Resolving Payroll Liabilities After a Deceased Employee’s W-2 Amendment

Navigating payroll issues following the passing of an employee can be complex, particularly when it comes to handling tax documents and related liabilities. Recently, a question arose about the correct procedures to follow when rectifying payroll discrepancies related to a deceased employee’s W-2. Here’s an overview of the situation and guidance on how to address the negative payroll liabilities that can result from a W-2 amendment.

Understanding the Context

In late December 2023, a company experienced the unfortunate passing of one of its owners. Due to the timing of the individual’s death, their last paycheck was issued in early 2024, including deductions for a 401(k) loan and other regular withholdings. Compounding the issue, a W-2 was generated by the payroll service at the end of January 2024, which, as many know, is a practice that should not occur for deceased employees.

The situation became even more complicated when it came time for the estate to file taxes for the deceased. Since this process unfolded after the individual had passed away, the payroll service was instructed to amend the W-2 and issue a 1099 instead. This action resulted in journal entries from the payroll service that introduced negative balances in the loan and withholding liability accounts.

The Challenge

With the estate already having moved funds from the employee’s 401(k), including the corresponding loan payments and withholdings, reconciling these accounts is crucial. The company’s initial approach was to refund the estate the amounts owed, but the delay caused by the time lapse between the employee’s passing and the tax filing complicates the situation.

So, what steps should you take to rectify these negative liabilities?

Steps to Resolve the Issue

1. Evaluate your journal entries: Review the original entries that led to the negative balances in the payroll liability accounts. Understanding their source will help determine the best method for correction.

2. Create offsetting journal entries: Consider making journal entries to transfer the negative liability amounts into payroll expenses. This adjustment will effectively clear the negative liability from your balance sheet.

3. Assess the impact on financial statements: Once the entries are made, there will indeed be an impact on your balance sheet. Reducing the payroll liabilities will enhance the accuracy of your financial statements, but it’s also vital to ensure that overall expenses reflect the company’s true financial position.

4. Consult with professionals: Given the complexities