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Dealing with debt in your estate plan

These days, debt is virtually unavoidable for most Americans. You need a mortgage to buy a home. You use an auto loan to purchase a car. You're strapped with significant student loans that will take years or decades to pay off. You may even have personal loans for remodeling projects, big purchases or tight financial times.

Whatever the type or extent of your debt - or your plans for paying it off - it's something you should definitely acknowledge in your estate plan. If you don't, you run the risk that your loved ones might be stuck with the unintended consequences.

It's not just you

Dealing with debt in your estate plan is nothing to be ashamed about. In fact, you're in good company. Nearly 75 percent of Americans have outstanding debts when they die, according to a recent Experian report. Excluding mortgages, the average amount owed is nearly $13,000. And more than half of all Americans leave behind credit card debt when they die.

So what happens to this debt? Generally speaking, here's what to expect:

  • The debt will become the responsibility of your estate.
  • Your creditors will get paid from the estate before your heirs do.
  • If there's not enough in your estate to satisfy the debt, your creditors won't get paid, but your heirs probably won't, either.
  • Co-signers and joint account holders will likely have to shoulder responsibility for the outstanding balance of those debts.

Much depends on the type and terms of the individual debts. For example, certain federal student loans may be eligible for forgiveness.

Planning ahead

Just as an estate plan is an effective tool for dealing with your assets, it can also be a powerful vehicle for managing debts. By putting the right strategies into place, you can prevent debts from taking a financial toll on your loved ones. Those strategies might involve:

  • Taking out the right type and amount of life insurance to provide for your loved ones (since these proceeds typically aren't available to creditors)
  • Concentrating your wealth in retirement accounts (which are also usually protected from creditors)
  • Using trusts to set aside assets and shield them from creditors

As with any aspect of estate planning, however, you should first consult with an attorney to determine which strategies are right for you. It's well worth the time and effort now to spare your loved ones unexpected hassle and financial loss down the road.

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