Overdrafts are one of the UK’s most widely used credit products with almost 13 million people overdrawn within the last 12 months according to the Financial Conduct Authority (FCA) and two million stuck in a constant cycle of persistent overdraft debt*.
Overdrafts are of course, a debt like any other. A fact brought into stark relief by most high street banks charging at least 40% interest on arranged overdrafts – double the rate of most credit cards.
So why are overdrafts so expensive nowadays? To understand this, we need to go back to 2020 when the FCA ordered banks to replace their daily and monthly overdraft fees with a simple interest rate so customers could compare borrowing costs more easily.
At the same time, banks were also told they couldn’t charge more for an unauthorised overdraft than an authorised one – previously, unauthorised overdraft fees often far exceeded charges on authorised overdrafts. In response, most banks upped their authorised overdraft rates to the levels commonly seen today.
So, whilst an overdraft might be a convenient source of credit – you can pay off completely one day, then dip into it the next and they are available for as long as the bank authorises them, they are also an expensive option if used regularly.
So, rather than rely on an overdraft, other forms of credit such as a personal loan or credit card could be a more cost-effective option.
*’Stuck in the Red’ – Report by the StepChange Debt charity