It can often be the case that there are debts and liabilities attached to a deceased’s estate. This can include things such as taxes and debts in the form of loans, credit cards and funeral expenses, among others. One of the most important duties of an estate trustee is ensuring that all of the estate debts and liabilities are paid in full. Ideally, an estate would always have enough money to pay off the debts and liabilities of the estate and still be able to fulfill all of the testamentary gifts in full. That would be the perfect scenario. Unfortunately, that is not always the case.
Where the ideal scenario described above is not possible, there are two main different situations and corresponding outcomes that arise. The first is where an estate does not have enough funds to pay off the debts and liabilities in their entirety. In that case, the answer is simple: the estate becomes insolvent. The second situation occurs where an estate does have enough total funds to pay off the debts and liabilities, but doing so would involve cutting into the assets that are allocated for testamentary gifts and as a result of paying the debts in full, there would not enough left over to give full effect to all of the testamentary gifts. In this case, the estate would remain solvent but the doctrine of abatement applies.
Abatement is the process through which testamentary gifts are reduced where the residue of an estate does not have enough funds to pay off all of the debts and liabilities. In this situation, testamentary gifts are reduced rateably or on a pro rata basis (reduced in equal portions) depending on the type of gift in order to be able to pay the debts and liabilities in full.
A testator can control the order of abatement of their testamentary gifts by setting out their own order in their will, but where they fail to do so, the common law order of abatement for testamentary gifts is as follows:
- Gifts of residuary personal property
- (anything that is not real property such as household belongings, cars, bank accounts, etc. that are left within the residue of the estate)
- Gifts of residuary real property
- (a house or a piece of land that is left within the residue of the estate)
- General legacies, which include pecuniary (money) legacies from the residue
- (a gift of general nature, an example of this is “I give $100 to X”)
- Demonstrative legacies
- (a gift of a general nature that is directed to be paid from a particular place, an example of this is “I give $100 from my TD Bank Account to X”)
- Specific bequests of personal property
- (household belongings, cars, bank accounts, etc. that are gifted in a will)
- Specific devises of real property
- (a house or a piece of land that is gifted in a will)
It is important to note that if there is more than one gift in a category, for example four separate gifts of residuary personal property, all of those gifts will be reduced in equal portions so that the beneficiaries are impacted equally without any extra detriment to the beneficiary of any one specific gift within that category.
Similarly, it is crucial to determine which of the above categories that each and every testamentary gift falls under, as that will determine which gifts may have to be reduced and which gifts will retain their full value. For example, specific bequests or devises of real and personal property are more likely to retain their full value than gifts of residuary real and personal property due to the structure and priority of the order of abatement.