The process of administering the estate of a decedent is, in most instances, quite simple.  For most estates, the executor does not need to retain the services of an attorney.  In fact, with some estates, the last will and testament of the decedent does not need to be submitted to probate because the property of the decedent passes by way of beneficiary designation or to a surviving joint owner.

While most estates are simple, not all estates are.  In fact, some estates can be quite difficult to administer for one reason or the other.  Ironically, sometimes it is the smaller estates that can be the most difficult to administer.  An estate that has insufficient assets to pay the debts of the decedent can be one of the more tricky estates to administer.

If an estate has insufficient assets with which to pay the debts of the decedent, the estate is said to be insolvent.  When an estate is insolvent, there is a certain priority with which the debts of the estate must be paid.  An executor cannot simply pick and choose which debts to pay.

What the typical person serving as executor would most likely do is pay the debts as he receives the bills from the creditors.  The executor would think he was doing a good job and being conscientious by paying bills “right away,” but in fact, such actions could expose the executor to personal liability for failing to abide by the law.

There is a New Jersey statute that governs the priority of debts.  The order in which debts have to be paid is as follows:  funeral expenses, expenses of administering the estate, debts owed to the Office of the Public Guardian, debts with preference under federal or state law, reasonable medical expenses associated with the last illness, debts that have been reduced to judgment, then all other debts.

It is the fourth priority of debts—debts with preference under federal and state law—that I want to focus on today.  To me, a debt with preference under federal law would be any debt owed to the United States government, such as unpaid income taxes.

Now, reading the New Jersey statute, you would think that an executor handling an insolvent estate would be safe in paying the income taxes of the decedent after he paid the funeral expenses and the expenses associated with administering the estate (such as legal bills, executor’s commissions, cost of probate, etc.).  The problem is, there is a conflict between state and federal law on this issue.

A federal statute provides that any debt owed to the United States government takes preference over all other debts.  The federal statute goes on to provide that if the executor of an estate pays any debts before paying a debt owed to the United States and if there is then insufficient assets with which to pay the debt owed to the United States, then the executor is personally liable for the debt owed to the United States.

So, let’s assume the following facts:  Mr. Smith dies with an estate worth $13,000.  His funeral costs $9,000.  His executor is entitled to a commission of $500.  His executor paid $150 to submit Mr. Smith’s Will to probate.  His executor hired a lawyer to file an action to declare the estate insolvent, and the lawyer charged $3,000 to file that action and have the estate declared insolvent.  Mr. Smith owes $2,000 to the IRS and has various other debts some of which have been reduced to judgment.

Now, given the New Jersey statute, you would think the executor would be fine paying the funeral and the costs of administration in full and making a partial payment to the IRS.  But the federal statute says otherwise, and if the executor fails to pay the IRS in full, then the IRS can sue the executor for the remainder of the debt.