What Happens to Debt When You Die in Canada

If someone dies, does responsibility for payment of their debts survive their death?  Could you be held responsible for the debts of your spouse or parents after they die?

To answer this question we need to address three specific issues:

1. Can debts be inherited?
2. Is there money in the estate?
3. What happens to joint debts?

We will also talk about what happens when a bankrupt person dies and whether or not a deceased individual (that is their estate) can declare bankruptcy.

Inherited Debts

It is important to know that debts cannot be inherited or transferred upon death without your agreement. In Canada, you cannot become liable for anyone else’s debt by virtue of marriage or death.

The only exception to this rule is if you signed for the debt yourself, either as a joint debtor or as a guarantor.

The only way anyone becomes liable for debt is by “signing on the dotted line.”  If you didn’t sign for it or agree to pay it, it’s not your debt.

Upon an individual’s death, the lender still expects to receive payment. Each lender follows different procedures. It is not unusual for the lender to request payment from the surviving spouse or relative, even though it is not legal to attempt to collect from someone who is not the debtor.

The proper procedure is for the creditors to look to the deceased individual’s estate for payment.  If the person who died had assets, such as investments or a house, the executor or trustee of the estate is responsible for ensuring that all legitimate outstanding bills and debts are paid out of the proceeds of the estate. They should notify all creditors of the death by providing a copy of the death certificate and request that accounts, including credit cards, be closed.

While a will cannot pass responsibility for debts on to any surviving person, it does provide for the distribution of assets. These assets, however, cannot be distributed to any heirs until all valid debts have been paid. This may require the sale of assets to generate cash to pay off debts.

What If Your Debts Are Greater Than Your Assets?

If an individual’s debts exceed their assets at the time of death, this situation is referred to as insolvency or abatement. In such cases, the estate may not have enough money to pay all outstanding debts. When this happens, the estate must go through a process of prioritization where certain debts are paid first, and others may go unpaid.

In Canada, unsecured debts, such as credit card balances, personal loans, and unsecured lines of credit, may be written off if the estate lacks sufficient funds. Secured debts, such as mortgages, take precedence, as the creditor claims specific assets (such as property) to satisfy the debt. If there isn’t enough in the estate to cover secured debts, the creditor may repossess or foreclose on the secured property. The remaining debts may be paid out of the estate’s residual funds, and if the estate is insolvent, some creditors may receive a partial payment or nothing at all.

Joint Debts After Death

Collections for joint debts may vary by lender and by type of debt. Lenders may first look to the estate for payment or, perhaps in the case of a mortgage, allow the joint debtor to continue with the existing payment terms.

In the event there are insufficient funds in the estate to pay joint debts in full, creditors will look to the joint debtor, or co-signor to make up the balance of the loan. This unfortunately is one of the leading causes of insolvency among seniors in the event that debts are more than can now be paid on one reduced income.

It is important to understand what debts you are legally responsible for in the event of the death of a spouse or relative. You are only liable to pay debts you have contractually agreed to pay and have signed for. Debts cannot be inherited or left to anyone in a will.

Unfortunately, after a traumatic event such as the death of a spouse, the surviving spouse is often vulnerable to collection tactics, so we strongly recommend that you consult a lawyer or trustee to fully understand the rights of creditors in the event of the death of a debtor.

What Happens If A Bankrupt Dies?

If a bankrupt dies before they are discharged, the trustee will obtain a copy of the death certificate and contact the executor to determine what further actions are required.  If the deceased had life insurance, and if the beneficiary was the estate, the life insurance proceeds will be forwarded to the trustee for distribution to the creditors.  (In most cases, a spouse or child is the beneficiary, in which case the life insurance proceeds are not paid to the trustee).

If the bankrupt is eligible to receive a CPP death benefit, the benefit is paid to the trustee for distribution to the creditors. However, pursuant to section 136 (1)(a) of the Bankruptcy & Insolvency Act, the trustee is required to pay reasonable funeral expenses of the bankrupt, so in many cases, the death benefit is used to pay funeral expenses and is not distributed to the creditors.

Can A Deceased Person Declare Bankruptcy?

It is very unusual, but it is actually possible for a dead person (or, more accurately, the estate of a deceased person) to declare bankruptcy.  For example, if the deceased has assets worth $100,000 and debts of $200,000, a bankruptcy or more likely a consumer proposal could be used to divide up the $100,000 in assets among the estate’s creditors.  In this example, each creditor would get approximately half of their money, and the executor of the estate would know that all funds were distributed fairly to all creditors.

Which Debts Get Paid First By an Estate?

When settling an estate, there’s a specific order in which debts must be paid. In Canada, this generally follows a prioritized sequence:

1. Secured debts: These include mortgages and loans tied to specific assets. The asset may be sold to pay off the debt, with any remaining funds returning to the estate.
2. Funeral and estate administration costs: These necessary expenses are typically covered before unsecured debts.
3. Tax obligations: Any outstanding taxes owed to the Canada Revenue Agency must be paid before other unsecured debts. This includes income taxes or property taxes owed by the deceased.
4. Unsecured debts: After taxes, unsecured creditors, such as credit card companies and personal loan providers, are next in line. These debts are paid from whatever remains in the estate after secured debts and taxes are settled.

It’s important to note that certain debts, such as federal student loans, are discharged upon death, meaning they don’t need to be paid out of the estate. However, depending on the terms of the loan agreement, private student loans may need to be settled by the estate.

Ease the Burden of Your Debts on Beneficiaries

While it’s comforting to know debt isn’t typically passed down to family members, you can take certain steps to ease the financial burden on your beneficiaries:

1. Create a will. Having a clear and legally binding will ensures your assets are distributed according to your wishes, making the probate process smoother for your loved ones.
2. Purchase life insurance. A life insurance policy can provide funds to cover debts or provide for beneficiaries, helping keep your family financially secure after your death.
3. Consider loan insurance carefully. Credit or loan insurance can help your family pay off debt in the event of illness or death. Mortgage loan insurance is only required in Canada if your down payment is less than 20%. Be sure you know if you are purchasing mortgage life versus mortgage loan insurance – the first will pay off a mortgage in the case of death, the second in the case of default under certain circumstances such as an illness or job loss. Credit card insurance is entirely optional and generally not worth the cost especially when this debt does not pass to surviving family members unless they are co-signers.
4. Avoid co-signed loans. If you co-sign a loan, your co-signer could be responsible for the remaining debt if you pass away. Avoiding co-signed loans can prevent your loved ones from inheriting debt obligations.
5. Designate beneficiaries on accounts. Designating beneficiaries on bank accounts, retirement accounts, and other financial instruments can help ensure your assets pass directly to your beneficiaries, bypassing the probate process.
6. Consult a Licensed Insolvency Trustee. An LIT can provide valuable advice on managing your debts during your lifetime to ensure you are not burdened by debt in your senior years.

By taking proactive steps to manage your debts and plan your estate, you can help make sure your loved ones are protected from financial stress after your passing. Consulting with professionals can provide additional peace of mind, knowing that your financial affairs are in order.

Similar Posts:

1. How Is Cosigned Debt Treated in a Consumer Proposal?
2. Divorce and Bankruptcy: What Happens and Best Time To File
3. A Complete Guide To Joint Debts
4. What Happens to Joint Property in a Bankruptcy?
5. Realization and Distribution of Assets in a Bankruptcy