Deceased employee W2 amendment created negative payroll liability – Help?

Addressing Payroll Challenges Following the Passing of an Employee

The unfortunate event of losing an employee brings not only emotional challenges but also complex financial considerations that need to be addressed promptly. Recently, a situation arose within a company where the passing of a key employee raised several payroll-related issues. Here’s an overview of this scenario and how to navigate similar dilemmas.

Background of the Situation

Towards the end of December 2023, a valued member of the team passed away. Despite his passing, a paycheck was still issued in January 2024 for the final pay period, which included withholdings for a 401(k) loan and standard deductions. At the close of January, a W-2 was issued for the deceased employee, which raises the question of legality and compliance with payroll procedures, as issuing a W-2 for someone who has passed away is generally not allowed.

When I took on the responsibility for the payroll process, I was faced with the task of ensuring that the deceased employee’s tax matters were settled accurately. This involved working with our payroll service provider to amend the W-2 and instead issue a 1099, typically used for independent contractors.

Complications Arising from the Amendment

The amendment resulted in a journal entry (JE) from the payroll service that inadvertently created a negative liability in both the loan and withholding accounts. Ideally, when a company refunds amounts owed—such as those related to a deceased employee’s payroll—the funds should revert to the estate. However, this case was complicated by the fact that the estate had already shifted funds from the employee’s 401(k) to another account due to the passage of time and administrative delays in addressing these matters.

Seeking a Resolution

Now, the pressing question is: How can we rectify this situation? One potential solution is to create a journal entry to move the balances from payroll liabilities to payroll expenses. This act would resolve the negative liabilities currently reflected on the balance sheet.

Steps to Take and Considerations

1. Amend Journal Entries: Document a journal entry that accurately reflects the movement of balances from the payroll liabilities. This entry will remove the negative figures in the loan and withholding accounts and replace them with payroll expenses, clarifying the financial situation.

2. Impact on Financial Statements: While this move will clear out the negative liabilities, it will also increase payroll expenses on the profit and loss statement. Ensure that stakeholders are aware of these changes, as increased expenses may impact overall