The $1,000 Tax Mistake

RISMEDIA, Jan. 17, 2008-(MCT)-You know tax-filing season is off to a rough start when the government tells taxpayers: Don’t follow the instructions.

A typographical error in about 2.4 million California tax forms could cause some homeowners to miss their biggest write-off when they file their state tax returns: the deduction for mortgage interest.

That could cost the average homeowner $1,000, according to a Legislative Analyst’s study.

The Franchise Tax Board initially downplayed the issue, estimating that it was likely to affect only about 180,000 people who do their taxes on paper forms. The tax board said it corrected forms that can be downloaded from its Web site, alerted software developers and posted an announcement on its Web page.

But state Controller John Chiang, chairman of the three-person panel that oversees the tax board, ordered more aggressive actions Friday after the Mercury News informed him of the error.

Chiang instructed the board to issue a press release and ship corrected forms and informational posters to the tax board’s six public offices and the 2,300 sites that stock forms.

Chiang also ordered the board to explore cost-effective ways to notify the taxpayers who are most likely to be affected. And if mistakes can’t be caught on the front end, Chiang directed the agency to identify tax returns that miss the deduction, recalculate the tax bill or refund, and mail a letter explaining the adjustment.

“I’m not happy with the mistake,” said Betty Yee, who heads the Board of Equalization and oversees the Franchise Tax Board with Chiang and state Finance Director Mike Genest. “That’s just something that should not have happened. These are pretty easy, minimal measures we should be taking.”

The tax-filing season — which kicked off Friday when the IRS began accepting returns — is off to an inauspicious start. In addition to California’s printing error, the Internal Revenue Service has warned taxpayers that it will be unable to process as many as 13.5 million returns until Feb. 11 because the agency needs time to reprogram its software after lawmakers passed tax legislation in late December.

That problem will delay processing — and refunds — for U.S. taxpayers claiming credits to defer college education bills, the cost of child and dependent care, mortgage interest, residential energy remodeling and certain first-time home buyers.

Now California homeowners face a big headache because of the one-digit typo. The error is on Schedule CA of Form 540, where taxpayers pluck numbers from Schedule A of their federal 1040 form to adjust for California’s own rules. The erroneous form instructs taxpayers to jot down the number for a single deduction listed on line 13 of Schedule A — instead of the total for five deductions added up on line 15.

That mistake means taxpayers who follow the instructions on the form rather than the instruction booklet — which is printed correctly — will miss out on four deductions. That list starts with a whopper — the deduction for mortgage interest, which ranks as the largest write-off many homeowners get on their state taxes. It also excludes certain other types of mortgage interest and fees, as well as investment interest.

The agency discovered the typo a month ago, fixed the forms posted on its Web site and alerted software developers to avoid tripping up taxpayers who use TurboTax, TaxCut or other programs.

“Someone just missed it,” tax board spokesman John Barrett said. “It’s just one of those things that happened.”

But after Christmas, the agency still mailed 1 million erroneous forms to taxpayers and shipped 1.4 million more forms to libraries, post offices and other sites that hand out tax forms.

Tuesday, it also posted an announcement near the bottom of its Web page.

Franchise Tax Board spokeswoman Holly McDonell said most taxpayers will catch the error when they see a big change in the amount they owe compared with last year and say, ” ‘What the heck is going on here?’ By comparing what they got on last year’s tax return they will just be intuitive and figure out that the FTB just made a mistake.”