Deceased employee W2 amendment created negative payroll liability – Help?

Navigating Payroll Challenges After Employee Demise: A Guide for Business Owners

The passing of an employee can bring various challenges, particularly when it comes to payroll and tax matters. Recently, a company faced a situation that underscores the importance of precise payroll handling in light of such sensitive events.

In late December 2023, one of the company’s owners passed away. The complication arose when it came time to process payroll for that pay period, which fell in January 2024. A paycheck was issued to the deceased employee, which included deductions for a 401(k) loan payment and standard withholdings. Furthermore, a W-2 form was generated for this individual at the end of January 2024, a move that some have contended is not permissible for those who have passed away.

Due to the author’s lack of involvement during these occurrences, they faced a challenge when the estate began filing the deceased’s taxes. They found it necessary to request an amendment to the W-2 from the payroll service provider, with the intention of issuing a 1099 instead.

As a result of this amendment, the payroll service created a journal entry that inadvertently left the Accounting records with a negative liability in the accounts related to loans and withholdings. Typically, it would be expected that the business would refund these amounts to the estate in a more timely manner. However, given the delay between the employee’s passing and the subsequent tax filings, the estate had already transferred the funds from the deceased’s 401(k) into another account, along with any related loan payments and withholdings.

Now, the question remains: how does one resolve this negative liability situation?

One potential solution involves making a journal entry to transfer these amounts from payroll liabilities to payroll expenses. This approach should assist in reconciling the negative liability, but it’s crucial to consider the broader implications on the company’s balance sheet.

While this adjustment may clear the negative liability, it could also impact the financial statements by increasing the total payroll expenses, which in turn could influence profitability assessments and financial ratios.

In summary, managing payroll and tax matters for a deceased employee can undoubtedly be complex. However, understanding the appropriate corrective actions, like making necessary journal entries, can help restore accuracy in the financial records and simplify the overall process. If you find yourself in a similar situation, it may be beneficial to consult with a financial advisor or accountant to ensure compliance and maintain accurate financial reporting.