Every Canadian wants to leave behind a financial legacy for their loved ones to help them secure their future. But the debt you took to build that estate- does that get passed on, too? It depends. Your personal loan, unsecured debt, overdraft, and credit card debt are not payable by the beneficiaries upon your death. Your debt is your own, not your spouse’s or children’s, until they sign a contract taking responsibility for it too.
What Happens to Your Debt After Death in Canada?
What happens to the unpaid debt? Debt doesn’t die with the person. Debt needs to be settled and repaid from the estate, which includes bank accounts, investments, property, and personal belongings. The estate pays off debt in the following priority:
- Secured debt (mortgage, vehicle)
- Funeral costs
- Taxes owed
- Unsecured debt (credit cards, loans, lines of credit)
If the estate’s money is insufficient to cover the debt, the estate is considered insolvent, and some debts are written off. If anything is left in the estate after paying debts, it is transferred to the beneficiaries.
This is a normal scenario. However, things get complicated when the beneficiary is a joint owner, co-signer, or guarantor on the loan. In this scenario, the co-owner becomes responsible for paying the entire debt.
Scenarios When Beneficiaries Inherit Debt
Circling back to the original question, do children and spouses inherit your debt? They do so under the following circumstances:
Joint Debts: If your child or spouse is a joint account holder on a loan or line of credit, they inherit your debt.
Co-Signed Loans: In co-signed loans, the spouse or child contractually agrees to repay debt if the debtor defaults, and this continues even after the debtor’s death.
Secured Debts: For home or vehicle loans, the debt is secured by the asset. The lender can sell the asset to recover the loan, or the beneficiary who has inherited the asset can make the debt payments.
Credit Card Debt: Credit card debt has the same obligations of debt getting passed on to a joint holder or co-signer. However, there are a few things you should be mindful of.
- Never use the credit card of a deceased person, as it could complicate things.
- Credit cards are linked to several online payment profiles, like e-commerce sites, streaming platforms, and monthly subscriptions. The money might automatically be deducted. Ensure you cancel the card upon the cardholder’s death.
As for the credit card rewards points, that depends on the card issuer’s policies. Some companies transfer the points to beneficiaries, while others cancel them upon the cardholder’s death.
Mortgage: A mortgage is a secured loan, and the property attached to it is liable for repayment. If you transfer that house to your beneficiary after your death, the beneficiary can either sell the house and repay the loan or renegotiate with the lender and get the mortgage in their name. Many lenders also require mortgage life insurance, in which the policy pays off the mortgage after the borrower’s death.
Tips to Protect Your Estate from Your Debt
While your beneficiary cannot inherit debt, you can make smart choices to protect them from your debt. You can also protect yourself from taking on someone else’s debt with these dos and don’ts.
Do’s
- Do Repay or Reduce Your Debt While You’re Alive: The best way to protect your beneficiaries from your debt is to repay it while you’re alive. Even the highest of debts is not impossible to repay. When budgeting doesn’t help, you could consider debt relief options like debt consolidation and consumer proposals. A professional accountant can walk you through the options and help you manage and reduce debt.
- Consider a Term Life Insurance Policy: Another option to protect your loved ones from inheriting debt is to buy a term life insurance policy for the joint and cosigned debt. The policy will pay off your debts with the death claim, relieving your estate of creditors’ claims.
- Do Gift Assets Before Death: You could also consider gifting your assets to your beneficiaries while you are still alive. As the assets are no longer yours, the creditors may not have a claim over them. However, this option has a few drawbacks. You will lose the right to the asset, and some assets may trigger a capital gain tax.
- Do Write or Update Your Will: Your will and how you distribute the assets will determine how debts are managed. If your child inherits the house, he/she will be responsible for continuing to pay the mortgage.
Don’ts
- Don’t Co-Sign a Loan or Take Joint Debt: Do not cosign a loan or take a joint loan if you cannot repay it. Even if the debt is not yours, you are liable for it once you co-sign. If you are already a co-signer, take appropriate steps to separate your finances either by paying off the loan as soon as possible or removing your name while the debtor is still alive. Nothing can be done after the debtor dies. Another way is to get life insurance for the borrower to reduce your liability.
- Don’t Be a Guarantor for Other People’s Credit Cards: A financial institution will ask for a guarantor only when the borrower’s credit score is not good. Parents often become a guarantor for their child’s first credit card. You can limit your losses by ensuring your credit card limit is within your means.
The debt scenario can become complicated after the borrower’s demise. Having a professional accountant by your side as an executor of your will can be a game-changer in such complex estates. They can carry out the final tax filings, close accounts, negotiate debt repayment terms, and pay off liabilities from the estate efficiently.
Contact Glenn Graydon Wright LLP in Oakville to Help You Manage Debt and Estate
Talk to a professional accountant to help you work out options for your estate and your debt. At Glenn Graydon Wright LLP, our accountants and estate planners can provide services such as debt and estate planning. To learn more about how Glenn Graydon Wright LLP can provide you with the best accounting and estate planning services, contact us today at 905-845-6633 or connect with us online to schedule an initial consultation.