California taxation on Federal refunds

Sfoley · #1 (**permalink**) 02-16-2008, 12:00 AM

I live in California. I have had to pay estimated taxes for some time now. In 2007 my wife and I maxed out on out 403b (x2) and my 457 plus had additional $$ taken out of our paychecks to go towards taxes and our investment income from almonds was far less than it was in 2006. As a result we over paid taxes by close to $30,000 in 2007. Per turbo tax we will have to pay CA state tax on our Federal return which comes out to be about $5,000. Is this correct? Not the exact $$ amount but the concept. What makes me think I'm missing something is.....the money we used to pay the estimated income was already taxed $$ (had to be claimed as income for 2007) so why is CA requring us to pay taxes again on $$ that was already taxed? Turbo Tax is pretty darn good however this is the firts time I have had to question it.

TaxGuru · #2 (**permalink**) 02-18-2008, 03:49 PM

I think what you omitted from your question was "Did you pay any amounts on Form 540-Es, i.e. California estimated tax payments?". Clearly, you paid Federal estimated taxes which was overpaid by $30,000. This resulted in you getting a Federal Tax Refund.

Now, you must have had some income that was earned or passive income in 2007 that resulted in some potential liability that forced you to pay Federal Estimated tax payments. What you seem to have forgot is California also taxes your passive and earned income taxes. If you have not paid any California taxes to compensate for the tax on the passive income, then you would have incurred California Tax Liability at the end of 2007.

The Federal tax refund is NOT taxed on California, and Turbo Tax is correctly computing the tax liability for California. The California tax liability would be reasonable if you;

1) Had under-withheld your CA tax withholding.

2) Had earned passive income and not made a provision for these tax liabilities by making an an estimated 540-Es tax payment.

3) Were in a higher tax bracket for California and incurred a higher tax rate, than what you had previously estimated.

4) Had an extra-ordinary event such as a sale of an investment property and had substantial gains and no provision was made for the California Tax Liability.