- Get Out of Debt
Debt has a way of following you around. A lender can chase you wherever you go in the United States; they can sue you, take assets, garnish wages. It’s a lengthy and chaotic process that can cause endless stress and it doesn’t end when you die.
Outstanding debts can follow you to the grave and become the responsibility of your beneficiaries. But this process isn’t cut-and-dry and different debts have different rules concerning what happens in the event of your demise.
What Happens to Debts When you Die?
Unpaid debts may pass onto your estate when you die, which means they become the responsibility of your beneficiaries and heirs. Your executor, if you have one, will be tasked with liquidating your assets and ensuring all outstanding debts are paid off. Any remaining money can then be paid to the heirs mentioned in the will.
As a spouse, executor or heir, you are will not become responsible for the debt providing you don’t live in a community property state (see below). Your inheritance might not be as big, but unless you co-signed on the debts in question and therefore became responsible for them, you’re in the clear.
This isn’t true for all debts, however, and there are specific rules for each, as discussed below:
Credit Card Debt
Credit card companies will chase the debt in the event of your demise. They can be pretty ruthless about this, but if the estate can’t cover credit card balances then there’s little creditors can do. It’s not secured, so they can’t repossess assets, nor can they chase the spouse.
If you are a joint account holder, it is a different story and you will be responsible, but the same doesn’t apply for authorized users.
Personal loans fall into the same category as credit card debt as they are classified as unsecured. They will follow a similar process as well, which means the lender will seek repayment from the estate. The only exceptions are for loans that have co-signers and loans that are secured against collateral.
Medical bills are unsecured, but debts accrued within 6 months of death are given priority after funeral costs have been covered, which essentially means they will be first in line for the deceased’s estate.
Medical debt has less of an impact on an individual’s credit score and will only show on their credit report when debt collectors are called and credit bureaus are informed. However, a large percentage of Americans die with some form of medical debt and there are situations in which this can be transferred to a surviving spouse or beneficiary, as in community property states.
Student Loan Debt
Student loan debt is often discharged upon your death and this applies to co-signed loans as well. However, there are exceptions to the rule and in most cases, it depends on the type of student loans you have:
- Private Student Loans: They may insist that the debt is cleared, but there is no recourse if the estate can’t cover the debt and some lenders (Sallie Mae, Wells Fargo) will discharge completely.
- Federal Student Loans: These debts are always discharged upon death and this also applies to a co-signer if they or the student dies.
The executor can pay the loan using the estate. If they fail to do so, the lender will simply repossess the vehicle. If the vehicle is passed onto a beneficiary, they can choose to clear the debt or continue making monthly payments.
If there is a joint owner or the house is passed to a beneficiary, the mortgage will switch to them and they can continue making payments. There are laws in place to prevent the lender from insisting that the mortgage is paid in full on death.
The lender may work with the new owner and allow them to make payments and keep the house. However, they may also insist that they pay the balance in full, in which case they will be forced to sell the house.
Rules in Community Property States
Community property states appear a lot when talking about debt and death, as they seem to be behind every exception.
In community property states (see below for list) you’re responsible for your spouse’s debt providing that debt was acquired while you were married, known as “community property debt”. It may not matter if you were aware of the debt or not—if it was acquired during the marriage then your spouse’s creditors will come after you.
The community property states are as follows:
- New Mexico
What Happens if you Have a Negative Net Worth?
It’s rare for someone to die with no assets at all. Assets are not limited to houses, cars, and other expensive items. They include everything, comprising all the cash in their bank account, as well as stocks, savings, investments, retirement accounts, and belongings. All of this will be liquidated upon death and used to clear the debt.
If the deceased has more debts than assets, those repayments will be prioritized, beginning with administration costs determined by the Inland Revenue Service and followed by funeral costs. Medical bills incurred within 6 months of death will come next and then tax debt.
This is followed by secured debts, which is any type of debt that is secured against an asset. If the borrower paid 75% of their mortgage then they own 75% of the house, but the rest needs to be paid before the debt is settled. A beneficiary in receipt of the house will need to negotiate with the mortgage company to keep it, essentially assuming control of the mortgage.
Credit card debt is at the bottom of the pile. If all assets have been liquidated and all the money spent, that credit card debt will be discharged without payment.
Probate and How to Avoid it
If there is no will, a court-appointed administrative procedure will initiate the probate process, after which a probate court will validate the will and ensure that unpaid debts are cleared. The deceased’s remaining assets can then be passed to their beneficiaries.
Probate can also be initiated on estates where there is a will. In such cases, the probate court will validate the will and give the executor authorization to fulfill the deceased’s requests. This changes depending on location and some states will simply dispense assets based on estate distribution hierarchies, beginning with a surviving spouse.
Probate can be avoided, however, making life easier for your executor, heirs, and benefices. To avoid this process, you can:
Check Estate Size
Probate is not necessary for smaller estates. The laws governing estate size change from location to location. Look at local laws to understand whether this rule applies to you and prepare your heirs and executor if it does.
Establish a Trust
Property held within a trust is not part of your estate, which means it’s not subject to the same laws. A trustee is responsible for distributing the money as per your wishes and this can be given to a beneficiary.
Give Your Money Away
One of the easiest ways to avoid the probate process is to reduce the size of your estate while you’re alive. Give money and assets to your heirs before you die, ensuring they get what you want them to have without a lengthy legal process.
If your assets are jointly-owed by your spouse, they will assume control upon your death. Of course, joint estate ownership means joint debts, bills, and responsibility, and any secured or unsecured debt will be passed onto them when you die.
Will Life Insurance be Used to Clear Debt?
Will my life insurance enter my estate and be used to clear my debts? It’s a question that many debtors have and after discussing the many things that can happen to your assets after death, it’s a valid concern. The simple answer is a resounding and happy “no”, but as is so often the case with money and debt issues, it’s not quite that straightforward.
