Overdraft Account: Meaning, Interest Rates, Features, Types and Benefits

What is the Meaning of Overdraft?

Overdraft is a financial instrument in which the money can be withdrawn from the current or savings account, even if the account balance goes below zero. It is a type of extension of monetary limit offered by banks and that money is said to be ‘overdrawn’. An authorized overdraft limit is assigned for each customer depending on their relationship with the bank. The customer can withdraw money up to the assigned limit. Banks do charge interest rates on the money withdrawn in form of overdraft.

Interest Rate on Overdraft Facility

The interest rate on overdraft facilities offered by private and public sector banks shall vary from lender to lender and depends on the required overdraft amount, repayment tenure, and relationship with the respective bank or financial institution.

Features of an Overdraft Facility

• Overdraft Account is a facility that can be availed by maintaining any bank account (savings or current)
• The minimum age criteria are 18 years and maximum up to 65 years for bank account holders
• Several private sector banks are offering this facility for both salary and savings account holders
• The money extension is granted on the basis of the customer’s account value, repayment history, or credit score
• It is short-term credit provided by the bank that needs to be paid within the stipulated time limit, usually 12 months or even lesser
• Credit amount or overdraft attracts interest for the time of use which can be from a couple of days to a few weeks
• The repayment tenure is decided by the bank and it has its complete authority over the account and its usage
• As per the RBI regulations, current accounts and cash credit accounts are eligible for a maximum of Rs. 50,000 overdraft per week

Overdraft is a significantly useful feature provided by the banks, as it offers aid to businesses in terms of cash flow to meet their working capital expenditure. Businesses often have to wait for the payments from their clients and this results in delayed payments from their side as well. With the support of overdraft in their current accounts, businesses can sign cheques for their clients beyond the available funds in their account. This prevents cheque dishonor and maintains the reputation of the business, as well.

 

However, this facility is not offered to everyone. Only the customers having a good reputation in terms of repayment habits and good credit scores are eligible for this facility. Moreover, the overdraft facility requires a certain annual fee, and customers have the right to discontinue the service whenever they want.

What are the Pros and Cons of an Overdraft Facility?

Below mentioned are the pros and cons of an Overdraft facility:

Pros	Cons
Helps in managing the cash flow of business	Higher interest rate
Fulfills urgent cash crunch requirements	Offered only to bank account holders
Interest is paid only on the utilized amount	The sanctioned limit depends upon the applicant’s financials
Can be withdrawn at short notice	Short-term borrowing – revises every year
No collateral required by banks	Not suitable for long-term finance

Types of Overdraft Facility

Banks offer different types of overdraft accounts that have diverse eligibility criteria, some of those are mentioned below:

1. Overdraft against Salary

Salary accounts opened by the businesses for their employees are eligible for this facility. The minimum requirement to avail overdraft facility in a salary account is to have a regular monthly salary credited by the company and the company should be on the approval list of the bank.

Features:

• Banks offer overdraft up to 3 times the current salary of the customer
• The facility is offered at minimal documentation and easy-repay feature
• Customers are required to pay interest only on the utilized amount with the flexibility to repay the amount anytime without pre-closure charges
• The minimum salary limit varies from Rs. 15,000 to Rs. 25,000 according to specific banks
• This type of overdraft does not require any security or collateral
• Some banks even offer overdraft amounts of up to Rs. 4 lakh

2. Overdraft on Savings Account

Despite being a relatively new concept in the country, overdraft on saving accounts has become quite popular due to being backed by the government. All the savings accounts opened under Pradhan Mantri Jan Dhan Yojna are eligible for an overdraft of Rs. 5,000 or 4 times monthly accent balance (whichever is lower). The accounts must be satisfactorily operated for a period of 6 months to avail this facility and only one member of a family is eligible for it. The facility is granted to the earning member of the family, preferably women. The account must be linked with Aadhaar card.

The account holder must have another savings account for compliance with the RBI directive as well. Minors and KCC (Kisan Credit Card) individuals are not eligible for the scheme. There is also a renewal fee associated to the facility. However, the interest rate cannot exceed 2% above the base rate. This facility does not attract any processing fee.

