Deceased employee W2 amendment created negative payroll liability – Help?

Addressing Payroll Liabilities Following a Deceased Employee’s W-2 Amendment

Navigating payroll and tax issues can be particularly challenging in the unfortunate event of an employee’s passing. We recently encountered a scenario that raised several questions about managing payroll liabilities and obligations after an employee’s death, particularly regarding W-2 amendments and subsequent liabilities. Here’s a breakdown of the situation and potential solutions.

The Situation

At the end of December 2023, a co-owner of the company passed away. Although the individual was deceased, a paycheck for the final pay period was issued in 2024, which included deductions for a 401(k) loan and other regular withholdings. Subsequently, a W-2 was generated in January 2024, which is generally not permissible for a deceased individual.

As I was not part of the team at that time, I had to follow up with our payroll service provider to amend the W-2 when it came time for the estate to file taxes. The amendment resulted in a journal entry from the payroll company that unintentionally created a negative liability within our loan and withholding accounts.

Under normal circumstances, the company would issue a refund of these amounts to the employee’s estate. However, due to the passage of time between the individual’s passing and the tax filing, the estate had already transferred funds from the employee’s 401(k) into other accounts, which also affected the loan payment and regular withholdings.

Seeking Solutions

Finding a resolution to this situation requires a careful approach. The immediate question is whether the solution lies in adjusting the journal entries (JE) to reclassify these amounts from payroll liabilities to payroll expenses. This adjustment could help eliminate the negative figures reflecting in our accounts.

However, it’s essential to consider the broader implications that this adjustment might have on the balance sheet. While it would rectify the negative liabilities, it’s critical to understand how this reclassification would affect overall financial reporting and ensure compliance with relevant Accounting standards.

Next Steps

To effectively address this issue, it would be prudent to consult with an accountant or financial advisor who specializes in payroll and tax regulations. They can provide specific guidance on:

1. Proper Classification: Ensure that the adjustment is appropriate and adheres to Accounting principles.

2. Impact Assessment: Analyze how the changes will reflect on the company’s balance sheet and income statement.

3. Future Protocols: Establish clear guidelines for handling payroll matters in similar situations in the future, especially