Deceased employee W2 amendment created negative payroll liability – Help?

Navigating Payroll Challenges After an Employee’s Passing: Seeking Solutions

The unexpected loss of an employee can ripple through a business in ways that may not be immediately apparent, especially concerning payroll and tax matters. Recently, our company faced a complex situation that has raised numerous questions about compliance and financial implications.

At the end of December 2023, one of our company’s owners sadly passed away. The timing of his demise coincided with the payroll cycle, and he was issued a paycheck in January 2024, which included deductions for a 401(k) loan repayment and standard withholdings. However, we later discovered that issuing a W-2 to a deceased individual is generally not permissible.

When I took over responsibilities related to the payroll processing, an issue arose during the tax filing process for the deceased’s estate. To rectify the situation, I had to approach our payroll service provider to amend the W-2 and instead issue a 1099 form. Although this adjustment was made, it triggered a journal entry (JE) from our payroll service that has led to a negative balance in our loan and withholding liability accounts.

Complicating matters further, the estate had already transferred funds from the employee’s 401(k) to a different account long before we addressed these discrepancies. This has resulted in a frustrating deadlock regarding the repayment of withheld amounts to the estate, which is typically the course of action in a more timely scenario.

Now, I find myself seeking guidance on how to resolve this Accounting dilemma. Would it be sufficient to create a journal entry to reclassify these amounts from payroll liabilities to payroll expenses? If this is indeed the path forward, what will the repercussions be on our balance sheet, besides eliminating the negative liabilities?

The intricacies of payroll management sometimes present unexpected challenges, and it’s vital to stay informed and seek assistance when navigating them. If you’ve faced similar situations or have insights on how to tackle such issues, your input would be greatly appreciated. Let’s discuss the best practices for ensuring compliance and maintaining financial integrity during these sensitive times.

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