Another good example of overdraft on a saving account is Citibank Suvidha Savings Account. This is a form of instant cash credit that allows you to get instant money up to 5 times of net monthly salary. The bank fixes the minimum EMI amount along with the interest rate. However, the customer can choose to increase the amount of EMI at his/her convenience at any time. This scheme does not include a prepayment fee.

3. Overdraft against Time Deposits

Time deposits, such as fixed deposits are also eligible for overdraft facilities. However, not every bank provides this facility as this is subject to bank’s policy only. SBI offers an overdraft facility against time deposits. All the customers having single/joint time deposits such as TDR/STDR and RD including NRE/NRO/RFC in any of the SBI branches are eligible for this facility. Customers can also apply through Internet banking for TDR and STDR overdrafts.

With Nil processing fee for SBI Loan Against Time Deposit, the minimum amount overdraft is kept at Rs. 25,000 whereas the maximum amount is Rs. 5 crore. The value of the overdraft cannot exceed 90% of the value of the time deposit. The interest rate is kept at 1% above the relative time deposit rate. The repayment period is scheduled as per the repayment capacity of the borrower and the amount of overdraft. Moreover, the repayment period for TDR and STDR ranges from 3 years to 5 years. SBI does not charge any processing fee and prepayment charges as well. This type of overdraft is also called a secured overdraft.

Benefits of Bank Overdraft

• Interest rate is charged only on the utilized amount
• Overdraft is a Short-term borrowing that is revised every year
• Cash flow management becomes convenient
• Helps to meet urgent cash crunch requirements
• No collateral or security is required by the bank
• Less paperwork is required for credit sanctioning

FAQs on Overdraft

Q. How is OD interest calculated?

Ans. The overdraft interest rate is calculated by the method of the average daily balance in which the overdraft interest is calculated by considering the balance of a current account at the end of each day or tenure.

Q. What is an overdraft in banking?

Ans. A bank overdraft is a credit line in which the bank offers a borrowing limit that can be withdrawn even if your bank account balance is below zero.

Q. What is the difference between a bank overdraft and a bank loan?

Ans. The main difference between bank overdraft and bank loan is that in overdraft the interest rate is paid only on the utilized amount, whereas in a bank loan you have to pay the interest rate on the whole amount.

Q. What is the interest rate on SBI overdraft?

Ans. The interest on an overdraft varies from bank to bank and depends on the applicant’s relationship with the bank and his/her financial stability.

Q. Is overdraft better than personal loan better?

Ans. Both are useful to overcome immediate cash crunch situations. A personal loan can be availed by any financial institution, however overdraft can be only availed from the bank, wherein you have your existing current or savings account. The overdraft amount depends on the balance in your current or savings account and your relationship with the bank. However, in a personal loan, the loan amount depends on your net salary if employed or turnover if self-employed.

Q. What is an overdraft facility in SBI?

Ans. SBI offers overdraft facilities against the FDs of their customers. Anyone having FDs with SBI under a single name can withdraw up to 90% of their FD amount. The money can be availed instantly online by the help of the YONO app without visiting a bank branch.

Q. How do I repay my overdraft?

Ans. You can repay your overdraft by getting a 0% money transfer card and transferring funds from your credit card to your current account. You can also repay by fixing a repayment tenure from a bank or by paying it as per your convenience in the form of EMI or lump sum amount before specified time by the lender.

Q. What happens if I can’t pay my overdraft?

Ans. If you are unable to repay the overdraft amount on time, then the bank is liable to deduct the outstanding amount plus the interest rate from your current or savings account linked with the bank.

Q. Does apply for overdraft affect credit score?

Ans. There is no major impact on your credit score if you apply for an overdraft facility. It shall impact your CIBIL score, only if you exceed the borrowed limit or if you default in repaying the amount on time.

Q. Which type of account is a bank overdraft account?

Ans. The applicant’s savings or current account, both are considered by banks before sanctioning an overdraft limit.

Q. What is the treatment of a bank overdraft on a balance sheet?

Ans. The bank overdraft on a balance sheet shall be treated as a bank overdraft double entry. It will signify an increase as a bank overdraft asset.

Q. Is a bank overdraft a current liability or a long-term liability?

Ans. As the repayment period of overdraft is 12 months, it shall be considered as a current liability. An overdraft can also be considered a short-term loan.

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