Taxes are likely the last thing you want to think about when preparing an Estate Plan, but unfortunately they must be dealt with in a timely manner. By thinking about the details of your financial affairs now, you can avoid leaving these responsibilities to loved ones. Not only can this help ease emotional stress during a difficult time, but it can protect your family from facing unexpected financial consequences.
That being said, it can be helpful to understand exactly what happens if a deceased person owes taxes. While this is an uncomfortable subject, it is important to demystify the situation and learn how to handle outstanding taxes after the loss of a loved one. Keep reading to learn more about filing taxes on behalf of a deceased person and how you can prepare your own Estate for the future.
What Happens if a Deceased Person Owes Taxes?
If a deceased person owes taxes the Estate can be pursued by the IRS until the outstanding amounts are paid. The Collection Statute Expiration Date (CSED) for tax collection is roughly 10 years -- meaning the IRS can continue to pursue the Estate for that length of time. In some cases, the IRS can request to extend this deadline.
The Administrator of the Estate, or another representative of the deceased, will need to report all income made during the year prior to their death and file the necessary deceased tax return. The Administrator will be responsible for gathering all of the deceased person’s financial details, though they can request previous tax transcripts from the IRS using Form 4506-T.
In most cases, the appropriate taxes can be filed using Form 1040 to report income on behalf of the deceased. Though, an income tax return may need to be filed for the Estate as well if it generated more than $600 before being distributed to heirs.
Who is Responsible for Paying Taxes for a Deceased Person?
The person responsible for paying taxes on behalf of a deceased person will typically be named within the Estate Plan. This person will be in charge of settling the Estate and will have access to the information and accounts necessary to pay the outstanding taxes. They will also be in charge of coordinating any refunds, if applicable. There are a few different ways this responsibility can be managed.
The Administrator of the Estate can be placed in charge of paying a deceased person’s taxes -- as they will typically be the one managing outstanding expenses, closing necessary accounts, and distributing inheritances as specified.
The deceased may have an Appointed Legal Representative to handle tax affairs. This could be an Estate Planning lawyer or family attorney. They will also have access to financial information and be able to take care of outstanding taxes in a quick manner.
If the decedent was married their Surviving Spouse may also take over tax duties, especially if they are filing jointly for the year. Note that taxes can be filed jointly for the year the death occurred and potentially the previous year (if the death occurred before taxes were filed). The surviving spouse would need to note this on the tax paperwork.
In cases without an Estate Plan, spouse, or appointed legal representative the responsibility will typically fall on a loved one or Next of Kin. This person will need to note that they are acting as a personal representative on behalf of the deceased when filing any documents with the IRS.
Are Beneficiaries Responsible for Debts Left by the Deceased?
Beneficiaries are not responsible for debts left by the deceased, and by law creditors cannot treat them as such. Further, qualifying retirement accounts, life insurance proceeds, and funds placed in certain types of Trusts do not have to be used to pay for the descendants debts -- as these funds go directly to the beneficiary and do not pass through Probate.
There are certain exceptions to make note of when looking at a deceased person’s debt. In community property states, such as California, the surviving spouse may be responsible for portions of outstanding debt. There are also states that may require medical debt to be paid for by the surviving spouse. Lastly, any debts that had a co-signer will need to be paid for by that individual.
What Debts are Forgiven at Death?
Debts are not automatically forgiven after death; instead, the Estate will be responsible for paying them. If the Estate does not have the funds to cover these amounts, the debts will often go unpaid. Federal student loans are perhaps the only exception, as these will be forgiven after receiving official proof of a death.
What Happens if You Don't File Taxes for a Deceased Person?
If you don’t file taxes for a deceased person, the IRS can take legal action by placing a federal lien against the Estate. This essentially means you must pay the federal taxes before closing any other debts or accounts. If not, the IRS can demand the taxes be paid by the legal representative of the deceased.
There are exceptions for funeral expenses and associated administrative costs -- which can be paid before outstanding taxes on behalf of the deceased. If the decedent owes years worth of taxes, you may be able to work with the IRS to prove that you were not aware of the outstanding amounts. This will typically require the help of a tax planning lawyer or CPA.
How To Prepare Your Estate for Taxes and Death
Managing the financial affairs of a deceased loved one can be challenging, especially if they are not prepared for the process. The best way to handle this responsibility is by completing a thorough Estate Plan, and encouraging your loved ones to do the same. This process will allow you to nominate a legal representative who knows exactly where to start when it comes to handling your taxes and finances after death.
It can also be helpful to talk through these questions with your spouse, that way you are both protected financially in case anything unexpected were to occur. Dealing with taxes after death requires some administrative work -- and can be a hassle during an emotionally challenging time. Crafting an Estate Plan can help you address any potential confusion or challenges.
Understanding what happens if a deceased person owes taxes is a great first step in creating your Estate Plan. Learn how to get your finances in order today, so your loved ones are not left with this task. While it can be uncomfortable to talk about --- it is a necessary responsibility. Is there a question here we didn’t answer? Reach out to us today or Chat with a live member support representative!