YOUR MONEY | 4 things you need to know about an overdraft facility

An overdraft facility sounds like an attractive option when you’re in a fix and suddenly need access to more money than you have in your bank account.

While it can be a great help in a predicament, make sure you know what it will cost you.

HOW IT WORKS

An overdraft facility is offered by your bank, often when you open a transaction or current account, but you can also apply for it. It’s credit that’s available in your transaction account – where your salary is deposited and your debit orders are paid from.

If you have to pay for something that costs more than the balance in your account, you can go into overdraft without the transaction being stopped. So it gives you access to extra funds when the balance in your account is nil.

The credit made available to you can range from R500 to R500 000 depending on what you qualify for in terms of your credit profile. You can use all the funds or just a part of it whenever necessary.

Because the facility is linked to your regular transaction account, you don’t have to open a separate account, use a credit card or apply for a loan. You can also apply on your banking app to have the limit reduced or increased.

No minimum monthly re-payments are required. The overdrawn amount is paid off by deposits into your account, for example when your salary is paid in.

You can also apply for life insurance on the overdraft facility. Should your account have a negative balance when you die or get retrenched, this debt will be covered. But find out first what this insurance will cost you.

THE ADVANTAGES

The funds are available regardless of whether you use the facility or not. As a result, many people use it to solve temporary cash-flow problems, for example when you have unexpected expenses.

Debit orders don’t bounce, and fines aren’t charged for debit orders if your account balance is in the red.

Because your income is deposited into the account, an overdraft is less risky for the bank and your interest rate and fees are slightly lower than with a credit card, depending on your credit profile.

Each individual’s interest rate will be different because it’s based on your personal credit profile. You only pay interest on the amount you’re overdrawn by, not on the total amount available.

THE CONDTIONS

You must have a transaction account into which your salary is deposited, and the bank will verify your risk profile to determine if you can pay your overdrawn account on a monthly basis.

Depending on the bank, there’s usually a minimum salary requirement, for example R8 000 a month. To apply you must submit your ID and three recent salary slips.

If you already have a transaction account, you can apply via your banking app.

THINGS TO LOOK OUT FOR

Many people think that because they pay interest only when they use the overdraft facility, they also only pay monthly fees then. Check with your bank how its overdraft facility is structured. You could be paying monthly service fees just to have the facility available, whether you’re overdrawn or not.

If the monthly service fees are high, it’s not worth having an overdraft facility if you don’t really use it. There’s usually also a one-off activation fee that depends on the total amount of available overdraft credit, so it can range from less than R100 to more than R1 000.

It doesn’t necessarily work out cheaper than a credit card. Even if an overdraft account’s interest rate is sometimes lower, credit cards have a number of interest-free days, while interest starts being charged from the moment you go into overdraft. This means the maximum interest charged, by law, can be: the repo rate x 2,2 + 10%. The repo rate is now 3,5%, so the maximum interest that can be charged is 17,7%.

The main pitfall of an overdraft account is when people use it for expenses that aren’t urgent or essential. Then when you need the overdraft facility for an emergency, there isn’t enough money available and you must apply for a loan.

Budget for your expenses and don’t use the overdraft facility for everyday expenses such as clothing or food.

It’s easy to start seeing an overdraft as part of your budget and to forget it’s actually a credit convenience. If you’re using it all the time it can become a vicious cycle of available debt that you never manage to pay off.