Both my wife and I file zero allowances for both Federal (W-4) and State (CA). For Federal we checkbox married and for State we checkbox single/married with two or more incomes. To the best of my knowledge, filing with zero allowances means that at the end of the year we should have a $0 balance with the IRS. In addition, any tax deductions we take (like our mortgage interest) should come back to us as a rebate who's value depends on our tax bracket.

What has happened in the last two years is that we ended up owing the IRS and State just a bit over $500 combined when we were expecting a sizable rebate due to our first-home mortgage with a balance just over $600K @ 5%. In fact, had we not been able to claim nearly $50K in tax deductions, we would have ended up owing the IRS $10K in additional taxes -- how can this be?

I am aware that all things being equal, it is better to end up owing a little than receiving a large rebate because that means you were allowed to make interest off the money you save rather than giving the IRS an interest-free loan; but I'm still curious where this disparity in taxes owed comes from.