Knowing what happens to your debt when you die likely won't be a top dinner table conversation tonight.
After all, death and money are taboo subjects on their own, let alone together. That's the takeaway from a U.K.-based study which concludes the absence of a candid talk about a breadwinner's death leads directly to financial problems after he or she is gone.
That's exactly why knowing what happens to your financial debt when you die is such an important discussion to have with a spouse or family members. The fact is, there's a load of financial debts that, if left unpaid, will have to be paid by someone else when you die.
Don't let that happen to your loved ones. It's time to get up to speed on which debts will outlive you - and could require your spouse and family to pay the tab in your afterlife absence.
Who Handles Your Debts When You Die?
To begin, debt-after-death statutes can vary state by state, so it's worth checking with your secretary of state's office to find out exactly what happens to your estate after you die. A good estate-planning attorney can help in this regard, as well.
Past that, the estate process after death is fairly uniform across the U.S. The process usually transpires as follows:
- After death, the executor of the deceased person's estate will undertake the process of reviewing the deceased's assets and debts, and will view any unpaid bills. The executor also usually gets and reviews a copy of the deceased person's credit report to see which debts are outstanding.
- The executor then contacts the U.S. Social Security Administration, as well as any creditors or lenders (like a mortgage company or an auto financing business) and issues a death certificate in the deceased's name.
- At that point, all of the deceased's debts are passed on to his or her estate. The executor will receive and then record all outstanding debts the deceased owes and that will be legally handled and paid by the estate.
- The debts are prioritized legally, meaning that certain creditors, like those who issue medical or mortgage bills, go first in line. A probate court will act as referee over which remaining debts get first, in the absence of clear directions from the deceased person's will.
Some assets are kept outside of the deceased's estate and can't be touched, in most cases, unless a designated beneficiary has not been named to receive those assets. Typically, life insurance, retirement and annuity accounts, and brokerage accounts (and all the assets included) are left outside the estate and can't be used to pay off debts.
What Happens to Your Debts?
In many cases, the debt left behind is small or moderate, an can be repaid with the assets in a common bank or money market account. Even cash left in a safe deposit box is deemed a "liquid asset" and can be used to pay off leftover debts.
When that happens, the spouse or executor will review the bills, access the needed liquid assets/accounts, and pay off the bills.
If the executor doesn't have enough liquid assets to pay the outstanding debts, the creditor has other recourse to get their money back.
- If the outstanding debt involves a co-signed loan, the co-signor is liable for the debt.
- A spouse could be liable for the debt if he or she is a joint account holder with the deceased.
- If the spouse lives in a so-called community state, including: Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin, then the spouse may be liable for the debt.
What Happens to Specific Debts?
Not all private debts are handled the same after the person who owes the debts dies. Here's how some major consumer debts are handled:
The rules vary on mortgage debt after the mortgage holder dies. In general, the mortgage passes to a spouse or partner whose name is also on the mortgage. That joint mortgage holder can't be forced to sell the house right after the death of the co-mortgage holder. In the event no joint mortgage holder exists, the mortgage can be paid through the deceased's estate. If there are insufficient funds to pay the mortgage, whoever inherits the home can move in and resume making the mortgage payments.
Home Equity Loans
Contrary to home mortgage loans, creditors can demand that whoever inherits the home (and the loan) after the death of the homeowner immediately repay a home equity loan. However, the lender doesn't have to do that. In many cases, the home equity lender will agree to the heir making the loan repayments.
With a credit card, any joint account holder is liable for payments and debts after the co-account holder dies. If there is no credit card account holder, things get more complicated, especially for the credit card company. In the event the deceased is the sole account holder, the credit card company has no recourse and can't go after any unpaid debts, even if the card has authorized users (who aren't held liable for credit card debt.) The exception is for spouses who live in community property states, who may or may not be liable for outstanding credit debt when a spouse dies. It's best to consult a lawyer to see if you may owe these debts.
Auto loans are similar to mortgage loans in that the estate can handle payments if the money is available. If not, whoever inherits the vehicle has the option to continue making payments or selling the vehicle to cover the cost of the auto loan.
The executor can use estate funds to pay off student loan debt. If the funds aren't available, student loan providers cannot force the estate to pay off the loans, as student loans are unsecured. That scenario changes if there is a co-signer for the loan. In that instance, he or she is liable for repaying the debt. Spouses in community states may be liable for student loans incurred during the marriage. It's best to consult a lawyer to see if you may owe these debts.
Plan Ahead to Protect Your Loved Ones From Outstanding Debt
With some savvy financial planning, any head of household or breadwinner can protect his or her loved ones from being held liable to outstanding debts after death.
For example, the breadwinner can provide clear and concise instructions on how to handle his or her debt after death, and can ensure there are sufficient funds available to cover those debts. In general, those funds can come from general savings, retirement savings, investment accounts, or an insurance policy.
One effective insurance policy that can help cover outstanding debt after the policyholder's death is a term life insurance policy.
Term policies provide a death benefit for the policyholder for a specified time (i.e., five years or 10 years, for example.) Money held in the policy can be used by the estate to repay outstanding debts for the deceased.
A head of household or family breadwinner can also make things easier for his or her family by designating beneficiaries on key accounts like insurance, retirement, and investment accounts. With a beneficiary in place, it's much easier to hold on to family assets when a family breadwinner dies.
Having a will in place can also make things much easier for the family of the deceased, when it comes to outstanding debts. A will can dictate the recipients of the deceased's estate and clarify where the existing financial accounts reside and how to access, making the repayment of any outstanding debts as an easier, more efficient process.
Don't Leave Your Loved Ones Owing Debt
Yes, the topic of death and what happens afterward with debts is an uneasy subject to discuss.
But it's a discussion that must take place in order to ensure your debts are covered after you're gone, and your loved ones are taken care of financially.
It's never too late - or too early - to plan and invest for the retirement you deserve. Get more information and a free trial subscription toTheStreet's Retirement Dailyto learn more about saving for and living in retirement. Got questions about money, retirement and/or investments? EmailRobert.Powell@TheStreet.com.