Each year, the average taxpayer receives a tax refund of approximately $3,200 due to over-withholding, overpayment of estimated taxes, and tax credits. Many taxpayers assume that their entire refund will be returned to them upon IRS processing. However, the reality is that the government can seize all or part of a tax refund to cover certain outstanding debts through a process known as a tax refund offset.
The Treasury Offset Program (TOP), managed by the Bureau of the Fiscal Service (BFS), enables the federal government to deduct certain debts from tax refunds and other federal payments. Understanding how refund offsets work and the steps you can take to prevent or challenge them is crucial for protecting your finances.
What Is a Tax Refund Offset?
A tax refund offset occurs when the government uses all or part of a taxpayer’s federal tax refund to pay an outstanding debt. This process is initiated by the BFS, a division of the U.S. Department of the Treasury that handles federal payments, including tax refunds.
For a debt to be eligible for a tax refund offset, it generally must be more than 90 days past due and must be reported to the TOP database by the agency owed the money.
Types of Debts That Can Trigger a Tax Refund Offset
The following debts are subject to refund offsets:
- Child Support
- If a noncustodial parent falls behind on child support payments, the state agency can report the debt to BFS for an offset.
- The offset applies if:
- The custodial parent receives Temporary Assistance for Needy Families (TANF) and the noncustodial parent owes at least $150.
- The custodial parent does not receive TANF, and the noncustodial parent owes at least $500.
- Spousal Support (Alimony)
- If a child support order includes unpaid spousal support, the state agency can request an offset to cover the debt.
- State Income Tax Debts
- State tax agencies can claim a taxpayer’s federal refund to cover unpaid state taxes.
- The offset applies only if the taxpayer’s federal return lists an address within the state seeking the offset.
- Defaulted Student Loans
- If a federally insured student loan is in default, the U.S. Department of Education can request a refund offset.
- Debts Owed to Federal Agencies
- Refund offsets can be used to recover debts owed to federal agencies, such as:
- Defaulted Small Business Administration (SBA) loans, including Paycheck Protection Program (PPP) and Economic Injury Disaster Loans (EIDL).
- Overpaid federal benefits, such as Social Security overpayments.
- Refund offsets can be used to recover debts owed to federal agencies, such as:
- Unemployment Compensation Overpayments
- If a taxpayer received overpaid unemployment benefits—due to fraud or misreported income—the state unemployment agency can request an offset.
How a Tax Refund Offset Happens
Advance Notice Requirement
A taxpayer must be notified at least 60 days before an offset occurs (65 days for student loans). The notice, sent by the agency owed the debt, must include:
- A description of the debt and the amount owed.
- A statement that the debt will be referred to BFS for offset.
- Information on the taxpayer’s rights to dispute the debt.
- Contact details for the agency that imposed the debt.
How Refund Offsets Are Processed
- Once a debt is added to the TOP database, BFS will automatically deduct the owed amount from the taxpayer’s refund.
- The offset continues until the entire debt is paid off.
- If any portion of the refund remains after the offset, the taxpayer receives the balance.
Offset Notification from BFS
If an offset occurs, the taxpayer receives a notice from BFS listing:
- The original refund amount.
- The offset amount.
- The agency receiving the payment.
- Contact information for the agency.
What to Do If Your Refund Is Offset
If you believe your refund was wrongfully offset, or the amount deducted is incorrect, you must contact the agency that imposed the offset, not the IRS or BFS. Neither the IRS nor BFS has the authority to reverse an offset.
Tax Refund Offsets for Spouses: Injured Spouse Relief
If a taxpayer files a joint tax return and only one spouse owes a debt subject to an offset, the non-debtor spouse can claim their share of the refund by filing IRS Form 8379, Injured Spouse Allocation.
- This form separates the couple’s tax liabilities as if they had filed separate returns.
- The IRS then calculates the injured spouse’s share of the refund and pays it directly to them.
- Form 8379 can be filed:
- With the original tax return.
- After receiving a refund offset notice.
At any time before the IRS processes the refund.
Tax Refund Offsets for Federal Tax Debts
The IRS itself can offset tax refunds to recover unpaid federal taxes. Unlike other refund offsets handled by BFS, IRS tax offsets:
- Do not require BFS involvement.
- Are not subject to the 60-day advance notice requirement.
- Are sometimes avoidable if the taxpayer qualifies for an Offset Bypass Refund (OBR).
What Is an Offset Bypass Refund (OBR)?
An OBR allows taxpayers to receive their refund despite owing back taxes if they can demonstrate economic hardship. However:
- Taxpayers must contact the IRS and request an OBR before their tax return is processed (within 10–20 days of e-filing).
- The IRS grants OBRs on a case-by-case basis.
How to Avoid Tax Refund Offsets
Minimize Your Refund
The best way to avoid a tax refund offset is to avoid receiving a large refund in the first place. This means adjusting withholding or estimated tax payments to ensure your tax liability is paid accurately throughout the year.
Pay or Dispute the Debt
- If you owe a debt that could trigger an offset, consider paying it before filing your tax return.
- If you disagree with the debt amount or believe you do not owe it, contact the agency immediately and provide supporting evidence.
Bankruptcy Consideration
- Filing for bankruptcy triggers an automatic stay, preventing tax refund offsets during the bankruptcy process.
- However, bankruptcy has serious financial consequences and should only be considered after consulting a bankruptcy attorney.
Key Takeaways
- Refund offsets can occur for unpaid debts, including child support, spousal support, state income tax, student loans, unemployment compensation overpayments, and debts owed to federal agencies.
- Taxpayers receive advance notice before an offset (at least 60 days), allowing them time to pay or dispute the debt.
- The IRS handles tax debt offsets separately, and taxpayers may qualify for an Offset Bypass Refund (OBR) in cases of hardship.
Injured Spouse Allocation (Form 8379) allows non-debtor spouses to claim their portion of a joint refund if an offset applies only to their spouse’s debt.
