Deceased employee W2 amendment created negative payroll liability – Help?

Resolving Payroll Liabilities for a Deceased Employee: A Guide for Businesses

Navigating the complexities of payroll after the unfortunate passing of an employee can lead to unintended complications, especially when it comes to tax filings and liabilities. This blog post addresses a particular situation faced by a company that experienced issues following the death of one of its owners and provides insights on how to resolve similar payroll dilemmas.

Understanding the Scenario

In late December 2023, one of the company’s owners passed away, with payday for that period falling in early 2024. Following his death, a paycheck was issued that included deductions for a 401(k) loan payment and other standard withholdings. By the end of January 2024, a W-2 was generated for the deceased employee—a practice that raises questions about compliance and legality.

Upon learning of the situation, the responsible parties recognized the error and sought to correct it by requesting an amendment to the W-2 through the payroll service provider. This adjustment led to the issuance of a 1099, which was appropriate given the circumstances surrounding the employee’s death.

However, complications arose when this amendment resulted in a journal entry (JE) from the payroll provider, leaving the company with negative liabilities recorded in both loan and withholding accounts.

The Challenge at Hand

Given that significant time had passed since the employee’s death and tax filing, the estate had already transferred funds from the deceased’s 401(k) account, complicating matters further. As a result, an important question emerged: How can the company rectify this negative payroll liability while adhering to relevant tax regulations?

Steps to Resolve the Issue

1. Consult with Payroll Experts: It’s crucial to engage with your payroll service provider to ensure compliance and understand the proper steps to amend any issues created by the initial W-2 issuance.

2. Make the Necessary Entries: As a potential solution, consider making a journal entry to transfer amounts from payroll liabilities to payroll expenses. This step can help in clearing the negative balances on your balance sheet.

3. Understand the Financial Impact: While moving these amounts may eliminate the negative liability, it’s essential to evaluate the effect this adjustment will have on your overall financial statement. Transitioning liabilities to expenses will reduce your current liabilities but may affect net income.

4. Documentation: Keep thorough documentation of all amendments and communications with your payroll service provider. Sound record-keeping will serve as a safeguard in case of future audits or inquiries