How can I "zero out" a long-running liability account that was always credited (increased), but never debited (decreased)?

MegaMatt3 · ‎October 15, 2018

I took over bookkeeping from the company's previous bookkeeper, and am struggling with cleanup in some areas.

Many of our employees have contributed pre-tax dollars to their 401k's over the years. For many years, the employees' contributions were correctly withheld from their paychecks and credited to a liability account (aside: the account was a general "Payroll Liabilities" account that was also used for FICA payroll withholdings, and should have been more specific to employee benefits). However, when the contributions were provided to the 401k administrating company, the same liability account was not debited to return the liability to $0. Instead, the transactions were recorded against an expense account called "Retirement Acct Contributions". Therefore, our "Payroll Liabilities" liability account gradually increased over time - 6 years - to where it is today at about $130,000.

I'd like to clear this liability from our balance sheet, but I'm not sure how to correctly do it. I know that I can fix each individual transaction, but that's impractical for 6 years of contributions. I'd settle for a journal entry, but again, I'm not sure what to credit and debit.

Thanks very much!

BobH · ‎October 15, 2018

It appears you have two distinct General ledger entries to make. Current year and previous year adjustments. If tax returns have already been filed for previous years, your offset for prior years 401k contributions would be Debit the Liability account / Credit Equity Accounts. Coordinate with your tax accountant.

Current year is simply a reversal between the expense account from where the contributions are paid from and the liability account.

If you continue to book withheld contributions to this liability account then the payment should be recorded to this account as well.

View solution in original post

BobH · ‎October 15, 2018

It appears you have two distinct General ledger entries to make. Current year and previous year adjustments. If tax returns have already been filed for previous years, your offset for prior years 401k contributions would be Debit the Liability account / Credit Equity Accounts. Coordinate with your tax accountant.

Current year is simply a reversal between the expense account from where the contributions are paid from and the liability account.

If you continue to book withheld contributions to this liability account then the payment should be recorded to this account as well.

MegaMatt3 · ‎October 15, 2018

Thanks @rhenrikson for your concise answer. This liability was strictly on paper, and in reality always reduced back to $0. It never translated to understated net profits or retained earnings. So wouldn't moving the liability to an equity account (say, Owner's Equity) artificially inflate that owner's basis? I don't want to indicate equity where there isn't any, right? What are your thoughts?

BobH · ‎October 15, 2018

If the 401k payment was recorded as an expense for the portion that represented employee contributions then this would have reduced income thereby understating the Accumulated Retained Earnings. So this correction would have to be a prior year correction and discussed with the tax accountant on the treatment.

There is a portion of each 401k payement that is the employers expense. The portion that is matched by the employer gets recorded as the expense. When you are remitting your payment to the Trustee, you would have an entry to the liability account for employees portion and to the expense account for the employers match portion.

MegaMatt3 · ‎October 15, 2018

Really great answer. Thanks very much. Our situation is easy, in terms of employer cost: we have never matched employee contributions - employees contribute what they want to contribute, and that's it. Our only cost is the administrative cost, which is recorded separately (and correctly) as an expense. But you're right, any employer contributions would need to be recorded as an expense.

I hadn't considered that erroneous expenses reduce net income and, therefore, accumulated retained earnings. So you're right, then, that an equity account is the right place for the liability to move to.

Thanks again.

QBsguru · ‎January 14, 2019

I agree with Bob H. Appears that company took a tax deduction and recorded an expense for 401(k) remittances. Short of amending six years worth of tax returns, you AJE it out and show a negative 401k expense in the current year. Company will pick this up as income. Definitely a question for the tax preparer that did not catch on to the error or perhaps he/she did and the adjustment was never recorded.

I would ask the tax preparer for last year's adjusted trial balance and compare it to the QBs trial balance before doing anything.

Teri · ‎June 13, 2020

I would also question the tax preparer as to why they did not question this after six years. Even if you only pay for tax returns, 401k or retirement plans should be on their list for even top-level review. Especially, if they work with the Bookkeeper so likely know not experienced, since most can tell that from a mile away.

I am not a CPA, have nothing against CPA's, just never wanted to be one. In my work, I unfortunately run into many bad CPA's and just like Bookkeepers, there are some good, some bad, and some very bad as you have probably seen based on the work you do (I do similar clean-up but for Govt contractors only).

Your client is lucky to have hired you to help them out (finally).

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How can I "zero out" a long-running liability account that was always credited (increased), but never debited (decreased)?