitioning the U.S. Tax Court if you believe the IRS abused its discretion
But as Kosmides demonstrates, winning an appeal requires evidence. The burden is on the taxpayer to prove that the proposed expenses are necessary and that the IRS's calculation is unreasonable. Going into this process without a tax attorney who understands IRS collection procedures puts you at a significant disadvantage.
If you owe back taxes and need to negotiate a payment plan, or if the IRS has proposed terms you can't afford, a tax lawyer experienced in IRS tax collection enforcement can help you build a stronger position.
Contact Kundra Tax Law to discuss your situation →
Frequently Asked Questions
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In certain cases, yes. If the IRS determines your retirement account balance exceeds what you'll need for retirement, it can require you to liquidate the excess to fund an installment agreement.
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A PPIA allows taxpayers who can't pay their full balance to make monthly payments based on the IRS's calculation of their ability to pay. Unlike a standard installment agreement, a PPIA may not cover the full amount owed before the collection statute expires.
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Housing, utilities, vehicle costs, health insurance, and out-of-pocket medical expenses, all based on IRS Collection Financial Standards. Expenses like credit card payments and supplemental insurance are often disallowed.
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You can appeal through the IRS Independent Office of Appeals or request a Collection Due Process hearing. Act promptly because strict deadlines apply, and missing them can result in levies against your assets.
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If you owe a significant amount or have complex finances (retirement accounts, multiple income sources, above-standard expenses), yes. An experienced tax attorney can anticipate IRS challenges and build a case for a more manageable payment.