I am happy to report I was able to override the function by writing phptemplate_search_item() in the template.php. However, I must wonder what I did was OK since it isn't the same as what the documentation tells me.
http://drupal.org/node/11811 This tells me I need _phptemplate_callback() but I couldn't figure out what the param should be. The example is too different, and the API list doesn't mention this in detail. I tried a few params by guesses, all which returned in PHP error.