Financial Planning for October, 2010

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When Someone Dies, Who Pays the Debt?

Although no one likes to think about end-of-life issues, it’s always best to educate yourself on the fine points of estate planning to ensure a smooth transition for your beneficiaries. Given the current economy, how are credit cards and other loans paid off if a person dies and leaves outstanding debt? Are they paid from the estate before beneficiaries receive their inheritances?

Remember that nothing is ever as it seems; a person might seem wealthy and secure, but under the surface there could be credit card balances, student loans, multiple mortgages and other debt. What’s the worst case scenario?

Consider these facts. According to the National Foundation for Credit Counseling, 26 percent of Americans – or more than 58 million adults – admit to not paying all of their bills on time. A survey reports that when finances are tight, 59 percent of people would pay their credit card bills last. A majority (52 percent) would pay the mortgage first, while 38 percent say they would pay utilities before paying other obligations.

When a person dies, all debts are typically settled from the person’s estate. An estate consists of cash, cars, real estate and anything else owned by the deceased that has value. A prized swordfish mounted on the wall could have sentimental value – but not much monetary value. An older car, even though it might not be included on any used car listing because of its age, still has some kind of value, as nominal as that might seem.

A deceased person’s heirs receive any amount left over after all debts are settled, as dictated by the terms of a valid will. Most everyone has heard it said that a person needs to have a will, no matter how much the person owns. Yet, if a will does not exist, state intestacy laws kick in. Intestacy is defined as the condition of the estate of a person who dies owning property greater than the sum of his or her enforceable debts and funeral expenses without having made a valid will or other binding declaration. If a will or declaration has been made but only applies to part of the estate, the remaining estate forms the intestate estate.

Here’s the bottom line. While the debts of a deceased person don’t just go away, the surviving family members do not necessarily bear the burden. Unless a family member is somehow directly connected to the debt by cosigning a loan or holding a joint account, he or she isn't personally liable for the debt.

There is one exception. In community property states – Alaska, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin – assets that couples acquire during marriage are considered to be owned by both spouses. As a result, when one dies, creditors might be able to target this property to satisfy debts incurred by either or both spouses during their marriage.

Most beneficiaries won’t have to worry about figuring these matters out for themselves. One of the duties of an estate’s executor or administrator is to identify and pay off all debts before distributing anything to the heirs. However, if there are not enough assets to pay off outstanding debts and a joint account holder does not exist, any credit card or other debt goes unpaid.

During the time an estate is being settled, it should be noted that credit card issuers are required by law to stop tacking on any fees and penalties to the outstanding balances. In addition, if first- or third-party debt collectors try contacting family members, any calls should be referred to the executor or administrator of the estate.

As always, it’s best to consult your financial planner for your individual situation, since everyone’s is different. Hopefully, this brief explanation is helpful knowledge for end-of-life planning.


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