The last thing you want after your loved one passes is a call from a debt collector about unpaid debts. Having an extra financial burden creates added stress in a time of sadness — especially if you didn't know about it beforehand.
Can you inherit debt? It's possible but uncommon: It depends on the type of debt and how well the funds from your loved one's estate can cover expenses. Here's what you need to know before you find yourself in this situation.
How the Probate Process Works
When someone passes, their estate enters a process called probate. The exact procedure depends on your state and what your loved one laid out in their estate planning, so consider reviewing these laws with an estate planner or lawyer.
However, generally, probate is a court-supervised process. First, a judge reviews your loved one's will and validates it. Then, the will's executor, chosen by the deceased, gets the go-ahead to manage the estate. Finally, they'll pay debts and divide assets and property between the beneficiaries per the will's instructions.
If the person who passed did not have a will, they are what's known as intestate. In that case, the probate process may take a little longer. A judge will appoint an administrator to determine the ownership of the assets and property, pay off debts and distribute any remaining assets to whomever the state determines is the next of kin.
What Happens to Debt After Someone Passes?
Just as with assets, debts are also part of someone's estate. These may include credit card debt, personal loans or a mortgage, among other types of debt. Unfortunately, just because your loved one has passed does not necessarily mean their debt goes away.
When someone dies, their estate is responsible for paying those debts. The executor will pinpoint any outstanding debt and then contact debt collectors, who will have a set time limit to put in claims to the estate. If there's not enough cash on hand, it may mean the executor must sell off assets or property to cover the debts. If there still aren't enough available assets to cover the debts, responsibility for that debt depends on the type of debt and the laws of your state. With a few exceptions, beneficiaries of the will don't inherit loved ones' outstanding debts and are not responsible for paying collectors.
However, where beneficiaries may feel the most impact from debt is in the size of their inheritance. For example, if your parent passes with an outstanding $50,000 personal loan you didn't know about, their available remaining assets will pay off that loan — which may reduce your total inheritance.
How Is the Debt Paid?
There is typically a specific order for outstanding debt payments. In most cases, administrative fees get paid first. These are fees to lawyers who helped administer the case, since there is usually a lot of paperwork. From there, remaining funds cover any funeral expenses.
Once those debts are paid, next comes outstanding medical expenses and taxes. The will's executor is responsible for filing and paying federal and state taxes. Finally, the estate pays outstanding bills such as credit cards, car loans and mortgages.
In some states, a judge may allow for a small portion of any inheritance as a family allowance to help them get through probate while the estate gets settled. These funds may be paid out earlier in the process. Check with your lawyer to determine if this is an option for you.
The Different Types of Assets (and How They Play a Role In Debt)
In the probate process, the judge and will's executor will look at different types of assets. These usually fall into two categories: probate and nonprobate assets.
Probate assets typically have your loved one named as the owner. These pass through the probate process and can be used to pay debts. Whatever assets or property remains after the debts are paid will be distributed according to the will.
Examples of probate assets include:
- Real estate
- Boats and cars or RVs
- Personal bank account
- Stocks and bonds
- Business interests
A good rule of thumb to determine if something is a probate asset is if it has a named individual owner and no beneficiaries.
Nonprobate assets, on the other hand, don't go through the probate process. Instead, these assets typically have a named beneficiary, a joint owner or a trust owner. Examples of nonprobate assets include:
- 401(k) and retirement accounts with a named beneficiary
- A life insurance policy with a named beneficiary
- Bank accounts that pay a beneficiary upon the death
- Joint bank accounts
- Real estate with a joint tenancy with rights of survivorship
- Assets held in a trust
These funds go directly to the beneficiary and can't be used to pay debts from your loved one's estate.
Can You Deny Inherited Debt?
What happens if your loved one passes and only has nonprobate assets? Can you inherit debt if there aren't enough (or any) assets to pay off debts?
If the estate has more debts than assets, the estate is called insolvent. In this case, the court will determine the order of debt payment using whatever assets are available to reduce as much debt as possible. The remaining debt often becomes unpaid; many creditors will write off the remaining debt.
What's important to know is that if your loved one dies and leaves a debt, you typically aren't responsible for it. However, there are a handful of exceptions, including:
- If you jointly own the debt, which may include a joint credit card or if you co-signed a loan.
- If you inherit a home with a mortgage or home equity loan, you may still be responsible for that debt.
- Some states have filial responsibility laws that require you to cover outstanding health care costs for parents.
- If you live in a community property state, you may be responsible for any of your spouse's debts incurred during your marriage.
In the above cases, you are responsible for covering any debts and can't decline them. If you find yourself in one of these situations, speak with a lawyer who can confirm the rules in your state and help you determine what debt you may owe, if any.
How To Be Proactive
You won't inherit your loved ones' debt in most cases. However, without prior planning, you may find that you won't inherit any assets, either. To avoid that, consider some of the following tips:
- Discuss estate plans with your loved ones. If they don't have a formal will, suggest contacting a lawyer to help them set it up.
- Review nonprobate assets and ensure that there are named beneficiaries to help make sure these go where your loved one preferred.
- You may want to speak with an estate planner or financial advisor about setting up a trust, which can help avoid probate entirely.
- Married couples who live in a community property state should consider speaking with a lawyer to determine steps to avoid or reduce potential debts during probate.
- If your loved one has passed and you're getting collection calls, ask for details of the debt in writing so you can dispute it. The Consumer Financial Protection Bureau has tips on reporting debt scammers.
The Bottom Line
The idea of inheriting debt can be scary, but most people avoid it. Thinking about your estate planning needs or assisting aging loved ones with theirs can help you see where assets and debts may land during probate. From there, you can work with an estate planner to make adjustments going forward.