How are estate creditors handled?
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UPDATED: Feb 20, 2013
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Every state has its own laws on probate procedures, including how estate creditors are to be handled. The person who is administering the estate, often called the personal representative, executor, or administrator, is supposed to notify creditors that the deceased has died so that the creditors can make claims against the estate. The way this notice is given varies from state to state. The personal representative may have to send letters directly to creditors and/or publish notices.
Once the creditors are notified of the death, state law will have a procedure that creditors must follow to collect from the estate. For example, creditors often have to file a claim in probate court or with the personal representative (depending on the state) within a certain amount of time after they receive the death notice.
It’s fairly easy for a personal representative to identify creditors if the deceased has left paperwork showing the amount of debt, but if creditors make claims that aren’t shown in the deceased papers, things can get more complicated. The personal representative has to be very careful, because he or she might be personally liable if creditors aren’t paid properly or if estate assets are paid out on invalid claims. If the personal representative approves a creditor’s claim, the bill is paid out of the estate assets. If the claim is rejected, creditors will sue the estate to obtain payment, which can cause much delay and expense.
Once the administrator has determined how many valid claims there are against the estate, he or she must see if there are enough assets to pay these debts. If there aren’t enough assets to cover the debts, the estate is said to be insolvent. Each state has laws about how property is to be distributed in an insolvent estate. For example, federal and estate taxes may be paid first, followed by probate expenses, funeral and last illness costs, and general creditors. If there aren’t enough funds left over to pay all the creditors in one group, the amount left will be prorated to creditors in the group. For example, in the example just given, if there is enough property to cover taxes and probate costs, but only enough to pay part of the funeral and last illness expenses, the remaining assets will be prorated to creditors in that group. If the funeral expenses were $15,000 and the last illness expenses were $30,000, and the amount remaining to pay the creditors in that group is $10,000, 1/3 will go for funeral expenses and 2/3 for last illness expenses. Because the assets are all used up, the creditors in the next group, general creditors, will get nothing.
If an estate is insolvent, the beneficiaries will also get nothing, even if a will leaves them specific property or specified sums of money. Beneficiaries can only receive assets in probate if there are enough assets left over after all legitimate debts have been paid.