What you have to pay…and what you don’t

When a family member dies, relatives often wonder if they are responsible for the deceased person’s debts. What you need to know…

WHEN RELATIVES ARE RESPONSIBLE FOR DEBTS

There are only two circumstances when you are likely to be legally responsible for a deceased relative’s debts…

  • You and the deceased are co-signers on a loan or joint holders of a credit card account.
  • You are the spouse of the deceased, and you live in a community property state. Community property states are Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin. (Alaska residents can “opt-in” to a community property system.) Ask an estate or probate attorney to determine your liability if you live in a community property state and your spouse left you with significant debts—you might not be liable for all of them.
  • Example: A surviving spouse in a community property state often is not legally responsible for the deceased partner’s debts that predate the marriage.

    TRY TO NEGOTIATE

    If you are legally responsible for a deceased relative’s debts for either of the reasons listed above, you can ask the lenders to negotiate. Some are willing to accept as little as 50 cents on the dollar from surviving relatives, particularly when those relatives have limited assets and income. At the very least, the lenders might be willing to waive any missed payment penalties or interest that has accrued since the borrower’s death.

    If the lender does agree to accept a lower payment…

    Obtain this agreement in writing before sending any payment. Lenders have been known to agree over the phone to accept less than the full amount owed, process the payment, then deny any knowledge of the agreement and insist that the relative still owes the remaining balance.

    Understand the tax ramifications. If you are responsible for the debt, the IRS typically considers forgiven debt as taxable income to you.

    Consider your credit score. Your credit score could be damaged if you are a co-signer or joint account holder on a debt and the lender accepts less than the full principal owed. Your credit score should not be affected if the debt was in your partner’s name and is your legal responsibility only because of community property laws.

    MORTGAGE AND CAR LOANS

    If the deceased had secured debt, such as a mortgage or car loan, the assets that secure those loans can be reclaimed by the lender unless the estate or surviving relatives make the required payments.

    Exception: Some states shield a portion of the deceased’s home equity from creditors. Several states, including Texas and Florida, provide 100% protection for primary residences.

    If the amount owed on a secured loan is greater than the current value of the asset, it might make sense to allow the lender to reclaim it. Be aware, however, that the lender could repossess the asset and continue to pursue additional payments from the deceased’s estate (or directly from you if you are a co-signer on the loan or a spouse in a community property state).

    If the deceased’s asset is repossessed, ask your estate or probate attorney to seek a written agreement with the lender that the returned asset will be accepted as payment in full. If the lender does not agree to this, perhaps it will at least agree to reduce the amount owed.

    Important: Review the deceased’s credit card statements…car loan statements…mortgage statements…and other debt account statements for any mention of “credit insurance” or a “credit protection plan.” If these are listed, the deceased likely paid for insurance to pay off this debt in the event of his/her death. Unfortunately, relatives often must figure out for themselves that such coverage exists—lenders and insurance companies frequently fail to disclose the existence of the coverage.

    ASSETS LENDERS CAN’T TOUCH

    Lenders usually can file claims against the estate of the deceased to collect what they are owed, but not all of the deceased’s assets are part of his estate. Assets that can be kept out of the estate might be out of the reach of lenders. These include…

    Life insurance policies and annuities. Proceeds of these belong to these policies’ beneficiaries, not to the deceased’s estate.

    Exception: Lenders can pursue the proceeds of insurance policies and annuities if the named beneficiary is the deceased’s estate.

    Brokerage accounts. These generally pass directly to a beneficiary, assuming that a beneficiary has been named.

    Retirement plans. Money in 401(k) and 403(b) accounts passes directly to named beneficiaries. Lenders might be able to pursue money from an IRA or pension plan, however, depending on your state’s laws. Ask your estate-planning attorney for details.

    STUDENT LOANS

    Federally subsidized student loans are forgiven if the student dies and need not be repaid by the student’s estate. They also may be forgiven if the student becomes totally and permanently disabled. Federal loans that are made to the parents of students are discharged if either the student or the borrowing parent dies or becomes totally and permanently disabled.

    WHEN DEBT COLLECTORS CALL

    If lenders pester you…

    Request that the lender or collection agency contact you in writing, not over the phone. This cuts down on annoying phone calls and gives you time to investigate whether these debts are real and whether you are responsible for them.

    Take careful notes. Write down the name and company of each debt collector…the time and date of each call…and as much detail about each conversation as possible.

    The Fair Debt Collection Practices Act makes it illegal for collection agencies to misrepresent debts. If a debt collector tells you that you are responsible for paying a deceased relative’s debts when you are not…or that not paying the relative’s debts will lower your credit score (almost certainly not true), you might be able to sue. Contact a consumer law attorney to find out if you have a case. (Click the “Find an Attorney” tab on the National Association of Consumer Advocates Web site, www.naca.net.) The attorney may take the case on a contingency basis (no fees unless you win, and then the lawyer takes a percentage of what you are awarded).

    Note: The Fair Debt Collection Practices Act applies only to third-party debt collectors, not to lenders seeking payment of their own loans.

    Monitor your credit report if a lender or collection agency claims that you are responsible for a deceased relative’s debt. The debt might be illegally added to your credit report. If this occurs, contact the credit-reporting agency and officially dispute this debt. If the debt is not your legal responsibility, you might be able to sue the lender or credit-reporting agency that added it to your report.