Paying off debt can be a significant financial burden, and it’s natural to worry about leaving your loved ones with this responsibility after you’re gone. Fortunately, certain types of debt aren’t inherited by family members or cosigners. However, for debts that may be passed on, a life insurance policy can provide a safety net to help cover the balance.
Understanding Debt Inheritance
When you die, your estate’s assets are typically used to pay off your debts. If there aren’t enough assets to cover the debt, it usually goes unpaid. However, there are situations where others may be responsible for the remaining balance:
- Cosigners and Joint Owners: If someone cosigned your debt or is a joint owner, they’re typically responsible for it after you die.
- Spouses: In community property states (Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin), surviving spouses are generally responsible for debts left by their deceased partner.
Types of Debt and Life Insurance
Mortgage Debt
If someone cosigned your mortgage or is a co-borrower, they’d be responsible for the debt if you die. Naming them as the beneficiary on a life insurance policy can help them pay off the mortgage and keep the house. Even if no one is responsible for the debt, a life insurance payout can help beneficiaries cover the mortgage if they want to keep the property.
Student Loan Debt
Federal student loans are often forgiven after death, but private student loans may be different. If you cosigned a private student loan taken out after 2018 and the borrower dies, you’re generally not responsible for paying it off. However, if you have private student loans or your child relies on your income to pay off their loans, a life insurance payout can help cover the debt.
Credit Card Debt
The remaining balance on your credit cards may become the responsibility of a cosigner or joint owner. Buying a life insurance policy to cover the amount you owe can help your beneficiaries pay it off if you die.
Business Loan Debt
After you die, a life insurance payout can help your business partners pay off any loans they’re now solely responsible for. It can also fund a buy-sell agreement, allowing partners to buy out the deceased partner’s stake in the company.
Using Life Insurance to Cover Debt
If you have debts that can be passed on, a life insurance policy can help your loved ones pay them off. There are various life insurance products designed to cover specific types of debt, but they’re not all suitable for everyone.
Types of Life Insurance for Debt Repayment
- Term Life Insurance: Provides coverage for a set period (e.g., 10 or 20 years). It’s often used to match the term of a loan, such as a mortgage. Beneficiaries can use the payout as they see fit.
- Permanent Life Insurance: Lasts your entire life and is more expensive than term life. It’s suitable if you want to ensure your beneficiaries receive a death benefit regardless of when you die.
- Mortgage Protection Insurance: Optional coverage offered by lenders that pays off your mortgage if you die. The death benefit decreases as you pay down the mortgage.
- Credit Life Insurance: Covers specific debts like credit cards or loans. The death benefit decreases as the loan is paid down, but premiums remain the same.
Determining How Much Life Insurance You Need
To estimate how much life insurance you need to cover your debt, consider using a debt calculator. Remember to factor in interest-generating debt, like credit card balances.
Life insurance isn’t just for covering debt; it can also replace your income, cover final expenses, or serve as an investment. If you’re still unsure about using life insurance to pay off debt, consider consulting with a financial advisor or using online tools to explore your options.
