After death, the estate goes through probate. This is the legal process where an executor is appointed to manage the estate, assets are identified and valued, valid debts are paid, and remaining assets are distributed to heirs. During probate proceedings, any outstanding debts must be settled using property and funds from the estate. Heirs receive no inheritance until debts are settled.
Funeral expenses
Federal taxes
Secured debts
If the estate lacks funds to pay all debts (aka an insolvent estate), debts are paid according to priority order. Lower-priority creditors may receive partial payment or nothing, while remaining debts typically die with the deceased.
Types of debts and what happens to them
Now that we know the order of debts that need to be paid, let's take a look at how different types of debt are handled.
Death certificate must be submitted to loan servicer
Credit card debt
Paid from estate assets
Estate is responsible for payment
Family members generally not liable unless they signed financial responsibility forms or live in states with specific filial responsibility laws
Mortgages and home loans
Options for inheriting family members are to assume the mortgage and continue payments, refinance the loan, or sell the property to pay off the debt
Car loans
Vehicle can be sold to satisfy the debt
They're a co-signer on a loan with outstanding debt.
They're a surviving spouse and your state law requires spouses to pay a particular type of debt.
They're a surviving spouse and you live in a community property state that requires surviving spouses to use jointly-held property to pay debts of a deceased spouse. These states include Alaska (if a special agreement is signed), Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin.
Preventive measures
While you can't plan for an unexpected death, there are steps you can take now to protect heirs from debt complications. The most obvious step is to maintain adequate life insurance. Even if you're young and healthy now, you could still need a plan. Make things easier for your loved ones by keeping detailed financial records and regularly updated beneficiary designations. Finally, consider creating a living trust, and consult with estate planning professionals.
Debt settlement is tricky enough while you're alive. Understanding what happens to your debts when you die is the best way you don't leave a mess for your estate once you're gone. For more, here's how to talk to your kids about your estate plan now.
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