Many people find themselves in the unfortunate situation of having to sort out their loved ones’ assets and liabilities when they die. Navigating the law can be very complex at an already challenging time. People often find themselves wondering what happens if they pass away with debts, and whether those they leave behind will have to pay them off.

Under Australian law, a will usually determines what happens to the assets of a deceased estate. While the general rule is that you cannot inherit a debt, in certain circumstances a family member may be responsible for a debt of a deceased estate.

How do debts get paid after a person has died?

Whoever is appointed executor in the deceased person’s will is responsible for distributing the assets of an estate in accordance with the will. This includes paying off debts using the assets in the estate. It typically goes like this:

• If there is enough money (cash) in the estate to satisfy the debt(s), the executor will simply use this.
• If there is not enough cash in the estate, the executor will sell some of the assets (property) to repay the debt(s).
• If there is not enough money in the estate even after selling all the assets, the debt generally does not need to be paid (provided it is unsecured – more on this below, in the deceased’s name only, and there is no guarantor).

The only way a family member will be responsible for a debt of a deceased estate is if:

• They have an asset which has been used as security for the loan;
• The debt is in joint names (ie, the deceased person owes the debt together with the family member); or
• The family member has guaranteed the debt owed by the deceased.

It gets a bit more complicated if there is a ‘trust’ involved. A trust is essentially a legal mechanism for putting assets out of your personal control – assets that are in the name of a trust are owned by that trust (rather than the trustee). If a trustee dies, the assets of the trust do not form part of their personal deceased estate – they remain the property of the trust. A trust does not therefore end when a trustee dies. The ‘appointer’ decides who acts as trustee – when a trustee dies, the appointer chooses a replacement.

Secured versus unsecured debts

Secured debts are those where the lender has some sort of guarantee against the money being borrowing from them, like a car. This asset is used as ‘security’ for the loan. If the repayments stop, the lender is entitled to sell the ‘secured’ asset to recoup the debt.

An unsecured loan is where the lender does not require the ‘security’ of an asset. Your loan is approved based only on the lender’s assessment of your ability to make repayments (as an example, think of a credit card). If the repayments stop, there is no particular asset the lender is automatically entitled to take and sell to satisfy the debt.

When a person dies, secured debts are paid before unsecured debts. Essentially, if you are a beneficiary under a will, you get whatever is left over after both secured and unsecured debts are satisfied. For example, if you are the beneficiary of a house under a will, but the house has a mortgage attached to it, you need to decide whether to pay the mortgage off, refinance it in your name, or sell the property (to hopefully satisfy the mortgage and retain anything left over). If you also happen to be the sole executor of the estate depending on the terms of the will (and the overall financial circumstances of the estate), you may be able to use other assets of the estate to pay off the mortgage.

Conclusion

The key thing to remember is that you cannot automatically ‘inherit’ debt. While the mortgage in the above scenario doesn’t disappear, you have options if you are the one inheriting the property. Lots of banks have guides about deceased estates and, as always, if in doubt, get some legal and/or financial advice.

Note that the content of this blog does not apply in all jurisdictions, does not constitute legal advice, and should not be relied upon. You should seek legal advice in relation to any particular matters you may have. All opinions expressed are our own, not necessarily those of any organisations with which we are connected.