Are you getting a fair deal on your overdraft?

justin schamotta
By Justin Schamotta

woman wallet©

OVERDRAFTS are meant to provide a safety net for short term cash flow problems.

They allow account holders to borrow money up to a specified limit, and can be useful for making sure regular payments are met.

Commonly, however, many banks charge people for using this safety net - and frequently customers end up paying so much it starts to look considerably less safe.

If that sounds familiar, follow our three step plan to get a fairer deal.

1. Get a 0% overdraft

Interest free overdrafts are not as easy to find as they once were.

They're still the first port of call for those going into the red and paying for the privilege, but they're increasingly limited to offering only a few hundred pounds interest free.

Some accounts require holders to pay large sums of money into the account every month, or only offer a decent "fee-free" overdraft as part of an account with a monthly fee.

Limited time 0% deals

Interest free overdrafts typically last for up to a year before they revert to a normal rate of interest or fee structure.

Interest free overdrafts

Let's illustrate this point with three examples.

As you can see below, no 0% overdraft is without its downside.

Go with Santander and it'll run out after just four months, even with Co-op or First Direct the amount available interest free is fairly small.

Bank and account Overdraft Account requirements
FlexDirect (more details)
0% for 12 months £1000/month
First Direct
1st Account (more details)
0% on £250 £1,500/month
Everyday current account (more details)
0% for four months Switch using dedicated
switcher service

There's more information in our current account table here.

Note that these accounts are examples only. The details were correct at the time of updating, but can and do change.

The other 0% option is limited to current and former full time students.

Student/graduate accounts

Banks are typically keen to get students and graduates banking with them and usually offer some form of 0% overdraft for their student accounts, typically up to £3,000.

Most banks offer tiered schemes where the overdraft limit is increased every year, and still remains interest free.

After graduation, the 0% period doesn't necessarily have to end.

Some banks offer graduate accounts that allow ex-students to enjoy an interest free overdraft for up to three years.

The aim with these accounts is to reduce the overdraft without onerous charges, since the graduate should theoretically be working by that point.

All in all, anyone who isn't a student or soon-to-be graduate and regularly uses an overdraft facility will generally be better off ignoring the short term offers, and seeking the lowest rate of interest over the long term.

2. Get the best authorised overdraft

If you're looking for the best authorised overdrafts there are a few things you should look out for.

Interest or daily fees?

For a typical overdraft, customers may find themselves subject to an initial fee for using the facility, then charged an annual rate of interest (usually between 15% and 20% a year), or face a simpler daily charge of between 50p and £1 for the period they're overdrawn, usually - but not always - subject to a monthly cap.

Banks that charge daily fees may advertise their overdraft as being "interest free".

Nevertheless, these daily charges can result in customers paying out a lot more than they would with a fixed rate of interest.

Buffer zones

A sizeable number of banks now provide their customers with a buffer zone, allowing them to go overdrawn by small amounts without incurring any penalty fees or interest.

In November 2011, Barclays, Lloyds Banking Group and HSBC agreed to provide their customers with a buffer zone of between £5 and £10.

The banks also agreed to alert their customers if their account becomes close to being overdrawn.

These have proven popular, and effective. The Financial Conduct Authority (FCA) says people who receive such warning texts tend to incur lower charges for unarranged overdrafts than those who don't sign up to receive such messages.

Unauthorised overdrafts

Banks aren't obliged to provide overdrafts. It's up to them whether they agree to provide an authorised overdraft facility, based on their assessment of credit worthiness.

If there is no pre-arranged overdraft facility and an account becomes overdrawn, that's an unauthorised overdraft.

Similarly, if a customer exceeds the agreed limit of an authorised overdraft, they've entered into an unauthorised overdraft.

Banks will typically refuse to honour cheques or efforts to withdraw money from an account getting close to entering an unauthorised overdraft, and may levy a charge when such payments are attempted.

If the bank does allow an unauthorised overdraft, it will typically charge on the overdrawn amount.

An investigation by the BBC in 2011 found that a Santander customer borrowing £100 for 28 days without the bank's consent would have to pay back £200, which is the equivalent of an APR of 819,100%.

The now defunct Office of Fair Trading said banks were not legally required to state an APR for "any charges payable due to non-compliance with commitments contained in the consumer credit agreement".

But the FCA, which took over from the OFT, insists that banks must clearly set out "all charges and fees for the normal running of the account", and can't simply refer users to posters in the branch on their website.

Unfortunately, the way examples of authorised and unauthorised borrowing are set out doesn't really get across the monthly cost - as we looked at here, in relation to a similar problem with credit cards.

But even with one of the higher overdraft interest rates, it's usually preferable for customers to arrange some kind of overdraft facility in advance.

3. Reduce overdraft costs another way

The most obvious way to reduce the cost of an overdraft is to treat it just like any other debt and scrimp and budget until it's paid off in full.

Cutting costs

It's hard to budget and put more money towards repaying debts but it can be done.

Cut costs: read more
Make a budget: more
Dealing with debt: more
Reclaiming fees: more

We've got a guide to the most common mistakes people make when they budget, and the budgets that can fix them.

For example, there are a number of sites that can track spending, basically making individual budgets for their users.

Any debt help could also be useful in this sense.

Using a money transfer

Like a 0% balance transfer deal, a money transfer offers an introductory 0% interest deal; unlike a balance transfer, the money can be moved to a current account which is handy when there's an overdraft to pay off.

However, just like balance transfers, money transfers aren't for everyone.

The fee for transferring can be high - often higher than that for making a balance transfer - and missing just one minimum repayment can invalidate the 0% terms, landing the borrower with another debt on which they're paying interest.

Find out more in this guide.

Reclaiming charges

Finally, people who have been let down by their overdraft facility can try to reclaim the charges from their financial provider.

Those who can show they're in financial difficulty have the best chance of reclaiming charges. People who can't cover the cost of basic necessities or debts, or who have recently suffered from a substantial drop in income will count.

However, as our reclaiming guide proves (available here), just about anyone has a chance to get their charges back if they have a reason.

Customers can phone or write to their banks to ask for charges to be refunded and, if necessary, go through the bank's official complaints procedure. All banks have one.

If that fails, they can seek free help from the Financial Ombudsman Service.

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