Navigating Payroll Challenges After the Passing of an Employee: A Guide

The unexpected loss of an employee can bring about a host of complex administrative challenges for a business, particularly when it comes to payroll processes. A recent situation illustrates this point perfectly and raises some important questions regarding the proper procedures for handling payroll liabilities after an employee has passed away.

In this scenario, a company faced difficulties after one of its owners passed away in December 2023. Unfortunately, the timing of payroll processing contributed to further complications. The last paycheck was issued for the employee during a pay period in 2024, and despite the employee’s death, withholdings were made for their 401(k) loan repayment and other deductions. Subsequently, the individual was issued a W-2 form in January 2024, which is generally not permissible for deceased individuals.

Since the person addressing this issue was not with the company at the time of the payroll processing, it became necessary to amend the W-2 and issue a 1099 form. However, this amendment resulted in an unexpected journal entry from the payroll service provider, leading to a negative balance in both the loan and withholding liability accounts.

Under typical circumstances, these negative liabilities could be rectified by refunding the amounts to the deceased employee’s estate. Yet, due to the passage of time between the employee’s death and the filing of taxes, the estate had already transferred funds from the employee’s 401(k) accounts, which included the relevant loan repayments and withholdings. This situation has left the Accounting team searching for a resolution to rectify the negative liabilities.

So, how can one go about resolving these tangled financial discrepancies? One potential solution involves making a journal entry to transfer the amounts from payroll liabilities to payroll expenses. However, it’s essential to understand the broader implications of this action. While it would effectively clear the negative liability on the balance sheet, it may also impact overall expense reporting and financial health indicators.

In summary, handling payroll matters after the death of an employee requires careful consideration and adherence to compliance standards. If faced with a similar situation, it is advisable to consult with payroll professionals and accountants to ensure that all adjustments are made correctly and that your financial records remain clean and accurate.