Americans are, quite literally, getting buried in debt, with nearly half expecting to pass away with outstanding debts.[1]
As a general rule, a person’s debts do not go away when they die. Some types of debt, such as federal student loans, are typically forgiven upon the debtor’s death, but private loans and cosigned accounts may still be owed after the debtor has passed away. State laws also play a factor in the postdeath debt settlement process.
While nearly half of Americans think they will pass on their debts when they die, you can take proactive steps now to protect your loved ones from inheriting or becoming responsible for your debts. If you are an estate’s executor/personal representative or have been contacted by a debt collector about a deceased family member’s debt, you should understand your rights and obligations.
One Nation, Under Debt
Debt is as old as civilization itself. Lending at interest can be traced back to ancient Mesopotamia and the use of promissory notes to facilitate trade. The United States has carried debt since its inception, borrowing money from domestic investors and the French government to fund the Revolutionary War.[2]
Total consumer debt eclipsed $17 trillion in 2023, up from $15 trillion in 2021, according to credit reporting agency Experian.[3] The largest and most common debts include
● mortgages ($11.5 trillion in 2023),
● auto loans ($1.51 trillion),
● student loans ($1.47 trillion),
● credit cards ($1.07 trillion), and
● personal loans ($571 billion).[4]
The total average individual debt balance in 2023 was $104,215, up from $101,915 in 2022 and $96,371 in 2021.[5] According to Debt.org, 73 percent of Americans die owing money.[6] The average amount of debt they die with is nearly $62,000.[7]
What Happens to Your Debt when You Die
You are probably familiar with the expression “buried in debt.” It might hit close to home if you are like most Americans struggling to pay off existing loan balances. However, do you know what happens to your debt when you die?
The answer depends on factors that include the type of debt and the state where you live. In most cases and most states, your loved ones are not stuck with your unpaid bills because creditors are paid only from the assets (e.g., a home, car, bank accounts, investment accounts) that are (i) part of your probate estate and go through a probate court or (ii) in your revocable living trust.
If you do not leave behind enough assets in your probate estate and living trust to fully cover the debts owed, creditors may have to settle for what is available. There are some exceptions to the idea that surviving family members and other heirs are not on the hook for the debt, including
● a person who cosigns on a loan;
● the spouse of a deceased person who lives in a state with community property laws (Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin); and
● the spouse of a deceased person who lives in a state that requires a surviving spouse to pay certain healthcare expenses and other kinds of debt.
The rules governing when a surviving spouse is responsible for paying unpaid medical bills are complex and vary by state. It is important to work with an experienced estate or trust administration attorney to ensure that your affairs are wound up correctly.
Surviving spouses and adult children are frequently contacted by debt collectors attempting to collect on bills for the medical care of their deceased loved one, according to the Consumer Financial Protection Bureau. However, unless the survivor also agrees to the medical debt or is responsible under state law, they are generally not liable for the debt.
Not All Debts Go Away at Death
Debts not inherited by a specific individual under the exceptions described above do not just disappear, except for debts that are dischargeable by death. For example, federal student loans, including Direct Subsidized Loans, Direct Unsubsidized Loans, Direct Consolidation Loans, Federal Family Education Loans, and Federal Perkins Loans, are usually discharged when the borrower dies, as long as the loan servicer receives proof of death.[8]
Private student loans are a different story. Some lenders of private (i.e., nonfederal) student loans offer a death discharge, although it is not the norm. They may come after the loan’s cosigner (if there is one) or the estate for repayment of the outstanding balance on the loan.
Secured versus Unsecured Debt
Determining how and when to pay a debt after the debtor has passed away and who or what may owe the debt can depend on whether the debt is secured or unsecured.
● Secured debt is backed by collateral (a tangible asset the lender can repossess or sell if the borrower does not pay back the debt). Common examples of secured debt are mortgages (secured by the real property) and car loans (secured by the vehicle). Secured debts are typically paid off before unsecured debts when a probate estate is settled during the probate process. If estate assets are insufficient to cover the secured debt, the lender can seize the collateral to recoup their losses.
