Bank Overdraft : Types, Advantages and Disadvantages

What is Bank Overdraft?

A Bank Overdraft can be defined as a short-term unsecured credit facility provided by the bank to its customers to meet their short-term requirements. A Bank Overdraft gets started when the amount in the customer’s account comes down to zero, and the customer wishes to withdraw more. In this scenario, the balance of the customer’s account becomes negative. Banks generally provide overdraft facilities to those customers with whom the bank has a good relationship. The overdraft amount is subject to interest, and interest rates may vary from bank to bank.

Geeky Takeaways:

• Bank Overdraft is a short-term credit facility provided by the bank.
• It is unsecured and subject to interest. Interest rates may vary from bank to bank.

Features of Bank Overdraft

1. Interest: The amount of overdraft is subject to interest, and this interest rate may vary from bank to bank and from customer to customer as well. The bank can also increase the interest rates in case of default payment from the end of the customer. This interest rate is calculated daily and is charged every month.

2. Limit: Banks prespecify the limit for the amount one can withdraw as an overdraft. The withdrawal and deposit process can happen anytime and in any amount under the prespecified limit.

3. Joint Borrowers: There can be joint borrowers of an overdraft from a particular amount, and all the concerned borrowers will be equally responsible for repayment.

4. Liability: A bank overdraft is a kind of liability for the customer that he/she must pay during the accounting period. Bank Overdraft is shown on the liability side of the balance sheet.

5. Authorised and Unauthorised Bank Overdraft: When the customer and the bank have a prior agreement concerning the overdraft, then the overdraft is said to be an Authorised Overdraft, and when there is no such prior agreement exists, but the customer still withdraws money under overdraft facility, then the draft is said to be an Unauthorised Overdraft.

Types of Bank Overdrafts

Overdraft is the amount that the bank allows the customer to withdraw when the balance of their account surpasses zero. There are many types of bank overdrafts available in the market. But the main types of bank overdrafts that all the banks provide includes Overdraft against Salary, Overdraft on Savings Account, and Overdraft against Time Deposits.

1. Overdraft Against Salary

Overdraft against salary can be availed from the accounts that the company opens for its employees. That account is eligible for the overdraft facility when the concerned person receives salary on a monthly basis. The company must be on the approval list of the bank to offer this facility to the employees. This type of overdraft does not require any collateral, and there is not such a hectic process to avail of this facility. The bank can even offer the overdraft amount to be three times the salary.

2. Overdraft on Savings Account

Savings accounts which have been opened under Pradhan Mantri Jan Dhan Yojana can avail of this type of credit facility. The account must be linked with Aadhar Card and the account must be operated efficiently for 6 months in order to get the credit. This type of bank overdraft is backed up by the government, making it more popular and safe in the eyes of the public. The customers can take credit of ₹5,000 or 4 times the accent balance, whichever is lower. Generally, the earning member of the family is eligible to avail this type of credit. There is no processing fee involved to get the overdraft amount, but there is an interest rate. However, the interest rate cannot exceed more than 2% above the base rate. KCC (Kisan Credit Card) and minors are not eligible for this overdraft.

3. Overdraft Against Time Deposits

Time deposits and fixed deposits are eligible for the overdraft facility. In India, State Bank of India provides such a facility. Under this, customers can get a credit of ₹25,000 to ₹5 Crores. Value of overdraft amount generally stays below 90% of the amount of time deposit, and the interest rate is kept at 1% of the relative time deposit interest rate.

Advantages of Bank Overdraft

1. Interest payment: The customer needs to pay interest on only the amount that he/she withdrew in the form of an overdraft and not on the whole limit. Interest rates on bank overdrafts are lower than the interest rates on credit cards.

2. Availability of Cash: The Bank overdraft facility ensures the availability of cash for the customers to meet their short-term requirements.

3. Easy to get: Bank overdraft is easy to get without any hectic paperwork, and there is no need for collateral too.

4. Credit Score: If the customer has a good relationship with the bank, the bank sometimes covers the amount of overdraft with its credit. Whenever a bank does this, the credit score of the customer does not get affected.

Disadvantages of Bank Overdraft

1. Interest Rates: Banks may charge a high rate of interest from the customers for the overdraft. Also, interest rates are variable, not fixed and can change frequently. Banks can make the interest rates higher in case of payment default from the end of customers.

2. Not helpful for long-term Borrowing: Bank overdraft does not facilitate long-term borrowing, and the customer needs to pay the amount in the same accounting period only.

3. Limit: Limit up to which bank provides overdrafts to customers depending on their financial position within the bank.

4. Bank Account Holders: Banks provide overdrafts to only those customers who have bank accounts within their bank.

How to Prevent Bank Account Overdrafts?

Bank overdrafts can be prevented, so easily if the concerned customer is aware of his/her account balance and decides to spend wisely. The customer should check their bank statement from time to time in order to get knowledge of the bank balance. Customers can also get an SMS facility started from the bank to get an SMS of the remaining bank balance after every transaction. Keeping a good relationship with the bank will also be helpful. Sometimes, the the bank pays the overdraft amount of the customer on its behalf. This practice does not affect the credit score of the customer.

Interest Rates on Banks Overdraft of Different Banks in India

Banks	Interest Rates on Bank Overdraft
Axis Bank	14.95% – 19.20% p.a.
Bajaj FinServ	9.75% – 30% p.a.
HDFC Bank	10% – 22.50% p.a.
Kotak Mahindra Bank	16% – 26% p.a.
State Bank of India	9.65% Onwards

Is Bank Overdraft an Asset or a Liability?

A bank overdraft is a kind of liability for the customer that he/she must pay during the accounting period. Bank Overdraft is shown on the liability side of the balance sheet.