Navigating Payroll Challenges After a Deceased Employee: Seeking Guidance on W2 Amendments

The passing of an employee can lead to complex payroll situations, as demonstrated recently in our company. A challenging scenario unfolded when one of our owners sadly passed away in December 2023. This led to complications involving payroll processing for the final pay period, which coincided with a payday in early January 2024.

Upon reviewing the situation, it became apparent that the deceased employee was issued a paycheck, including deductions for a 401(k) loan and regular withholding, as well as receiving a W-2 for 2023 in January 2024. However, issuing a W-2 for someone who has passed away raises compliance concerns that we are now navigating.

Since I was not part of the team when this transpired, I had to step in to request an amendment to the W-2 through our payroll service provider. This amendment was necessary to correct the tax filings for the deceased’s estate, which involved issuing a Form 1099 instead.

However, the W-2 amendment has caused some unintended consequences, specifically leaving a negative balance in our loan and withholding liability accounts. My understanding is that, in a more straightforward situation, the business would typically reimburse the estate for these amounts. Unfortunately, due to the lapse of time between the employee’s passing and the tax filing, funds from the employee’s 401(k) account have already been transferred, causing complications in handling the loan payments and withholding.

Now, the pressing question is: How do we resolve this issue?

Is it as simple as making a journal entry (JE) to transfer these amounts from payroll liabilities to payroll expenses? If that is indeed the solution, I would like to understand what impact this adjustment will have on our balance sheet beyond merely clearing the negative liability.

We are seeking clarity and guidance on this matter to ensure that we handle it correctly and in compliance with regulations. Any insights or advice from those who have faced similar situations would be greatly appreciated. Thank you!