When a loved one dies, families are often surprised to learn that debts do not simply disappear.

They become a liability of the estate and it is the personal representative – the executor under a Will or the administrator where there is no Will – who is responsible for identifying them and settling them in the right order, before distributing what is left to the beneficiaries.

This is one of the most misunderstood and risky parts of probate, as getting it wrong can leave executors personally liable for the debts or any losses suffered by beneficiaries.

Debts must be settled before beneficiaries are paid

Executors and administrators have a legal duty to identify and pay all of the deceased’s outstanding debts and taxes from the estate before distributing any assets.

That includes the obvious items, such as mortgages, credit cards, personal loans, utility bills and Council Tax.

However, it also covers the less obvious liabilities, such as overdrawn director’s loan accounts, personal guarantees, hire purchase agreements and outstanding tax owed to HMRC.

If executors distribute the estate too early and a debt later comes to light, they can be personally liable to make good the shortfall, even if the money has already passed to the beneficiaries.

Watch out for insolvent estates

If it looks like debts may exceed the value of the estate, executors should stop and seek professional advice before paying anything other than reasonable funeral expenses.

Paying creditors out of order in an insolvent estate is one of the quickest routes to personal liability and in some cases a trustee in bankruptcy may need to be appointed to administer the estate instead.

There is a strict order of priority

Where the estate is solvent, debts are paid in a defined order, with funeral, testamentary and administration expenses taking priority.

Where the estate is insolvent, the order set out in the Administration of Insolvent Estates of Deceased Persons Order 1986 must be followed strictly. In broad terms, the order of payment is:

  • Secured creditors, such as mortgage lenders, to the extent of the asset they are secured against.
  • Reasonable funeral, testamentary and administration expenses.
  • Preferential debts, including certain employee wages and pension contributions if the deceased was an employer.
  • Unsecured creditors, including credit cards, personal loans, utility bills and Council Tax.
  • Interest on debts.
  • Deferred debts, such as informal loans between family members.

Each category must be cleared before moving to the next. If executors pay a lower-priority debt ahead of a higher one and the estate later proves insufficient, they may be required to make up the difference personally.

Protecting yourself with a Section 27 notice

One of the most important steps executors can take is to place a statutory notice for creditors under Section 27 of the Trustee Act 1925.

The notice is usually placed in The Gazette and in a local newspaper where the deceased owned property or carried on a business.

The notice gives any unknown creditors a minimum of two months and one day to come forward.

Provided the notice is correctly placed and the waiting period observed, executors are protected from personal liability to creditors they did not know about at the time of distribution.

The creditor may still pursue the beneficiaries for what is owed, but the executor is shielded from the risk associated with the debt.

Skipping this step is one of the most common ways executors expose themselves to personal risk. Given the protection it provides, it is a relatively low-cost safeguard.

Don’t forget the individual’s tax position

Income Tax, Capital Gains Tax and Inheritance Tax must all be reviewed up to the date of death and throughout the administration period.

Unclaimed reliefs or transferable allowances can make a significant difference to what is ultimately owed to HMRC, which might have a wider impact on the estate’ Owen Ellis – manager

Unclaimed reliefs or transferable allowances can make a significant difference to what is ultimately owed to HMRC, which may affect the estate’s wider liabilities.

Here to help

As accountants authorised to carry out probate work, we are well placed to manage the financial, tax and administrative aspects of an estate, either independently or alongside legal advisers where needed.

If you are acting as an executor or supporting a family member who is, taking advice early can make a real difference. Please get in touch with our team.