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Paying estate debts: it’s one of the executor’s most important duties. But what is the process? Who gets paid first? And can creditors jump the queue?

Discretion with solvent estates

The answers to these questions depend on whether the estate is solvent, explains David Mifsud, associate at Ross & McBride LLP in Hamilton. “Assuming that there are more assets than debts, [executors] have pretty much all the discretion in the world in terms of who they pay first.”

Despite such flexibility, Mifsud notes most executors find it practical to pay funeral expenses before other debts. “It could be [the estate’s] assets aren’t liquid yet—you may only have access to some money,” he says.

After that, it’s a good idea to pay high-interest debt as quickly as possible, along with debts where non-payment may result in additional fees or costs for the estate. “You have a duty to maximize the value of the estate,” Mifsud points out. “If the executor is delinquent on [his] duties [or] not paying attention, and because of that [the estate] is incurring penalties and interest, then [he] could be personally liable.”

So, notes Mifsud, “[if] that credit card’s maxed out [and] you’re paying an insane interest rate, that’d be probably something you would want to pay off first. [If] there’s a house and there’s mortgage payments, you’re going to want to make sure those payments are current, because you don’t want to default on the mortgage.

“[These are] debts that you might be focused on as opposed to the cable bill or the newspaper bill, or smaller bills you’re going to get hassled for but not necessarily incur huge debts or penalties [for].”

But what if a creditor wants to be paid now? “There’s no law that says you pay the loudest creditor, and then the quiet ones don’t get anything,” Mifsud says. And, “if the estate is wrapped up in litigation, it’s possible that you can’t do anything for many, many years. So, unfortunately, creditors just have to wait. You have to say: ‘As soon as we get access to money, we will deal with your debt.’ ”

Say that doesn’t work. “If they have a lawyer handling the estate, [tell creditors to] call the lawyer,” Mifsud says. “Then the lawyer can say, ‘Every time you call me I’m docketing, and the estate is shrinking, so conduct yourself accordingly.’ ”

Rules for insolvent estates

By contrast, insolvent estates follow a well-defined process. “That’s a different ballgame,” says Mike Beishuizen, founder of Westcoast Wills & Estates in North Vancouver, B.C. “If there’s not enough money to pay all the bills—no [beneficiary] is getting any money from the will, but there’s tons of bills—there’s [an] order of creditors that [executors] have to follow by law.”

While that order varies by province, Beishuizen says what’s universal is that creditors get paid before beneficiaries, and preferred creditors get paid before unsecured ones. (This principle also applies to solvent estates, but if there’s enough money to go around, executors may pay everybody at once.)

First in line are secured debts: loans taken against a specific asset. If the estate contains real estate with a mortgage, for example, that mortgage must be discharged before the estate receives proceeds from the sale.

After secured creditors, most jurisdictions require funeral expenses be paid, followed by executor fees and legal costs associated with estate administration. After these come debts with specific legislative priority. Depending on the province, these could include spousal support, municipal taxes, salaries to employees and rent. “So if there’s only enough to pay the funeral expenses, you pay the funeral expenses,” Beishuizen says. “If there’s only enough for the top three, you pay the top three.”

Only after all of the above are fully taken care of can unsecured creditors be paid, and they must be paid in equal amounts. “So say that there are ten bills, each for $100, and there’s only $100 in the estate; they each get $10,” Beishuizen says.

The consequences for ignoring the payment hierarchy can be severe. “Executors are personally liable for paying incorrectly or paying out the beneficiaries before the debts,” he adds.

The same goes for privileging one unsecured creditor over another. “If they pay a collection company before their funeral expenses, or before spousal support, or before deferred property taxes, they’re going to be in big trouble.”

Order of payment for insolvent estates

The exact order depends on the province in which the estate is domiciled, but the general order is as follows:

  1. Secured creditors

    These are debts held against specific assets (e.g., mortgages, car loans).

  2. Funeral expenses

    These expenses must be “reasonable.” (For a discussion of what’s reasonable, see advisor.ca/funeralcosts.)

  3. Estate administration expenses

    Payments to executors, lawyers and other professionals involved with administering the estate qualify.

  4. Debts with legislative priority

    These differ from province to province, but may include child maintenance, rent, wages owed to employees, employment insurance, municipal taxes and other debts.

  5. Taxes

    In some provinces (e.g., Ontario) there is ambiguity about whether federal tax receives priority over other unsecured creditors.

  6. Unsecured creditors

    All other debts owed by the estate: executors are required to treat unsecured creditors equally, and pro-rate payments for all debts.

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James Dolan is a Vancouver-based financial writer.

Originally published in Advisor's Edge

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