What Happens To Your Debt When You Die?

Debt can sometimes feel like a dirty word. But the truth of the matter is, most Canadians have some type of debt. Whether it’s a mortgage, line of credit, car loan, or even credit card – you likely have some debt. (Don’t worry, debt isn’t necessarily a bad thing!)

If you have any type of debt, you might be wondering what happens to it when you die. Or maybe you’re wondering if you’ll be saddled with the debt of a loved one when they pass away.

Death and debt can be really complex topics. So it’s no surprise there are a lot of common misunderstandings about what happens to debt when you die. To help make it simple, we’re breaking down the important details.

Your debt doesn’t disappear

We hate to be the bearer of bad news, but unfortunately, debt doesn’t automatically disappear when you pass away. Your creditors have a right to collect what they’re owed, even if you’re no longer around. 

The only exception to this is federal student loans. In most situations, federal student loans are forgiven by the government if you pass away.

Instead, any remaining debt is paid off through your estate. So what does this mean for you and your loved ones?

Your estate is responsible for your debt

Your estate is everything you own (and owe) at the time of your death. If you have a legal last will and testament, this will serve as the roadmap for how your assets will be distributed. The executor of your will is responsible for creating a list of all your assets and debts/liabilities, and will take care of paying off your debt at this time. This includes things like:

• Loans
• Credit card balances
• Unpaid bills
• Taxes owing etc.

This is all part of the estate administration process.

What about a mortgage?

A surprising 1-in-10 Canadians think their mortgage simply disappears when they die. Just like any other debt, this isn’t the case! But mortgage debt can be dealt with a bit differently than other types of debt.

If your home has a mortgage, this debt typically stays with the house after you pass away instead of being paid off by the estate. For example, if you leave your home to your sister in your will, your sister can now choose to either assume ownership of the house (and take on the mortgage in her name) or she can sell the home, pay off the mortgage, and keep the proceeds.

How you own your home can significantly affect what happens to your home when you pass away (ie. if you own it alone, jointly with rights of survivorship, or jointly with tenancy in common.) So if you have specific wishes for how you’d like to pass on your home, it’s important to create a will and review how you’ve structured your home ownership. 

What happens if you have more debts than assets?

In some situations, you may owe more than you own at the time of your death. If you don’t have enough assets or money to pay your debts in your estate, it becomes insolvent. This is similar to claiming bankruptcy if you are alive – your creditors will simply not receive full payment.

Debt is always paid out in order of priority and sometimes only partially paid. If you have enough in your estate to pay off all debt, but not fulfill all the gifts you’ve outlined in your will, the gifts will be “abated.” This means the value of all gifts to your beneficiaries may be reduced to satisfy any debts.

Your family (or beneficiaries) cannot inherit your debt

There is often a misunderstanding that creating a last will and testament means your family will inherit your debt. Fortunately, this is not quite how inheritance works. In Canada, your loved ones and beneficiaries cannot inherit your debt after you pass away. Any remaining debt is paid out by your estate. Only after debts are fulfilled are gifts and inheritances paid out. 

The only time debt can be transferred is if the debt is owned jointly. For example, if you have a car loan with your spouse – your spouse is now the only person on the entire loan.

Protecting your assets when you pass away.

This is why it’s important to make a will, even if you don’t have a large number of monetary assets. Your will serves as a roadmap for your family, so you can be certain your wishes are honored. In your will you can do things like:

• Appoint an executor – an executor of a will is in charge of wrapping up your estate (as well as distributing gifts and paying off any debt). If you don’t choose someone, the courts will appoint someone for you.
• Assign a guardian for minor children and pets – otherwise the courts will appoint a guardian for you.
• Pass on other sentimental items and personal belongings – even if you own items that have little to no monetary value, if you’d like them to end up in the hands of someone specific, it’s important to outline this in a will.

And that’s the gist of what happens to your debt when you pass away! No one wants to leave a mess for your family and loved ones to sort out when they’re gone. You can avoid that by ensuring you have an up to date will and having the important conversations with your executor and loved ones. By being prepared, you can protect your family and loved ones, even when you’re no longer around.

Willful is an online estate planning platform that makes it easy for Canadians to make their emergency planning documents in less than 20 minutes. No lawyer required.