Overdrafts and bank loans are easy ways of borrowing money quickly. But they may cost more than you think. Make sure you understand the interest rates, the fees and the terms involved before you borrow money.
Borrowing from banks
Before you borrow money, always consider whether:
- you really need a loan
- you can afford to repay it
Overdrafts
An overdraft allows you to spend more money than you have in your bank account - up to a limit agreed with your bank. You only pay interest on the overdraft money you use.
Should if you go over the limit, or overdraw without arranging a limit bank first, you may have to pay a penalty charge and a high rate of interest. Your bank may also charge for sending a reminder letter, and for any direct debits or cheques you put through the account.
The bank may freeze your account until the overdraft is paid off. That would mean you could not get access to any money in the account, like your salary.
Banks also charge a monthly fee and a setting up fee the overdraft, so it can be an expensive way to borrow money.
Bank loans
A loan is a formal arrangement, usually for a fixed period of time (which you agree at the start).
If you're thinking about taking out a loan, you'll need to agree with your lender:
- how much money you can borrow
- how long you can borrow it for
- how much interest you'll pay
You'll need to check the monthly repayments carefully to make sure you'll be able to afford them. Shop around for the best deal before you make a decision. Avoid securing such debt against your home.
What to do if you have difficulty with repayments
Money you owe to your bank is a non-priority debt, which means that you might not lose your home for not paying the debts, but you can still be taken to court and ordered to pay what you owe - often with extra costs on top.
If you owe your bank money and cannot pay:
- get advice
- make a list of all your debts
- decide which ones you need to pay off first
- work out your personal budget
- calculate how much you can offer to pay each month
- talk to your bank about the situation
Where to get help and advice
Managing repayments
If you regularly miss repayments or can't manage your repayments, contact your lender as soon as possible.
The Banking Code commits your lender to look at your position sympathetically and positively. They may offer options such as changing the rate of repayment, letting you stop paying for a while or paying off the loan over a longer period.
If you do not contact your lender about your circ*mstances, your bank may take you to court for non-payment and get a County Court Judgment (CCJ) against you. This will count against you if you apply for credit in the future.
Negotiating with your bank
It's always worth trying to get your bank to offer a better deal on rates and conditions. Whenever you're negotiating a loan or overdraft, it's a good idea to show that you've thought carefully about it.
As well as talking to the bank, you could write a letter explaining:
- your reasons for needing the money
- how long you think you'll need it for
- how you're going to repay it
It's important to be honest about your financial position. If you're worried about money, it's advisable to get in touch with your bank as soon as possible.
Settling disputes with your bank
If you disagree with a decision, you can complain to your bank. Disputes might be about:
- interest added to a loan
- extra fees which weren't expected
- the withdrawal of a loan facility
You should give the bank at least eight weeks to try to resolve your complaint. The bank should then send you a letter giving its final decision and telling you how to contact the Financial Ombudsman Service (FOS) if you're unhappy with the result.
If you don't receive a final letter within eight weeks, and you don't want to give the bank more time, you can contact the FOS for a complaints form.
FAQs
What Is an Overdraft? An overdraft occurs when there isn't enough money in an account to cover a transaction or withdrawal, but the bank allows the transaction anyway. Essentially, it's an extension of credit from the financial institution that is granted when an account reaches zero.
Is bank overdraft considered debt? ›
A debt is incurred because, with an overdraft, the bank effectively automatically lends the amount necessary to process the transaction to the account holder, an amount that needs to be returned, along with possible fees.
How worried should Janet be about overdraft fees? ›
Explanation: Janet should be concerned about overdraft fees if she is at risk of spending more money than she has in her bank account. An overdraft occurs when you spend more than your account balance, resulting in a negative balance.
What is the best way to explain overdraft? ›
An overdraft lets you borrow money through your current account by taking out more money than you have in the account – in other words you go “overdrawn”. There's usually a charge for this. You can ask your bank for an overdraft – or they might just give you one – but don't forget that an overdraft is a type of loan.
What is bank overdraft with example? ›
A bank overdraft is as same as a bank account that can have a negative balance, up to the sanctioned overdraft limit. Example: If your bank account has Rs. 10 lakh in the bank and you withdraw Rs. 12 lakh for business purposes, an overdraft loan is a by-default loan for the extra Rs.
What is my bank overdraft? ›
An overdraft occurs when you don't have enough money in your bank account to cover a payment or withdrawal. Overdraft protection is a financial product that covers the amount of the transaction when you go into overdraft. These transactions may include: debit purchases. bill payments and pre-authorized debits.
Can banks see if you owe other banks? ›
Yes – and not just banks. Anyone who can order a credit report on you can see how much debt you owe and to whom.
Is overdraft good or bad? ›
An arranged overdraft is unlikely to have a major impact on your credit score as long as you don't go beyond your overdraft limit or have payments refused. In fact, if you use your overdraft sensibly and regularly pay it off it could improve your credit rating.
What happens if you owe bank money? ›
Money you owe to your bank is a non-priority debt, which means that you might not lose your home for not paying the debts, but you can still be taken to court and ordered to pay what you owe - often with extra costs on top. If you owe your bank money and cannot pay: get advice. make a list of all your debts.
Will banks forgive overdraft fees? ›
"Most financial institutions will refund the fee – as long as it is not a normal occurrence. We all make mistakes." That said, it's not a guarantee. To get your overdraft fee waived, you'll need to do a bit of negotiation.
When a bank engages in a violation involving an overdraft fee, they could be held liable for resulting damages to consumers, which can cover: Refunds for the fees charged. Losses caused by related harm, such as damaged credit. Damages related to consumer protection act violations.
Are overdraft fees illegal now? ›
In general, for debit card transactions at ATMs or at merchants, consumers must opt-in, or agree up front, that the bank can charge you an overdraft fee for any debit card transaction that overdraws the account. If you don't opt-in, you can't be charged a fee.
How do banks handle an overdraft? ›
Generally, if you overdraw your checking account by a check or ACH, your bank or credit union's overdraft program will pay for the transaction and charge you a fee. By allowing your account balance to fall below $0, your bank or credit union will also effectively take the repayment right out of your next deposit.
What to do if you overdraft and have no money? ›
If your financial situation is unlikely to get any better, you should contact your bank. They might agree to: temporarily pause interest or fees on your overdraft debt. let you pay any essential costs like food and bills before paying off your overdraft.
Is it bad to use your overdraft every month? ›
Using it for long-term borrowing or large amounts can lead to financial difficulty. There are high costs for using an overdraft. Regular overdraft use can lead to a cycle of debt if you rely on it as part of your monthly expenses. If you go over your arranged overdraft limit, we call it an unarranged overdraft.
What is a bank overdraft quizlet? ›
Overdraft. An overdraft occurs when money is withdrawn from a bank account and the available balance goes below zero. In this situation the account is said to be "overdrawn."
What is my overdraft? ›
An overdraft is a way of borrowing money. If you decide to use an overdraft, you're responsible for paying it back. If you're unable to repay, your credit score could be impacted.
What is the journal entry for bank overdraft? ›
* Debit: Interest Expense (Expense) * Credit: Bank Overdraft (Liability) This entry reflects the increase in the liability of the bank overdraft and the corresponding decrease in the bank account.
What is it called when your bank lets you overdraft? ›
Overdraft protection is an agreement with the bank or financial institution to cover overdrafts on a checking account. This service typically involves a fee and is generally limited to a preset maximum amount.
