Getting or increasing an overdraft can have risks. It is an expensive way to borrow and there may be cheaper options.
What is an overdraft?
An overdraft is a facility attached to your current account that lets you take money out when there are no funds in it.
You may be thinking about:
- Getting an overdraft for the first time
- Asking your bank to increase your limit so you can borrow more
Using an overdraft means you borrow money from the bank. If you do borrow, make sure to do it in the cheapest way possible.
Do I really need an overdraft?
Most banks offer an overdraft facility along with their current accounts.
A simple rule is to only use your overdraft for:
- An emergency fund, or
- A short-term borrowing option
Ask yourself these questions:
- Do you need an overdraft?
- Is there any way you can avoid borrowing?
- Do you have savings you could use instead?
Savings are a cheaper way to top up your money, if you have them.
The interest you make on savings is less than what you are charged on overdraft.
How have overdrafts changed?
Banks changed the way they charge for overdraft in 2020. It is now a flat rate of around 40% EAR.
EAR stands for ‘equivalent annual rate’. It is the interest rate charged over a year, if your account was to remain overdrawn.
This change makes your overdraft cheaper if you:
- Do not use your overdraft often
- Use your overdraft in small amounts
The Financial Conduct Authority (FCA) says lenders should make sure customers are not worse off because of the changes.
Overdrafts are still expensive. Make sure you look at other options.
What are my alternatives to getting or increasing an overdraft?
Any time you borrow money you should check you are paying the least amount in interest and fees.
Other options to an overdraft include:
Comparison sites can show you:
- Interest rates on different types of debt
- The best and cheapest way to borrow for your needs