Navigating Payroll Challenges After the Loss of an Employee: A Case Study

The unexpected passing of a key employee can bring about a variety of administrative complications, particularly when it comes to payroll processing and tax reporting. One unfortunate scenario unfolded after a company owner passed away at the end of December 2023, causing a series of unique challenges for the payroll department.

The Scenario: Payroll Posthumously Processed

After the owner’s death, the last payday was processed in 2024, and the deceased employee was issued a paycheck. From this payment, deductions were made for their 401(k) loan and other regular withholdings. To complicate matters further, a W-2 was issued at the end of January 2024, raising questions about compliance and legality since issuing such documents for deceased individuals is typically not permissible.

The Amendment Necessity and Its Aftermath

As a new employee stepping into this situation, I quickly discovered that the estate was in the process of filing the deceased’s 2023 taxes. I needed to coordinate with our payroll service provider to amend the W-2 and, instead, issue a 1099 to reflect the proper tax documentation.

However, this W-2 amendment triggered an unexpected journal entry (JE) from our payroll service. This entry resulted in negative balances showing up in our loan and withholding liability accounts.

Timing Complications and Fund Movement

The issue became more complex due to the timing between the employee’s death and the tax filing. By the time we began addressing these payroll discrepancies, the estate had already transferred funds from the individual’s 401(k) into another account, which meant that the deductions for the loan payment and regular withholdings had also been affected.

Seeking the Right Path Forward

The primary question now is how best to rectify this situation. One potential solution involves making a journal entry to shift those amounts from payroll liabilities to payroll expenses. But what might be the implications of this adjustment on our balance sheet?

Understanding the Impact

Making this type of journal entry could indeed clear out the negative liability, but it’s crucial to remember that such a transfer will also affect the overall financial statements. Specifically, moving amounts from liabilities to expenses might result in an increased expense total for the period, potentially impacting profitability metrics and cash flow projections.

Conclusion: A Cautious Approach

In navigating these complex payroll issues stemming from the unfortunate loss of an employee, it’s critical to maintain meticulous records