The death of an employee can be devastating and confusing to an employer and its workforce. The grim statistics on deaths from the COVID-19 pandemic—well over a quarter million in the U.S. as of the date of this alert, with infection rates rising—mean that many employers have already had to address this situation or begin planning for the sad eventuality. When an employee dies—regardless of the cause—employers often want to immediately help the employee’s family financially in their time of grief, but a number of administrative, legal, and tax-related issues must be considered before an employer pays final compensation and benefits to the beneficiaries or estate of the deceased employee.
Final Salary and Accrued PTO
Employers must consider state law requirements when paying final compensation to a deceased employee. If the employer pays employees in arrears, any remaining salary or other compensation due becomes an asset of the estate. Similarly, if state law or employer policy requires payment of accrued, unused paid time off (PTO) or vacation when employment ends, the amount of accrued PTO also becomes an asset of the estate.
Employers should either wait to make these final salary and accrued PTO payments until a court has appointed a personal representative of the employee’s estate, or consult counsel about whether it is legally permitted to make these payments before receiving notice of the court appointment. Upon receiving proof of the court-appointed representative, the employer may make these payments to the estate at the representative’s direction. He or she will then handle the distribution of assets from the estate.
If the employer pays these amounts to another party before a personal representative is appointed (such as directly to a surviving spouse), or without the representative’s authorization and not otherwise in compliance with applicable legal requirements, the estate or beneficiaries could bring a claim for the improper distribution of these assets.
Many states have a small-asset exception that may allow the employer to pay these final amounts if a personal representative is not appointed in a timely manner. State laws vary, so it is important to confirm whether such an exception applies. The state law where the deceased employee was a legal resident will generally govern this issue, even if the employee worked in an employer’s office in another state.
Tax Withholding and Reporting
Any compensation paid to a deceased employee’s estate or beneficiaries during the calendar year of death will be subject to employment tax withholding (Social Security, Medicare, and federal unemployment tax withholding) but not income tax withholding. Any amounts paid after that year are not subject to any tax withholding. State income tax withholding is often not required, regardless of when the compensation is distributed. The employer should confirm applicable state law.
Amounts paid to the estate or beneficiaries during the year of death that are subject to employment tax withholding should be reported on an IRS Form W-2 issued to the deceased employee in January of the year after the year of death as Social Security and Medicare wages only (and not reported as wages, tips or other compensation (Box 1) on the deceased employee’s Form W-2). Amounts paid to a deceased employee’s estate or beneficiaries during any year following the year of death are not reported on a Form W-2.
The employer must also issue to the estate or beneficiaries receiving any distributions a Form 1099-MISC reporting the distribution as taxable income during the year in which the amount is distributed. A Form W-9 will need to be collected from each party receiving a distribution to obtain the party’s full legal name, address, and taxpayer identification number.
Other Benefits and Executive Compensation Arrangements
Group health plan benefits, qualified retirement plans, and other welfare benefits. The employer should follow the same processes for terminating health, dental, vision, and other welfare benefits as it follows for other employees who terminate employment. Insurers and plan administrators should be notified of the death. Coverage for any dependents participating in the plans will cease in the same manner as other terminations of employment (typically on the last day of employment or the last day of the month in which death occurs, depending on the terms of the benefit plans), and the employer should follow its standard procedures for notifying the dependents of eligibility for COBRA coverage.
The employer should notify the administrator of any qualified retirement plans that the employee has died. Distribution of the employee’s retirement account balance would be made to the beneficiaries or the estate, depending on the terms of the plan. Life insurance benefits would be paid by the carrier directly to any designated beneficiaries in accordance with policy terms.
Supplemental executive retirement benefits and deferred compensation plans. If the employer maintains a supplemental executive retirement plan (SERP) or any other nonqualified deferred compensation plans, accrued benefits should be paid in accordance with the terms of the plan documents. If the deceased employee designated a beneficiary, payment should be made directly to the beneficiary. The employer should review a written, signed beneficiary designation form prior to distribution. If a beneficiary has not been designated, the employer should follow the estate representative’s direction.
If the employer fails to timely pay accrued benefits in accordance with plan terms, the benefit may become subject to adverse tax consequences, including an additional 20 percent income tax. The same tax withholding and reporting rules that apply to the payment of final salary and accrued PTO will apply to the payment of the accrued benefits.
Under the federal Occupational Safety and Health Act, employers must report to the Occupational Safety and Health Administration (OSHA) whenever an employee dies due to a work-related injury or illness, or if an employee suffers a work-related hospitalization, amputation, or loss of an eye. Employers must make the report to OSHA within 24 hours of learning of an employee’s hospitalization that occurs within 24 hours of a workplace incident, and within eight hours of learning of a work-related fatality. Under OSHA requirements, the obligation to report work-related fatalities applies to employee deaths that occur within 30 days of the employee suffering a workplace injury or contracting a workplace illness. Many states also have reporting requirements for occupational injuries or illnesses.
As described in our May 20 client alert, OSHA has issued guidance on how employers should determine whether an employee’s death from COVID-19 is considered more likely than not work-related, and thus reportable to OSHA. As with any report of a confirmed COVID-19 diagnosis by an employee, if the employee has been in the workplace, the employer should notify the local public health agency of the diagnosis and comply with any applicable requirements to notify coworkers or others who may have been exposed to the virus.
In the case of any employee death, the employer will need to manage a few additional issues as well:
In addition to the emotional toll on coworkers, the death of an employee could have a significant impact on an employer’s ability to continue its ordinary course of business. While it may be desirable to resolve any outstanding compensation issues as quickly as possible, the employer should seek advice from a qualified tax professional to avoid potentially subjecting the organization to additional liability to the deceased employee’s estate and beneficiaries. If an employee’s death resulted from COVID-19, employers must also assess whether the employee more likely than not contracted the virus at work and must comply with OSHA and state law reporting requirements.
(A version of this article originally was published by the American Society of Association Executives on November 16, 2020.)
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