Methanol steam reforming, catalyzed by Pd/ZnO (PdZn alloy), is a potential source of hydrogen for on-board fuel cells. CO has been reported to be a minor side product of methanol decomposition that occurs in parallel to methanol steam reforming on PdZn catalysts. However, fuel cells currently used in vehicles are very sensitive to CO poisoning. To contribute to the understanding of pertinent reaction mechanisms, we employed density functional slab model calculations to study the decomposition of formaldehyde, a key intermediate in methanol decomposition and steam reforming reactions, on planar surfaces of Pd, Cu, and PdZn as well as on a stepped surface of PdZn. The calculated activation energies indicate that dehydrogenation of formaldehyde is favorable on Pd(111), but unfavorable on Cu(111) and PdZn(111). On the stepped PdZn(221) surface, the dehydrogenation process was calculated to be more competitive to formaldehyde desorption than on PdZn(111). Thus, we ascribe the experimentally observed small amount of CO, formed during steam reforming of methanol on the Pd/ZnO catalyst, to occur at metallic Pd species of the catalyst or at defect sites of PdZn alloy.