Let’s start by acknowledging that death’s no fun to talk about. It’s easier to kick that rusty can down the road, saving those darker conversations for another day. But before you take the “financial ignorance is bliss” approach, you need to consider how your debt will affect your loved ones after you’re gone. In an ideal world, you wouldn’t have any debt to pass on to your family. But whether it’s caused by circumstances or life choices, some of us will inevitably be in the red even when we’re dead. Let’s take a deeper look at what happens to your debt when you’re gone.
Where There’s a Will
While we’re contemplating mortality, make sure you’ve taken some time to create a will. Not only is it cheaper than ever before ($20–$50), but it allows you to better protect your estate and divvy it up as you see fit. Without a will, your assets will be handed over to the state and then given to your next of kin. If you want any say in where your estate is headed, make sure you sit down and make a will.
What Happens to My Debt When I Die?
After you’ve taken your final bow, your estate generally owes any of your debts. If you have enough assets to pay for these debts, someone known as an executor (such a cheery title) is responsible for selling those assets and settling up with the creditors. If your estate doesn’t have the funds to pay for these personal debts (this is called a solvent estate), then the debts typically die with you. But not always.
In the event that your estate does cover the amount of your debts, the rest of your estate is then given to your heirs. But remember, creditors will come before your heirs.
The largest exception to the dying debts is when one of your loved ones acts as a guarantor or co-signs one of your loans. By doing this, they’re saying they will assume the loan if you can’t. And, to be frank, you can’t do much assuming when you’re dead.
This is also the case for spouses that have joint credit card accounts. Even if your spouse had nothing to do with that boat you purchased on a credit card, they’re still responsible for paying it off. This is not suggesting that you and your spouse should absolutely have separate accounts for your debts and assets. In fact, if managed well, that can be a powerful booster to your finances. But before you tie the financial knot with anyone, make sure you can trust their spending habits.
It’s important to note that an authorized user on a card is not the same thing as a co-signer. An authorized user will not be required to pay the debts of the deceased account holder.
Dying to Get Rid of Student Loans
It’s surprisingly difficult to have your student loans discharged. You can’t even get rid of them by filing for bankruptcy (in most cases). In life they’re attached to you like a bad tattoo. Death, however, is an excellent cure for most federal student loans.
Private banks aren’t nearly as forgiving of student loans. Private student loans can eat away at your estate if you haven’t planned a way to protect yourself (we’ll talk more about this in just a bit). Since 2009, though, many private student loan lenders have become better about wiping the slate clean after death, but each lender is different.
According to federal law, a surviving spouse – with proof of financial ability and creditworthiness – will be able to take over the mortgage if you die, rather than paying the full balance back to the mortgage company. Once again, talking to your family is an important part in this process. You need to communicate the realities of the situation, specifically those that involve finances. In some cases, it may make sense for your spouse to downsize to a cheaper house so that they can have a more manageable monthly payment.
Protecting Your Estate from Debt
While there are always exceptions at the state level, in most cases, 401(k)s, life insurance policies, IRAs and brokerage accounts are protected from creditors. This allows you to list individuals as your beneficiaries, and it keeps the money from going to your estate. Remember, in an estate, creditors come before heirs.
The Exceptions: Community Property Laws
Some states have something called community property laws, which could definitely affect the way your debt is treated after you’re gone. These laws require that any debts or assets that you’ve obtained after you got married are also the responsibility of your spouse. In other words, even if your spouse isn’t on the car loan, he or she is still responsible for paying it off when you’re gone.
Below are 10 states in the U.S. that have community property laws: Arizona, California, Idaho Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin. Alaska makes the list too, but residents have the option to make their property considered community property or not.
You Can’t Take It with You
Debt can certainly be a headache during life, but under certain circumstances, it can be a tragedy after death. If you’re not careful, your family could suffer the consequences. Discussing death isn’t easy, but do yourself and your loved ones a favor by sitting down and talking about these financial decisions. And if you have any questions at all, don’t hesitate to speak with a lawyer.
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