How does an overdraft line of credit work? No one wants to deal with the headache of an overdraft fee, a returned check, or the embarrassment of having their debit card denied. That is why most banks offer something called an overdraft line of credit.
Why you should get an overdraft line of credit
If you are still wondering if you should get an overdraft line of credit, here are some of the top reasons why you should consider signing up for the service:
- Protect you from late fees - The best reason to get an overdraft line of credit is to avoid the many fees that can hit your bank. In some cases, you could potentially pay a $35 NSF (no sufficient funds) fee. If you write multiple checks, these fees could add up to hundreds of dollars.
- Ideal if you use your checking account often - An overdraft line of credit might be suitable if you write many checks or use your check card often. For instance, if you use your check card to pay your bills or for recurring payments, then having an overdraft line of credit will potentially protect you from overdraft fees.
- Ideal if you make large payments with a checking account - Finally, an overdraft line of credit could be ideal if you write large dollar amount checks. For instance, if you write a check for your rent or mortgage, you certainly do not want those checks to bounce or be returned.
Penalties without a checking line of credit
Still not sure if you should have an overdraft line of credit. Here is a look at some of the potential downsides of operating a checking account without an overdraft line of credit:
- One-time debit card transactions - If you use your debit card or a check card to make frequent payments, there could be a chance that you attempt to make a payment without having sufficient funds. Sometimes, the bank will not allow the transaction to go through and will not force you to pay the NSF fee. However, there is a chance that you will still have to pay the debit card transaction fee.
- Overdraft fee on Pre-Authorized payments - If you have authorized your bank to make payments on a recurring basis, there is a chance that you may not have the money to cover these payments. Your bank may still allow the payments to go through and then charge you an overdraft fee.
- Returned check fee - In addition to an NSF fee, you could potentially be on the hook for a returned check fee if you used that check to pay a credit card or other company. The charge for a returned check could range from $20 to $40. Also, the company could potentially charge you a percentage of the check amount.
Pitfalls of overdraft line of credit
While an overdraft line of credit can potentially be a convenience, there are some things that you have to know about this service. After all, an overdraft line of credit is generally not free. Here are some things that you should know about having an overdraft line of credit:
- Interest charges - You will potentially have to pay interest fees on any money you borrow to pay for any shortfall in your bank account. If you borrow the money for a couple of days, then the chances are that the interest rate fee should be extremely low.
- Transfer fees - Some banks may charge a small transfer fee each time you have to dip into your overdraft line of credit. Therefore, the more you tap into your overdraft line of credit, the more fees you will have to pay.
- Annual fees - Usually, there are modest annual fees that come with having an overdraft line of protection. However, if you feel you may overdraft your account, an overdraft line of credit will be worth the annual fees.
- Limits - Like most lines of credit, there will be a limit to how much you can borrow. If you try to write a check that exceeds that limit, you could have your check returned.
- It may encourage overspending - Perhaps one of the hidden potential downsides to having an overdraft line of credit is that this could encourage overspending. However, it is a good idea to never plan on spending any amount that exceeds what you have in your checking account.
Alternatives to an overdraft line of credit
If you are not interested in having an overdraft line of credit, there are a couple of alternatives that can potentially help you avoid having to deal with overdraft fees.
- Linking a credit card to your checking account - By linking your checking account to a credit card, you can protect yourself with the line of credit provided by the card issuer. However, you must be aware that you potentially will have to pay interest on that money borrowed from your credit card. In some cases, the interest fees may potentially exceed what you would have paid in overdraft fees.
- Linking your savings account to your checking account - Another alternative is to connect your checking account to your savings account. Doing this could be wise if you have a significant amount of money in your savings account.
How to get an overdraft line of credit
With an overdraft line of credit, you could potentially save yourself the headache of having to deal with returned checks and overdraft fees. Be sure to check if your bank offers an overdraft line of credit. Before you sign up for the service, be sure to check the interest rates and the transfer fees.
