Navigating Payroll Challenges After a Deceased Employee: A Case Study

Dealing with payroll adjustments can be complex, especially when an employee passes away. A recent scenario encountered by a company offers valuable insights into how to navigate these tricky waters.

In late December 2023, one of the company’s owners tragically passed away. However, payday for that final pay period took place in January 2024, leading to the issuance of a paycheck that included withholdings for a 401k loan and standard deductions. Come the end of January 2024, the estate was issued a W-2 form, but as it was later discovered, this practice is not typically permitted for deceased individuals.

As I inherited this situation after joining the company, I had to request an amendment to the W-2 from our payroll service provider when the estate moved forward with filing the 2023 tax returns. This amendment, while necessary, generated a journal entry (JE) from the payroll provider, resulting in negative balances in both the loan and withholding liability accounts.

Traditionally, it would be expected that the company refunds these amounts back to the estate. However, due to the delay between the employee’s passing and the tax filing, the estate had already transferred the funds from the deceased’s 401k into another account. Consequently, both the loan payment and the standard withholdings were also relocated.

Finding a Solution

Now the pressing question arises: how do we resolve this issue? One potential approach is to create a journal entry to transfer these amounts from payroll liabilities to payroll expenses. However, it’s essential to consider the broader impact of such a move on the company’s balance sheet.

By executing this adjustment, the negative liability would be cleared, but it’s crucial to understand the implications. Adjusting these amounts affects the financial statements; while it rectifies the immediate issue of misleading liabilities, it also effectively raises the company’s payroll expenses. This could influence financial ratios and may carry weight during audits or financial reviews.

Conclusion

While managing payroll for a deceased employee is undoubtedly challenging, understanding the mechanisms for addressing it is essential for maintaining accurate financial records. Seek to work closely with your payroll service and financial advisors to ensure all amendments are executed smoothly and with proper documentation. It’s best to approach these situations with a well-considered plan to avoid any financial discrepancies down the line.