Financial health is comprised of many invisible responsibilities, like tracking and preventing overdraft fees. An overdraft occurs when an individual spends more money than is available in their bank account. In other words, an overdraft may allow you to take out more money than you actually have in your account as a form of a loan. UK overdrafts are typically arranged or unarranged.
Account holders in some cases can opt in or out of overdraft protection. If you opt-in for overdraft protection, transactions will be declined if you do not have sufficient funds in your account. Conversely, if you opt out of overdraft protection, you can continue spending even if you do not have the funds available in your account and this is where an unarranged overdraft may come into effect.
However, it is important to note that you will have an overdraft limit that typically ranges between £500 and £2,000. Similar to a traditional loan, you will also likely be charged interest and additional fees if you overdraft your account.
How Do Overdrafts Work?
It may be the case that when you set up a bank account, you will automatically be provided with a set overdraft limit that you may borrow funds from if necessary. In some cases, account holders may totally opt out of any overdrafts. This means that once their account balance hits zero, there is no leeway. However, this is sometimes preferred by people who wish to budget very strictly. In other cases, you may have to contact the bank and opt out of overdraft protection. In either case, the bank will set your overdraft limit.
For example, if your overdraft limit is, for example, £1,000, you may borrow up to this amount from your current account after your balance is zeroed. Typically, this amount will need to be repaid within a week or other predetermined period, plus interest and added fees. The interest rate and fees will differ depending on the bank.
What Types of Overdrafts Exist?
There are two different types of overdrafts:
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Authorised Overdrafts: Also known as arranged overdrafts, these are organised in advance with your bank. This arrangement will include agreeing that you want an overdraft built into your current account and its limit that you can borrow up to.
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Unauthorised Overdrafts: Also known as unarranged overdrafts, unauthorised overdrafts are unplanned. This can happen when you spend more than you have in your current account without having overdraft protection.
It would always be best to only enter into authorised overdrafts arranged between you and your bank. Although banks can charge you an annual interest rate for both authorised and unauthorised overdrafts, entering into an unauthorised overdraft can also negatively impact your credit score.
This is because entering into an unauthorised overdraft, especially if you are doing so on a regular basis, can indicate to lenders that you are struggling financially.
What Are the Advantages and Disadvantages of Overdrafts?
If you are deciding whether or not you would like to have an overdraft built into your current account, it would be worth weighing up the advantages and disadvantages they can offer you.
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So, is an overdraft right for you? Overdrafts can be useful for some people. They allow you to access money quickly and from a trusted source with relatively low-interest rates.
However, they should only be used for emergencies or as a short-term financing option. Remember, an overdraft is still a loan that you will need to repay , and as such, you may also need to pay back additional fees and interest.
Try to only opt to have an authorised overdraft if you feel it is a financially responsible and necessary decision . While you will still need to pay interest and fees, an authorised overdraft can help protect your credit score from decreasing.
