Reporting of payments following employee's death.

• Author: Ely, Mark H.
• Position: Tax reporting

When an employee dies, the employer has to determine not only what the company owes to the deceased employee's estate or beneficiaries, but also the appropriate tax reporting of the payments. Because of the varying nature of amounts payable to an estate or a beneficiary, employers and practitioners might find the instructions confusing or inconsistent.

When an employee dies, the employer will often owe the employee for accrued current wages, vacation accruals, bonuses earned, etc. Since these amounts are earned by the employee before death but paid to his estate or beneficiary, the payments are income in respect of a decedent under Sec. 691(a). The payments are taxable to the estate or beneficiary and not to the decedent. The amounts were earned, however, for services rendered by the decedent, who should, therefore, receive credit for those earnings for Social Security and Medicare purposes. Thus, if the payments of accrued compensation are made in the year the employee died, the employer must withhold Social Security and Medicare taxes and pay any applicable FUTA tax.

Rev. Rul. 86-109 is the cited authority on reporting death benefits and compensation payments made after an employee's death, and the instructions for Forms W-2 and 1099 provide further detail on how to report such payments. If the accrued compensation payments are made in the year of death, the applicable amounts should be reported as Social Security wages (box 3) and Medicare wages (box 5) on the decedent's final W-2, so that proper credit for those earnings is received. The wages are not taxable to the deceased employee, however, and, thus, not subject to Federal income tax withholding and not included in total wages (box 1) on Form W-2. The gross compensation amount is reported to the estate or beneficiary on Form 1099-MISC in box 3 as "Other Income."

If payments of a deceased employee's earned compensation are made after the year of death, the amounts are not subject to FICA (Social Security and Medicare) or Federal income tax withholding. Thus, the payments in years after death are reported to the estate or beneficiary on Form 1099-MISC, but not on Form W-2. The instructions for Forms W-2 and 1099-MISC provide both an explanation and an example of the appropriate reporting.

Death benefits and distributions from both qualified and nonqualified plans, including gratuitous post-death salary continuation payments, are reported on Form 1099-R. Death benefits and other...