Perhaps you’ve wondered about what happens to your own debt (or your parent’s debt) when you (or they) die. Short answer: it does not disappear; the debt must either be paid out of the deceased’s estate or by a co-creditor. What exactly happens to this debt can vary and how you handle your debt can greatly impact the people you love.
When an individual dies, someone will handle his or her affairs, and this person is known as an executor. The executor can either be someone of the individual’s choice, if he or she planned in advance, or someone appointed by the court in the absence of planning. The executor opens the probate process, during which the court recognizes any will that’s in place and formally appoints the executor to administer the deceased’s estate and distribute any outstanding assets to their loved ones.
How Debts Are Handled After Death
During probate, the estate’s assets are used to pay any outstanding debt. This usually includes all of an individual’s assets, although it does not include assets with beneficiary designations, such as 401(k) plans and insurance policies. The estate does not own these assets, and they pass directly to the named beneficiaries. Given these factors, if an individual’s assets are subject to probate and the person has outstanding debt, their beneficiaries will receive a smaller share of anything left to them in the estate plan.
In most cases, the estate first repays any outstanding secured debts, including car and mortgage loans. Following this, the estate repays the legal and administrative fees associated with executing the deceased’s will.
Typically, unsecured debts, such as credit card debts, are the last form of debt the estate repays. Usually, if the estate lacks the assets to repay these debts, creditors have no choice but to accept the loss.
However, in some states, probate laws may dictate how the deceased’s creditors can clear these debts in other ways, such as by forcing the sale of the deceased’s property. It’s worth noting that there is a time limit for creditors to place a claim against an estate after the deceased dies, and this time frame varies between states. Priorities of debts may also impact which creditors get paid if there are insufficient assets to pay all creditors.
There are several things you can do to avoid probate. Perhaps the most common involves establishing a revocable living trust. Since the trust, not the estate, owns the assets, assets held by a properly funded and maintained trust do not have to go through the probate process. While creating a living trust does not guarantee an individual’s assets will receive protection from creditors if that person has debt, it does allow your trustee to negotiate with creditors more easily to reduce any outstanding debt. In theory, creditors may still sue to repay the debt in full. However, since this could involve significant costs, creditors may prefer to settle instead. You may also avoid probate with a will-based estate plan, but this should be planned carefully with a estate planning attorney.
When Do Surviving Family Members Pay The Deceased's Debts?
Most of the time, it’s unnecessary for surviving family members to pay the deceased’s debt with their own money. Instead, as noted above, payment of the debts are either paid out of the deceased’s estate, or if there is no estate, the debts are extinguished. However, there are some exceptions to this, including the following:
● Co-signing loans or credit cards: If someone cosigns a loan or credit card with the deceased, that individual is responsible for clearing any outstanding debt associated with that account.
● Having jointly owned property: If an individual has jointly owned property or bank accounts with the deceased, that person is responsible for clearing any outstanding balances associated with these assets.
● Community property: In some states, including California, Arizona, Nevada, Louisiana, Idaho, Texas, Washington, New Mexico, and Wisconsin, the surviving spouse is required to clear any outstanding debt associated with community property. Community property is any property jointly owned by a married couple.
● State laws: Some states require surviving family members, or the estate more generally, to clear any debts associated with the deceased’s healthcare costs. Additionally, if the estate’s executor failed to follow a state’s probate laws, it might be necessary for him or her to pay fines for doing so.
What To Do When Someone Dies With Debt
When someone dies with outstanding debt, it’s important to take swift action to assess their debts and assets, and then handle their affairs and negotiate their debts. Below are some steps to follow when faced with this scenario:
01 - Understand Your Rights
Since probate laws vary between states, it’s a good idea to thoroughly research the probate process in the deceased person’s state, or hire a lawyer to handle the estate for or with you. Many states require creditors to make claims within a specific period, while also requiring surviving family members to publicly declare the deceased’s death before creditors can collect any outstanding debt. It’s also against the law for creditors to use offensive or unfair tactics to collect outstanding credit debt from surviving family members. Definitely ask creditors for proof of any outstanding debt before paying.
02 - Collect Documents
Collecting documents can be fairly straightforward, particularly if the deceased left all their vital financial papers in a single location. If the surviving family members cannot locate these documents, they can request the deceased’s credit report, which lists any accounts in the deceased’s name.
03 - Cease Additional Spending
This is essential to prevent any debts in the deceased’s name from increasing further, even if there is another person authorized to make payments. Ceasing additional spending including canceling any recurring subscriptions or auto-pays, also helps prevent unnecessary complications when negotiating with creditors.
04 - Inform Creditors
Proactively contact the deceased’s creditors to look into options for negotiating the debt, and notify credit bureaus of the death. To complete this process, it’s useful to have several copies of the death certificate to share with insurance companies and creditors. Afterwards, ask to close all accounts in the deceased’s name, and request the credit bureaus freeze the deceased’s credit, preventing others from unlawfully getting credit in his or her name.
05 - Close The Estate
Once all debt has been paid off, forgiven, or extinguished, the executor can officially close the estate. The process for doing this varies based on how assets and debts were held, so do not handle this part alone. Contact us to find out how we can support you.
We Can help Ensure Your Family Doesn't Get Stuck With Your Debt
Effective estate planning involves taking care of your affairs, and this includes ensuring your debts will be handled in such a way that your family isn’t left with a big mess or inadvertently forced into court. Consider scheduling a Family Wealth Planning Session with us to determine how we can help protect your assets and prevent creditors from reducing the gifts you want to leave your loved ones after death. Contact us today to learn more.
This article is a service of Desmond Law, Personal Family Lawyer®. We do not just draft documents; we ensure you make informed and empowered decisions about life and death, for yourself and the people you love in a thorough and personal way. That's why we offer a Family Wealth Planning Session™, during which you will get more financially organized than you’ve ever been before and make all the best choices for the people you love. You can begin by calling our office today to schedule a Family Wealth Planning Session and mention this article to find out how to get this $750 session at no charge.