What happens to debt when you die? In most cases, it goes into your estate. The executor handles this. This means they pay your bills with its assets. They distribute the remainder to your heirs. Whether debt passes to your heirs depends on what kind it is:
- Secured runs with the property – your heirs pay off or sell a mortgage, car loan, or other similar property.
- Unsecured stays in your estate – it pays these bills with its assets. Lenders forgive the remainder, and your heirs don’t pay them.
Life insurance and retirement plans are the best way to protect your loved ones financially. Your beneficiary directly receives these funds. The money doesn’t go through probate.
Does Debt Get Passed On?
Typically, debt does not get passed on, but each state has its own laws. So, it’s a good idea to learn about probate laws in your area. The one exception to this general statement is if someone cosigned a loan with you. In this case, the balance passes on to that person. It’s important to understand what happens to your debt once it’s in your estate. How does your executor handle it, and do creditors claim your assets during probate?
- The estate pays bills out of its assets in equal percentages until there is no more money. Any remaining balances are forgiven.
- First, it pays funeral costs and settlement fees.
- After it pays these it pays a family allowance to the spouse and any minor children. This varies greatly in different states.
- Finally, it pays bills. If there is not enough value to cover bills, then it sells bequeathed items. This may include family heirlooms.
Any remaining balances are forgiven. On the other hand, any assets remaining are bequeathed to heirs according to a will or state law. There are exceptions to this process, though.
- Retirement accounts, such as IRAs, 401Ks, 403Bs, and pensions go directly to the beneficiary.
- Likewise, life insurance goes directly to the beneficiary.
- Common property is any property acquired during the marriage. It and any bills associated with it passes to the surviving spouse. Nine states have this law: Alaska, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin.
- If you bequeath any property to an heir, any balances associated with it goes to the beneficiary as well.
Retirement accounts and life insurance are great ways to take care of your family after your passing. If you worry about debt and tax implications with your property you should talk to a planner in your area about how to protect them.1
Beneficiaries to a Bank Account and Debt Left by the Deceased
Beneficiaries to a bank account are not directly responsible for the debts of the deceased. All bank accounts are closed, and the money goes to pay bills first.2
- Debts may be greater than assets. In this case, the estate uses all its assets, and any lenders forgive the remaining debt. Beneficiaries don’t get money, but they don’t get any bulls either.
- Assets may also be greater than debts. In this case, the beneficiaries get any residual funds.
If the estate sells its assets and doesn’t have any money, then any creditors left must write it off as a loss. They cannot come after heirs in most cases. There are some exceptions for joint accounts and community property states, though. If you have questions you should contact a local CPA to find out what the laws are in your state.
Credit Card Debt and Medical Bills When You Die
If it is an individual credit card the estate is responsible. When it doesn’t have enough money to pay it off, then the creditor takes a loss and writes off the account. If it is a joint account, then the other person is responsible to keep up payments.
Medical bills get complicated. In most states, they take priority over other unsecured debt. Medicaid may even put a lien on your house. In general, you should consult with a local attorney for two reasons: there are complex legal issues, and it varies by state.3
Someone Dies and Owes the IRS
If someone dies and owes taxes, then the estate must pay. The executor must file a return on behalf of the deceased for the year in which they did. In addition, he/she must file any other returns that weren’t filed. Finally, he/she must file another return if it generates more than $600 income during the current year. The Internal Revenue Service (IRS):
- May put a tax lien against the home
- Take the outstanding balances from the proceeds of the sale of property
For most people, after the estate sells its assets lenders forgive any remaining debt, including taxes. In community property states the spouse must pay debts accumulated during the marriage, though.4
Final Thoughts on What Happens to Debt When You Die
What happens to debt when you die depends on how well you planned and what kinds of debts you have. Secured loans, such as a car or house, stay with that property. The estate pays unsecured, such as medical bills and credit cards, from its assets. Bank accounts get closed, and the money goes to pay these bills. So, your heirs do not generally inherit your debts.
There are things you can do, though, to protect your family from debt eating up their inheritance. You can buy life insurance and max out your retirement accounts at work. You can buy an IRA and contribute to it every year. Finally, consult an estate planner, and learn how to take care of your loved ones financially after your pass.