Who Inherits Your Debt?
Your father passed away, naming you as the sole heir to his estate.
Unfortunately, that estate includes $30,000 in credit-card bills and a house with negative equity. So where does that leave you?
“We’re seeing a lot of that in Florida, where you’ve got condos being willed to children that are worth less than the mortgage note,” says Austin Frye, a certified financial planner and estate attorney with Frye Financial Center in Aventura, Fla.
The matter of what becomes of your debt when you die — home mortgages, car loans, medical bills, student loans — is more complex than it sounds.
Generally speaking, says Frye, personal debt dies with the borrower, thus can’t be passed along to children or spouses.
As with all things financial planning, though, exceptions abound.
Much depends on whose name is attached to the debt, the state in which you reside and the type of debt in question, says David Mendels, a certified financial planner with Creative Financial Concepts in New York.
“A lot depends on how the assets are titled, and the rules can vary by state,” he says. “Then there is the question of whether there were any guarantors on the debt. They could very well get stuck with the debt.”
Beware the Joint Account
If you’re insolvent when you die — meaning your assets are insufficient to cover your debts —there’s little to discuss. All debt disappears with you.
The executor of your estate will attempt to sell whatever collateral you have and pay off your creditors to the extent possible.
Everything else gets written off as a loss.
Those you leave behind, however, will not be responsible for making the creditors whole.
That is, of course, unless one of them co-signed for a loan or agreed to act as a guarantor.
In that case, says Mendels, the co-signer would be on the hook for any remaining balance after the original borrower dies.
That includes adult children who co-sign for an aging parent, or promise to cover medical or housing bills if their parent passes away.
“When you co-sign for something, you make a commitment to pay off that loan on the debtor’s behalf if they are no longer able to,” says Mendels. "That’s one of the many reasons people have to be careful about co-signing.”
The same is true with joint credit cards between husband and wife, says Frye.
If your dear departed used the joint credit line to restock the closet with designer duds, it’s you who gets stuck holding the bill, even if it wasn’t technically your spending spree.
Pay as You Go
If your estate is solvent when your ticker calls it quits (i.e. your assets are greater than your liabilities), your debt gets deducted from your estate and your heirs get what’s left over.
The executor of your estate will use your savings to pay off any debt before distributing the remaining assets to those named as beneficiaries in your will.
If your savings are insufficient, the executor may have to sell off some of your assets (including your car, stock accounts, or house) to make up the difference.
“Creditors always come before heirs,” says Mendels, noting that credit card companies, mortgage lenders and banks that are owed money get paid first. “All debts must be paid before the estate can distribute assets.”
Depending on your state laws, however, some assets may be excluded from probate — the process by which all claims against your estate get resolved after you die, says Frye.