It is not uncommon to have some amount of debt to your name. Just about every adult has a mortgage, car payment, student loans, credit card bills and other forms of debt that they are steadily paying down. When debt swells to uncomfortable levels, though, it can lead to big questions as we get later into life.
People that have incurred a substantial amount of debt often ask what happens to it when they pass away. Will it be passed on to their children? Their spouse? Does is simply go away? Generally speaking, if your debt is greater than the value of your estate, your estate may be labeled "insolvent".
An insolvent estate
An estate being insolvent is a little bit like declaring bankruptcy. Through a legal process, your executor can assert that there is not enough money to cover your debts. Similar to Chapter 7 bankruptcy, your estate will be liquidated, and your debts will be paid off with the resulting funds. Your beneficiaries may not receive inheritance, but they also are unlikely to inherit any debt.
The order that your debts are paid are critical to the process. The order varies slightly from situation to situation, so speak to an estate administration attorney for information tailored to you. Creditors will usually be paid in the following order:
- Federal government - If you owe taxes or other debt to the federal government, it will be the first to be taken from your estate liquidation.
- Estate operation - After the government is paid, costs associated with operating your estate will come next.
- Medical and burial costs - Your final medical bills, funeral and burial or cremation bills will be accounted for next.
- Unsecured debt - Finally, unsecured debt such as credit cards, personal loans and other debt that is not backed up by physical property will be paid with the remaining liquidation funds.
If the funds from your estate liquidation run out before every creditor is paid in full, then they will be paid on a pro rata basis until the funds are gone.
The weight of debt can feel truly crushing at times. It does not have to be a burden that you pass on to your loved ones though. There are many options available to help you deal with debt when you are planning your estate; be sure to use them.