Navigating Complex Payroll Issues After the Loss of an Employee

Dealing with payroll and tax matters can be challenging under the best of circumstances, but they become particularly complex in the unfortunate event of an employee’s passing. A situation recently came to light involving the estate of a company owner who passed away at the end of December 2023, leading to confusion surrounding the handling of payroll deductions, W-2 issuance, and the implications for the business’s financial records.

The Scenario

After the owner’s passing, the last payday for that employee fell in early 2024. It was during this period that a paycheck was issued, which included deductions for a 401(k) loan repayment and other regular deductions. By the end of January 2024, a W-2 was issued for this period; however, there are regulations that typically prohibit issuing W-2s for deceased individuals.

Unfamiliar with the company’s practices at the time, I found myself in a tricky situation when it came time for the estate to file the deceased’s 2023 taxes. It became necessary to request an amendment to the W-2 and instead generate a 1099 form to properly reflect the circumstances of the case.

The Fallout

Following the amendment, the payroll service generated a journal entry that resulted in a negative balance in both the 401(k) loan and withholding liability accounts. Ordinarily, this is a process that should have been completed promptly, allowing the company to reimburse the estate for any withheld amounts. However, a significant delay between the owner’s passing and the tax filings led to complications: the estate had since redistributed funds from the employee’s 401(k), including those related to the loan payment and regular deductions.

Seeking Solutions

Faced with this predicament, the question arises: how can we resolve the negative payroll liability that resulted from the W-2 amendment? One possible remedy could involve creating a journal entry to adjust the amounts in the payroll liabilities accounts, reallocating those funds to the payroll expenses. However, this approach begs the question of its broader implications.

Effects on Financial Statements

For those considering this course of action, it’s essential to understand the potential effects on the company’s financial statements. While clearing the negative liability account is an immediate benefit, this adjustment will influence your balance sheet’s equity section, reflecting an increase in payroll expenses. This change could also have tax implications, potentially affecting the tax position of the business for the fiscal year.

Conclusion