If you’re wondering how to pay off debt and what will happen to your debt when you die, you’re not alone. Plenty of people grapple with this issue. In fact, according to December 2016 data provided to Credit.com by credit bureau Experian, 73% of consumers had debt when they died, leaving behind an average total balance of $61,554, which included credit card, mortgage, auto, personal, and student loan debt.
While many assume that debt dies right along with the deceased, it isn’t quite that simple. And at a time when they’re already suffering, family and friends find themselves trying to determine which creditors they’re obligated to pay off.
Here’s a helpful guide that makes this situation easier to understand.
What happens to your debt when you die?
When people die, their assets as well as their debt become part of their estate. To ensure it’s divided properly and legally, the estate goes into probate. This is a court-supervised process in which the deceased’s assets are determined, debt and bills are paid, and what’s left is distributed among inheritors.
If the person who died had a will, they will have named an executor. If they died without setting up this legal document, an administrator or personal representative will be appointed by the court. In either case, the executor or administrator handles the use of the deceased’s assets to pay off any outstanding debt.
To get an accurate picture of this debt, the executor or administrator can request the deceased’s credit report. This request should be made in writing and be accompanied by a copy of the death certificate as well as proof that the executor or personal representative is authorized to act on the deceased’s behalf. To prove you’re the executor or administrator, obtain a copy of a legal document that bears a court seal indicating you are the executor or administrator of the estate.
The credit report’s list of all the departed’s open accounts will provide an overview of how much is owed and to whom. It also allows you to see which debts were solely in the deceased’s name and which were shared with a surviving party, who will now be responsible for the remaining balance.
Will your family be responsible for your deceased debt?
When you die, your debt becomes the responsibility of your estate. Your administrator or executor pays any debt with the money in the estate, not with their own money.
“Your personal representative is responsible for selling your assets to pay those debts and your final expenses, such as funeral and burial costs,” explains Denver-based estate planning and bankruptcy attorney Clark Dray. “This comes out of the share distributed to your heirs. Fortunately, if there isn't enough money to pay the debts your descendants don't become responsible.”
Sounds simple, right? Not so fast. The type of debt that’s owed, where the deceased lived, and the value of their estate significantly impacts the complexity of the situation. As such, there are exceptions that may render certain parties legally obliged to pay the deceased’s debt, including:
- If someone cosigned on a loan, the cosigner owes the debt.
- If the deceased had a credit card balance on an account with a joint account holder, the joint account holder is responsible for the debt. This is different from an “authorized user,” who is not legally obligated to repay the amount owed.
- State laws may require that the executor or administrator pay an outstanding bill by using property that was jointly owned by the deceased spouse and the surviving partner.
- In community property states — Alaska (if both parties opt in), Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin — the surviving spouse may be required to use community property to pay the deceased partner’s debt, as any assets or debt acquired during the marriage belong to the other spouse as well.
The quick basics you need to know about specific kinds of debt
Florida-based financial advisor and mortgage broker Mike Arman explains there are two types of debt: secured loans, which include mortgages and car loans, and unsecured loans, which include credit cards, personal loans, medical debt, and student loans.
How each debt is handled depends on which category it falls into. Here’s an overview:
“Secured loans mean the lender can repossess and sell the item to cover the outstanding balance,” Arman says. “While you won't need a house or car if you die, your survivors might. Sometimes these loans can be renegotiated to allow the survivors to assume them. If not, they have to be paid off or the lender can seize the asset.”
The executor or administrator will handle listing your home for sale but will need to keep up on mortgage payments pending closing.
“Ideally, the proceeds of the sale of the home will be sufficient to cover the mortgage, home equity line of credit (HELOC), or other encumbrances,” notes Dray. “If not, your personal representative will need to negotiate a short sale. Any cosigners on the home loans will remain liable for the deficiency — the difference between what that property sells for and what is owed.”
Auto loans need to be paid by the personal representative as well.
“Hopefully, the vehicle is worth more than the loan amount and the personal representative can sell the car to pay the debt,” Dray explains.
Credit card debt isn't automatically cancelled when you die, Dray says. It is the responsibility of the personal representative to pay these debts with the proceeds from the sale of your property.
“If there isn't enough money to cover all the debts, those creditors are out of luck,” explains Dray. “Credit cards can collect the debt from cosigners and sometimes even your spouse, depending on state law, but can't go after your heirs if they didn't sign the credit card agreements.”
Medical debt is just like credit card debt, Dray says. Medical creditors need to be paid by the estate, and if there isn't enough money to go around, they can collect from cosigners and maybe your spouse, depending on whether state law allows it.
Federal student loans are discharged upon your death.
“Your personal representative just needs to send proof of death to the servicer,” Dray says.
Unfortunately, this is not the case with private student loans.
“Like credit card debt and medical debt, private student loans must be paid by the personal representative,” Dray says.
Another great reason to have life insurance and a retirement plan
Not all of your assets can be accessed by your creditors after your death. Steven M. Hughes, director of program development at Know Money Inc., explains that life insurance can’t be touched by creditors.
“Most states have an exemption on death benefits, or the amount that pays out of a life insurance policy when the insured passes away,” Hughes says. “The cash value of each life insurance policy is protected.”
Additionally, Individual Retirement Accounts (IRA) and 401(k) accounts are also safe from creditors, he notes.
“These retirement accounts benefit from a common trait they share with the life insurance policies,” Hughes says. “When you have a beneficiary named on your 401(k) or IRA, you bypass probate and the money is paid out directly to the beneficiary.”
This is why it’s essential to keep named beneficiaries up to date, he adds.
“Named beneficiaries supersede a will in most states,” Hughes says. “To avoid confusion when you or a loved one passes away, check your beneficiaries once per year for your life insurance policies and retirement funds to be certain your resources are dispersed under your wishes.”
What you can do
Despite the fact that loved ones are not responsible for debt that existed in the deceased’s name alone (except in community property states), lenders and creditors may come calling in an attempt to extract payment.
To guard your assets and protect your loved ones from shouldering the burden of your debt when you die, planning ahead is key. Hiring a qualified estate planning attorney can save family and friends heartache and headaches as these professionals know the ins and outs of the state laws, which dictate what can and can't be in a will as well as who can and can't serve as an executor.
If a loved one has passed and you’re dealing with their debt, consider hiring an attorney who can help you navigate this complicated terrain. You can also contact creditors directly, explain that the account holder has passed, and attempt to negotiate a settlement that is amenable to both parties.
While you’re grieving the loss of a loved one, financial matters may be the last thing you want to address. But knowing what happens to debt when you die can make this difficult time a bit less stressful.