CA tax board owes 27,000 overcharged taxpayers

The California Franchise Tax Board potentially owes millions of dollars to 27,000 taxpayers who were overcharged interest after applying overpayments from one year to estimated tax payments in the following year. Due to FTB interest miscalculations going back nearly two decades, many more taxpayers may have been overcharged. But they’ll never be reimbursed due to the expiration of the statute of limitations.

How Much is Owed?

The FTB is trying to figure out exactly how much money is owed to about 24,000 individual tax filers and 3,000 businesses still eligible for refunds, and what it will cost the agency to process those claims, FTB Filing Division Chief Anne Miller told the board at its July 21 meeting:

These two interest calculations may impact a limited number of individuals and business entities that meet a set of specific and rare criteria. The criteria are centered primarily around overpayments being transferred or refunded from one particular tax year followed by an additional tax assessment on that same tax year. As a result, our systems may have overcharged interest.

Due to the complexity of the calculations, it’s been quite a challenge for us to determine the fiscal impacts. We estimate that if work was to be done manually on each of these individual accounts, it could take three hours per account. We have enlisted the help of our experts in the Economics and Statistical Research Bureau to help us with these calculations because they are so complex.

About 1,000 of the individual taxpayers are owed for more than one year, placing the total adjustments around 28,000. That equates to 40 FTB staffers working for a year to do the calculations, based on three hours per adjustment if an automated solution isn’t found.

“[W]e believe the adjustments could range from a very minor amount (a few dollars) to thousands of dollars for each account,” said the FTB in its Aug. 3 Tax News. The total amount owed could be in the millions of dollars, according to the California Taxpayers Association, which brought the problem to the attention of FTB management in March.

“CalTax is aware of millions of dollars in miscalculated interest based on what a limited number of taxpayers have told us,” said Gina Rodriquez, CalTax vice president for state tax policy. She continued:

In one case, the FTB overcharged interest by $1 million, and in another case $2 million.

In some of the cases that were reported to us, taxpayers asked the FTB to adjust the interest before their cases went final, i.e., before the taxpayer’s protest, appeal or settlement went final. Taxpayers who had already paid and subsequently discovered the error had to file refund claims to get the interest back if they already paid their assessments. In all cases reported to us, the FTB made the adjustment for the interest miscalculation without any argument, as they knew their calculations were wrong.

When I met with FTB management in the spring to discuss this issue, the FTB acknowledged that their computer system cannot properly calculate interest for taxpayers that fall into the two affected categories.

Origins of Miscalculation

The main category of miscalculation, potentially affecting 26,000 taxpayers, dates back to a lawsuit that May Department Stores Company won in 1996 against the United States for miscalculation of interest on the company’s tax underpayments a decade earlier. The IRS issued a notice in 1997 acquiescing to the court decision.

The complexity of the situation is evident on an FTB web page, which explains that you may be owed a refund under the May Department Stores ruling if:

• You filed an amended return for additional tax or received a deficiency assessment after the original return was filed for the same tax year, and
• On the original return, you elected an overpayment transfer to the subsequent year’s estimate tax, and
• On the subsequent year, the required first quarter estimate payment was less than the requested overpayment transfer amount. The maximum amount of the adjustment is one year of interest on the additional tax or deficiency amount.

The other miscalculation category, known as “corporation interest netting,” may affect about 1,000 businesses that have made a previous refund or payment transfer, then filed a subsequent deficiency or amended return for additional tax with interest for the same tax year.

Thus far fewer of those overcharged are aware that they are owed money. “We’ve received three written requests for interest adjustments as well as a few visits to our website,” Miller told the board. “But our contact center has not reported any phone calls on this issue.”

Time Running Out

The clock is ticking on taxpayers who want to receive refunds. The statute of limitations runs out four years from the date the return was filed if it was filed within the extension period, or one year from the date a payment was made.

FTB plans to avoid this situation in the future. “In order to better serve taxpayers who may qualify for the interest computation adjustments, we have trained our staff to proactively identify cases that meet this criteria as well as put procedures in place to ensure that cases that do meet the criteria proactively receive proper treatment,” said Miller.

FTB Chairwoman Betty Yee, who is also the state controller, was appreciative of Miller’s work. “Thank you for really responding with such a strong focus on just initially identifying the universe [of affected taxpayers], which I know was quite complex,” said Yee. “And now to try to put a fiscal impact around what’s been identified. We look forward to getting that information in September.”

In her capacity as state controller, Yee directed the FTB on April 8 to review the interest miscalculations. “These rulings deal with complex interest calculations that affect very few taxpayers. However, these taxpayers are entitled to receive refunds of allowed overpaid interest,” Yee said. “As chair of the FTB, I work to ensure the rights of taxpayers are protected.”

FTB Board Member Jerome Horton said, “I want to thank the department for being proactive on this and engaging. It’s very important. As always we have stepped up and done so.”

Miller is scheduled to provide an update at the board’s next meeting on Sept. 22.