User blog comment:Jartsa67/question about souls/@comment-11331875-20130829165332

We don't know how the knife and the Colt kill demons. Since Ruby was the one who fixed the Colt so that it'd work again, I'd guess that they had spells cast on them to make them special. Probably obscure, heavy-duty witchcraft since no one else has made another version of it. I venture to say that it was probably some seriously dark magic, too, since Bobby saw her do it (presumably) and yet hasn't replicated it (as far as we know). Although that's probably for out-of-universe reasons, like not wanting the Winchesters and Bobby able to whip up yet more "kill-anything" weapons to make their lives too easy.

My headcanon is that the knife itself (and the Colt, Sam's powers, smiting, etc.) may or may not directly purify demons it kills (as in, it might start the process), but they do go to another realm when they die and end up getting purified there. For the sake of it, let's call that place Gehenna. (Limbo would also work, but Gehenna fits a little better.) It's basically the demonic version of Purgatory. When monster souls are killed in Purgatory, it destroys the part of them that is a monster and breaks Eve's hold on them, so when they are killed, their now fully-human souls move on to Heaven, as they were meant to be. Likewise, when demon souls are killed in Gehenna, it kills the corrupt part of them and allows them to move onto Heaven. (My original idea for this started out as "Holy crap, is that Azazel posing as Mary in 'Dark Side of the Moon'?! The hell is he doing in Heaven?" It's gotten a little different since then.)

The knife (and all the other methods) kills the human host, too, obviously, but I wouldn't say it destroys the host's soul--just kills them and sends them off to wherever they were supposed to end up (i.e. Heaven).

Just speculating, fellas.