Good management of finances is important to prevent unnecessary debt and financial pressure. And Overdrafts can help you with that. In this article, we will discuss what exactly is an overdraft, its advantages and disadvantages and when it is wise to use them.
What Is an Overdraft?
An overdraft is basically a bank facility where it can give credit to you and let you take out more money than you have in your account. Think of it as a temporary loan. It allows you to get money even if your account balance is low. Banks can set a fee for overdraft use, so it’s important use this facility wisely.
Pros of Using an Overdraft
- Instant Funds
The most important and obvious advantage of an overdraft is that it can give you instant cash when you need it the most. For example, if there’s an emergency or an unexpected shortage of funds, an overdraft can help you.
- No Fixed Repayment Schedule
There’s no fixed date to repay the overdraft money compared to standard loans. Repay the overdraft amount anytime you want as long as it doesn’t break the bank guidelines.
- Helpful for Electronic Payments
You can find an overdraft helpful at times of digital payments. Let’s say, if you want to buy an item online, and your bank balance is low, an overdraft facility helps settle the payment without delay.
- Lesser Interest Rates Compared to Credit Cards
When compared to loan on credit cards, overdrafts have lower interest rates. This makes them more affordable for short-term borrowing.
Cons of Using an Overdraft
- Excessive Interest Rates and Charges
Although overdrafts are cheaper than credit card loans, they also have high-interest rates and charges. Banks might charge daily, monthly, or yearly charges for an overdraft, which can add up to a lot of money.
- May Trap You in a Debt Cycle
Using an overdraft very often can put you in a debt trap. When you use overdrafts repeatedly without clearing the amount, interest is charged and the balance might become more difficult to pay off.
- Account Closure Risk
If you overdraw your overdraft or not pay back the bank’s money as per their terms, it can result in your account being closed. This can affect your credit score and future access to credit.
When Should You Use an Overdraft?
- For Short-Term Cash Problems
If you require cash for a few days or weeks and are able to repay it, an overdraft can prove to be an easy solution.
- For Urgent Expenses
Urgent expenses like medical charges, sudden house repairs, or car breakdowns can be taken care of by an overdraft if you don’t have other funds available.
- For Business Transactions
Small businesses can use overdrafts to accept payments online in case of temporary cash flow problems. It keeps the business running.
- Do Not Use for Big Expenses
If you require a large amount of money, use a personal loan rather than an overdraft to prevent extreme interest charges.
- Do Not Use for Unimportant Spending
Overdraft usage for luxury items or unnecessary expenses may cause financial trouble in the future.
An overdraft can be a helpful tool when used responsibly. But it comes with its own risks like high fees and might cause debt traps. Before using an overdraft, check your ability to repay it and consider other options like loans on credit cards or personal loans for larger expenses. Always monitor your bank terms and keep within your limit to maintain your finances.
Leave a Reply