In rare cases and under select jurisdictions, legal protections may be available for surviving spouses who wish to remain in a primary residence subject to a creditor’s claim. These protections may delay or prevent foreclosure if the spouse cannot pay off the mortgage in full.
● Unsecured debt is not backed by collateral (that is, there is no specific asset backing the debt). Unsecured debt includes credit card debt and personal loans.
Unsecured creditors have lower priority than secured creditors in probate. If the probate estate has enough funds, unsecured debts are paid off before any inheritance is distributed. However, if the estate lacks sufficient funds to satisfy all its debts, unsecured creditors are typically last in line for repayment and may not receive the full amount they are owed.
Funeral expenses also take priority over some creditor claims. Any state and federal taxes that the decedent owes, as well as probate estate administration expenses incurred during probate (e.g., legal and accounting fees), may also supersede creditors.
Knowing which debts have priority over others in probate is the responsibility of the estate’s executor/personal representative. If the individual assigned this role in an estate plan does not follow state probate laws, they could be personally responsible for debts that should have been paid but were not because the executor did not pay creditors in the correct order.
How to Plan for Debt and Leave More Money for Your Loved Ones
“You can’t take it with you” applies to what you owe every bit as much as what you own.
Your outstanding debt could create potential complications for loved ones. Your family may not personally get stuck with your unpaid bills; however, if you do not pay off your debts before you pass away, they may be forced to deal with debt collectors harassing or contacting them. Worse still, there may not be any money or property left to distribute to your loved ones in probate court or through the trust after everything has been liquidated to pay creditors. Here are some protections that your loved ones are afforded:
● State and federal law limits whom debt collectors are authorized to contact—and how they can contact them—to discuss outstanding debts. Spouses and other survivors should not automatically assume that they have to pay and should delay any conversation regarding payments of outstanding debts until they have discussed the specific circumstances with a lawyer. Collectors who go too far or provide misleading information can face potential consequences.
● When a beneficiary inherits a home, they also take possession of the home subject to any outstanding mortgage and are ultimately responsible for that debt. Anyone inheriting a home or other significant asset, such as a vehicle, with an outstanding loan balance must know their obligations to the lender. They may have to sell the house to pay off the mortgage or apply to transfer the mortgage to their name. In addition, individuals have the right to refuse a gift from an estate if they do not want or cannot afford it. In some cases, federal law will allow a decedent’s heirs to assume the mortgage on a property without triggering a due-on-sale clause, ensuring that the loan remains in place after the owner’s death.
● Every state has different laws and procedures surrounding debt repayment. Things can quickly get complicated, so it is best to work with a local estate or trust administration lawyer if there are any concerns about how unresolved debts could affect the surviving family.
Estate planning is about the legacy that you leave behind. If that legacy includes debt, an estate planning attorney can offer advice for getting it under control during your lifetime or help your family deal with the consequences of your debts after death. Call us if you need assistance planning for your debt or winding up a loved one’s affairs. You can reach us at 937-589-4144.
[1] Myles Ma, SPFC, 46% of Americans expect to pass on debt to their loved ones when they die, Policygenius (Jan. 9, 2024), https://www.policygenius.com/life-insurance/2024-financial-planning-survey-passing-on-debt-after-death.
[3] Chris Horymski, Experian Study: Average U.S. Consumer Debt and Statistics, Experian (Feb. 14, 2024), https://www.experian.com/blogs/ask-experian/research/consumer-debt-study/#s3.
[4] Id.
[5] Id.
[6] Bill Fay, What Happens When People Die with Debt: Who Pays? (May 16, 2023), https://www.debt.org/family/people-are-dying-in-debt.
[7] Id.
[8] FederalStudentAid, https://studentaid.gov/manage-loans/forgiveness-cancellation/death.
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