Are Overdrafts more expensive than payday loans?

By: admin

How much are Overdrafts?

Short term loans have come in for a lot of criticism over the last decade for their high interest rates and collection practices of payday lenders. The collection process of short term lenders is no different to that of any high street bank or other business providing credit.

When you go into your overdraft, you’re getting into debt. An overdraft should used be for short-term borrowing or emergencies only. 

For now, let us focus on the cost of overdrafts.

What is an overdraft

When you apply for a bank account it may come with a feature call an “overdraft”. This overdraft is an instant line of credit which you can dip into when you need to borrow additional money.

An overdraft is a loan from the bank but without having to request the facility from the bank each time you need to borrow the money.

When you apply for a bank account the bank may or may not offer an overdraft facility if they do not offer on you may still go over you account limit, meaning that if you empty your account to £0 you can continue to spend into negative figures. This is called “Unauthorised” overdraft.

Overdrafts where designed to be temporary lines of credit that are extended to you the account holder to give you access to money in an emergency.

There are two types of overdrafts:

  1. Authorised overdrafts
  2. Unauthorised overdrafts

Unauthorised Overdrafts

When you need extra cash, more than you currently have in your bank account, your bank will allow you to have access to more money to a certain limit. Say you need an additional £200 and your account has the ability to grant you an unauthorised overdraft of £200 you can have access to the additional funds, but this will come at a cost which is around £20 for every £100 you borrow.

Exceeding your arranged overdraft limit or going into the red when the bank has not agreed an overdraft, is known as an unarranged or unauthorised overdraft.

This can be very expensive and should be avoided at all costs.

Unauthorised overdraft fees

Unauthorised overdrafts have lots of different fees associated to them.

  • Daily fee: can be £1 to £10 a day or more/
  • Monthly fee: anything from £1 to £35 or more.
  • Transaction fees: can be £10 to £25 for every cash withdrawal, Direct Debit or standing order, cheque or card payment you make – whether your bank allows the payment.

Most current account have a cap in place called a Monthly Maximum Charge (MMC). This is the maximum fees which they can charge in fees, charges and interest on unauthorised overdrafts.

Make sure to check all the figures carefully and do not use the overdraft unless you are fully aware of the fees, interest and charges.

Authorised Overdrafts

This is when you have agreed with your bank that in times when you need access to additional funds, they will be made available for a small fee, normally around £6 for every £100 borrowed. If you do agree an overdraft with the bank go not exceed this limit overwise any amount above the authorised value will now become and unauthorised overdraft and you will be charged accordingly.

Fees for using authorised Overdrafts.

An overdraft will not be free, and the bank will charge for the privilege. These fees can be either a daily, weekly or monthly fee or interest or both

  • Fee: Daily (From £1 – £5 a day, weekly or monthly
  • Interest: Which can be up to 15-20% equivalent annual rate (EAR).

Daily fees can soon add up. A bank charging you £1 per day will collect an additional £30 per month on top of that they will also charge interest on the fees. These fees wil be charged regardless whether you go overdrawn by £1 or £1,000.

Although there are some offers out there where banks will give you an interest free period but still apply fees.

There is no need to request the funds in the overdraft, the funds are made available to you when you need them. Provided you have agreed with your bank that you need an overdraft then any money you borrow will be charged at a lower rate. You have to agree the overdraft limit with your bank which could be as high as a few thousand pounds.

Overdrafts can ultimately end up being more expensive for you than short term loans. Missing repayments on an overdraft can be extremely expensive and what makes them worse than short term loans is that access to the funds is easy. The overdraft funds are always there. Whereas applying for a short term loan requires you to fill in a form, even though the form only takes a few minutes it is still one form more than getting access to an overdraft.

Banks have been taking advantage of the overdraft facility by charging high rates of interest to people who venture into negative account balances to the point that The Financial Conduct Authority had to step in and start regulating the high costs the banks were imposing on their customers.

How Do check If I am overdrawn?

We advise that you ask your bank for an overdraft, make sure that it is an authorised overdraft facility and that you are clear on the charges the bank will impose when you go overdrawn.

When you do go overdrawn make sure you repay the overdraft as soon as possible of the interest and fees will start to build up.

In the past a bank would write to you to inform you that you had gone overdrawn and then charge you for the letter around £25 per letter.

Now with smart phones and banking apps you can keep a closer eye on your finances. Banks are also well aware that competition and the ease at which customers can switch bank accounts means that they have had to reel in their predatory attempts of extracting money out of their customers. Although despite the efforts of The Financial Conduct Authority banks will always be looking for ways to squeeze the last few pence out of their customers if they know they can get away with it.

Check your Statements carefully

When you check your statements look for the minus signs against any numbers, this would indicate you have gone overdrawn. Some apps will display the figures in bold red to indicate you have indeed gone into the red and the sharks are circling.

What is a payday loan?

It seems that short term loans can be cheaper than overdrafts. They are not as easy to get as having access to an overdraft and the interest rates are capped on payday loans to no more than 0.8% per day and a borrower will never payback more than double the principle which was borrowed.

As previously discussed, pay day loans are actually cheaper than overdrafts as a rule thanks to the strict rules and put in place by the FCA for the payday loan industry, which currently limits the daily interest rate at 0.8% (previously the average rate per day was 1.0%)

Advice for controlling your overdraft

If you already have an authorised overdraft facility and you think you are going to go over it we recommend you talk to your bank and request a higher overdraft facility. The fees will be cheaper than going over into an unauthorised overdraft.

Never ignore the problem.

When you are in financial difficulty it can be hard to look at the bank statements or log into your online banking portal.

Burying your head in the sand and hoping the problem goes away is not the way to solve it. Confront the problem and start working towards a solution. Take charge of the situation and tell the banks what you intend to do rather than the other way around.

Take control and take control today:

  • Install your banks app onto your phone
  • Configure the app to send text alerts when your balance is running low.
  • Close and bank accounts you do not need
  • Close and credit cards you do not need.

Speak to your Bank

If you are having problems with your finances, it is important you speak to your bank. Either you can ask them to increase the overdraft limit or you can ask them to help you repay the overdraft on my favourable terms. Your bank will offer you advice on best way to tackle the problem and you can tell them what you are prepared to offer them to start paying down the overdraft.

Ask your bank to waive the fees if you managed to go overdrawn accidently it happens, but make sure you do not make a habit of it.

If your bank refuses to waive the fees, then we recommend you to reduce your debt.

Never Throw Away The Evidence.

Everyone has a pile of unopened mail by the front door. Don’t do it, open your mail (We have a tip of never opening mail on a Friday, Saturday or Sunday) open you mail from the bank, keep it all together in a folder and it’ll be easier to keep track of all correspondence with the bank.

Each letter might be important, they could be writing to tell you about your financial situation and offering to help.

Don’t Use All Your Savings

Use some of your saving if you can, but we recommend never ever to use all your savings. You must always have money put aside, never spend until you have nothing left.

The following websites also offer very good advice on what you can do if you fall into debt.

https://www.nationaldebtline.org/ and https://www.moneyadviceservice.org.uk

You should always seek professional advice when handling debt problems. Cashute are not licensed debt advisers and any information contained in this article should not be taken as legal advice. It is your Responsibility to seek out correct legal advice

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Warning: Late repayment can cause you serious money problems. For help, go to moneyadviceservice.org.uk