If there is at least 1 beneficiary on a life insurance policy then the money will pass to them, bypassing probate and all the issues that go with it. If there is no living or assigned beneficiary, the money will either pass into the estate or be given to a spouse or heir. It all depends on individual state laws, but you can avoid this issue by remembering to name a beneficiary on your life insurance policy and to ensure it is updated regularly.
If the life insurance money passes into the estate, it may be used to pay off debts, leaving more money for all that credit card debt sitting at the back of the line and waiting to collect its share.
How Long do Creditors Have to Make a Claim?
Upon death, it is the duty of a personal representative to inform all creditors, after which they are given a fixed period of time to make a claim. If no claim is made within that period, they are barred from future claims.
In California, for instance, a creditor has either 60 days from receipt of a mailed notice or 4 months from the date the estate was opened, depending on which is longer. In Florida, creditors have 2 years from the date the estate is opened, but a representative can take steps to shorten this period.
Why Won’t Debt Die With you?
It’s a question that many heirs and debtors ask and one that is steeped in frustration, but if you take a step back and think about it logically, it makes sense. Imagine that you lend a distant relative $10,000 to start a business with an agreement that they will repay $500 a month until the debt has been cleared and an additional $3,000 in interest has been paid. That money means a lot to you and you only loaned it because you were expecting to get it back, so what happens if they die moments later and the cash is just sitting on their bedside table?
Do you have a right to take it back? You loaned it to them after all, and you did so on the understanding that they would repay it, so don’t you have the right?
As far as lenders are concerned, if you owe them money then you have to pay them back regardless, dead or alive. It’s heartless, it’s morbid, but it’s also the way that a credit-hungry and debt-heavy society works, because without that rule, lenders might not be so willing to lend.
Why am I Being Hassled by Debt Collectors?
If your husband or wife recently passed then you may be contacted by their creditors, including debt collectors. This is true even if you don’t reside in a community property state. They are entitled to contact you to discuss the estate and to get their share. However, they may also try to trick you into assuming control of your spouse’s debt, even though you have no legal responsibility to do so.
This issue is not reserved for debt collectors, either. Credit card providers have been known to contact next of kin to offer their condolences and then kindly ask them to clear their deceased relative’s debt. They have been known to harass relatives with endless phone calls, letters, and even threats, doing all they can to chase the money owed to them by the recently departed.
They’re hoping relatives will be too grief-stricken to bother with the debtors and will simply assume responsibility without asking any questions. They’re relying on ignorance and have been known to use manipulation and deceit to get their way.
The Fair Debt Collection Practices Act was established to prevent this racket, but it’s still commonplace. Many spouses initiate this process themselves, calling banks and lenders directly to inform them of their loved one’s demise, believing they are doing the right thing, only to be tricked into paying a debt that they don’t have to pay.
This is true for all debts, but it’s more common with credit card debt and collection accounts, because, as discussed already, they are at the very back of the line when it comes to collecting from an estate.
It’s important to understand your local laws so you can be prepared to meet these creditors and their deceit head-on. Don’t let them push you around. If you feel like you’re being harassed unnecessarily, take a step back, ignore their calls, and spend some time brushing-up on your rights.
What Happens to Your Money After Debt?
We’ve established what happens to your debt after death and have looked at the ways in which credit card companies, collection agencies, and even the courts can make life very difficult for you and your descendants. But what happens to your money in general, how is it dispersed, and how can you know for sure that it will go to your heirs or spouse?
Here is a rundown of the things that can happen to different aspects of your finances:
Single bank accounts are closed as soon as the necessary documents (including a death certificate) are received. Joint bank accounts will remain open and become the sole responsibility of the remaining account holder.
If you don’t have a will, all your assets, including everyday items such as televisions and clothes, will become part of your estate and may be sold to pay debts or provide additional money to your heirs. You can also specify who will receive these possessions in your will or state that you wish for them all to be sold.
Cash and Collectibles
Any cash or high-value items, such as precious metals, art, and other collectibles, will be added to the estate or given to your heirs as per the instructions in your will. However, if you have a lot of debt, then simply assigning these items to a beneficiary will not prevent them from being liquidated and used to clear your debts.
If you run a business and have multiple heirs, the process of succession can be quite complicated. They may decide to run the business together, or one or more of them may agree to buy the others out. In any case, this is something that you should plan for in advance to ensure that your business doesn’t fail due to the complications of succession.
The average American spends over $230 a month on subscription services. If no one is there to monitor or cancel them, they can do some serious damage to an individual’s finances. Fortunately, you don’t need to cancel these individually as it’ll happen automatically when their bank account and credit cards are canceled.
It’s very important that you send away the necessary documents as soon as possible, canceling their bank account and quickly reducing the damage that unnecessary subscriptions have on their estate. You can contact utility companies separately to switch payments to your account.
If you have a joint-account and your partner paid for services that you no longer need, you can either contact those service providers individually or simply place a block on payments via your bank or card provider.
It’s fair to say that death and debt is pretty complicated. As soon as you die, creditors, heirs, debt collectors, and attorneys swarm around your estate like vultures, each seeking their pound of flesh. It’s messy, it’s arduous, and while you won’t be there to experience it, your heirs will and it’s important to make life as easy for them as possible.
It’s a morbid business and no one wants to think about what will happen when they die. But by making preparations you can ensure that your family doesn’t have to worry about your debt and legal issues when grieving for you. The onus is on you, therefore, to make this process as easy for them as you can while you’re still alive, which means getting insurance, writing a will, creating a trust, and preparing them for what’s around the corner.
Death is inevitable, as is the chaos that follows it, but by preparing properly you can make this process considerably more manageable.