Deceased employee W2 amendment created negative payroll liability – Help?

Navigating Payroll Challenges After an Employee’s Passing: Seeking Solutions for Amendments and Liabilities

The loss of an employee is always a challenging time for any organization, and the subsequent administrative complexities can amplify that difficulty. After the unfortunate passing of one of our company owners in December 2023, we encountered significant issues related to payroll and tax filings that require careful attention.

During the December pay period, which fell into January 2024 for payroll processing, a paycheck was issued to the deceased individual. This paycheck included deductions for a 401(k) loan and other regular withholdings. Furthermore, a W-2 was generated for the deceased employee, which I have since learned is not typically permissible.

As I joined the company after these events took place, I needed to coordinate with our payroll service to amend the originally issued W-2 in order to facilitate the estate’s tax filings for 2023. We were instructed to issue a 1099 instead. However, this amendment has inadvertently led to a journal entry from the payroll service that has resulted in negative balances in both the loan and withholding liability accounts.

From what I’ve gathered, the appropriate course of action in a timely situation would be to refund the involved amounts back to the estate. Unfortunately, much time has passed since the owner’s death, and the estate has since reallocated funds from the employee’s 401(k) accounts into another account, complicating our ability to rectify this issue with the original amounts.

So, how do we proceed in resolving this matter? One option I’m considering is creating a journal entry to transfer these negative amounts from the payroll liability accounts to payroll expenses. However, I am concerned about the potential implications of this move, particularly regarding our balance sheet. While this adjustment might clear out the negative liability balances, I want to understand how it may alter the overall financial picture of the company.

I would greatly appreciate any insights or advice from those who may have navigated similar situations. What would be the best approach to correct these payroll discrepancies while ensuring compliance with Accounting standards? Your expertise would be invaluable as we work through this complex situation.