Death does not extinguish a deceased person’s debts. Creditors that are owed money by the deceased can still pursue repayment from the deceased’s Estate. There are however some rules that apply to the order in which the deceased’s assets can be used to pay debts. Some asset types are also excluded from being used to repay debt.

Executor’s obligation to pay deceased’s debts

A significant responsibility of an executor of a deceased person’s estate is to ensure that, if there are sufficient assets, the deceased’s debts are paid from the estate assets before they are distributed to the beneficiaries named in the Will. The NSW Probate and Administration Act 1898 authorises an executor to collect the deceased’s assets and use them to satisfy the deceased’s debts. Failure to do so can expose the executor to personal liability to unpaid creditors.

Insolvent Estates

If there are not enough assets in the estate to meet all the deceased’s debts, the estate is classed as insolvent. In that event, the executor may have to contact creditors to let them know that the debts cannot be repaid, and ask that the creditor write off the debt. Creditors are not however compelled to write off debts. If the debts to a creditor amount to $5,000 or more or if they believe there are insufficient assets in the Estate to pay all of the deceased’s debts, they may apply to court to have a bankruptcy trustee appointed to the Estate.

If the estate is insolvent, the priority of debts are as follows, subject to the provisions of the Bankruptcy Act 1966:

1. Funeral, testamentary, and administration expenses;
2. Secured creditors;
3. Unsecured creditors; and
4. Valuation of annuities and future and contingent liabilities.

Are secured and unsecured debts treated differently?

A secured debt is fixed to one or more of the deceased’s assets. An unsecured debt is not attached to any asset. An executor will generally pay secured debts before unsecured debts. If a secured debt is not paid, the mortgagee can exercise their right to sell the property to recover the debt.

If a beneficiary has been bequeathed an asset that was used to secure a debt, they are actually only being given the equity the deceased held in that asset. If the beneficiary wants to retain the asset, unless the Will specifies that the debt is to be paid from the deceased’s other assets, they must take on the debt attached to the asset. They must either repay or refinance the secured debt before the asset is transferred to them.

An Executor must follow the order prescribed by the Probate and Administration Act when using the deceased’s assets to pay unsecured debts. The Act provides that all unsecured debts have equal standing so no unsecured debt can be paid in priority to another unsecured debt.

Can debts be passed on to beneficiaries?

Beneficiaries are only held responsible for paying off the deceased’s debts if:

1. the debt was jointly incurred by the deceased and the beneficiary; or
2. the debt was secured against an asset the beneficiary owned; or
3. the beneficiary personally guaranteed an unsecured debt of the deceased.

If the deceased’s assets are insufficient to pay out their debts, unless one of the above situations applies, beneficiaries will not be held liable for satisfying the deceased’s debts.

In what order are assets used to pay debts?

The executor must pay the the deceased’s debts in the following priority:

1. Secured debts from the assets securing them; then
2. Funeral expenses; then
3. Testamentary and administration expenses; then
4. Unsecured debts.

The Probate and Administration Act sets out the order in which assets should be applied to pay debts. If the Will contains specific gifts of money amounts to beneficiaries, the executor must first set aside that money from the other estate assets not left to a beneficiary. Then, after the payment of debts, the order of application of assets is:

1. Assets undisposed of by the Will; then
2. Assets not specifically disposed of by the Will but included in a residuary gift; then
3. Assets specifically appropriated or disposed of by the Will for the payment of debts; then
4. Assets charged with, or disposed of by the Will subject to a charge for the payment of debts; then
5. Any fund retained to meet monetary gifts; then
6. Assets specifically disposed of by the Will, according to their value.

What assets can’t be used to discharge debts?

Assets that are owned by the deceased as joint tenant with another person will not form part of their estate and will pass to the surviving joint tenant by way of survivorship. The deceased’s interest in these assets do not form part of the estate so they are not available to the executor to discharge the deceased’s debts.

If the deceased had:

• life insurance; or
• superannuation fund entitlements

and nominated a beneficiary to receive the benefits of these assets on their death, these benefits will be paid directly to the nominated beneficiary. They do not form part of the deceased’s Estate and are not available to pay the deceased’s debts.

If the deceased has not nominated anyone as the beneficiary of their life insurance or superannuation benefits, the life insurer or superannuation fund may pay the deceased’s benefits to their estate. In that event, the executor can use the benefits to pay for the deceased’s funeral and the estate’s testamentary and administration expenses but not to pay other estate debts unless the Will specifically allows that.

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