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How overdrafts work

Setting up an arranged overdraft for your current account can give you an extra level of flexibility with your money.

You can dip into it when you need to, and not have to pay for it when you’re not using it.

And as they’re an extension to your current account, they’re easy to manage and keep track of through online and mobile banking.

In this guide, we summarise how overdrafts work, and the pros and cons of using them.

What is an overdraft?

An overdraft is an arrangement with your bank that lets you spend more money than you have in your account.

If your bank balance goes below AED 0, you can keep spending money up to your overdraft limit.

You can pay it back at any point by transferring money into your account, but you’ll usually be charged interest for being overdrawn.

The pros and cons of overdrafts

Here are 4 advantages of using an overdraft:

  • you get an added layer of flexibility with your finances
  • it’s a convenient way to borrow as it’s part of your everyday current account
  • you can pay it back at any point
  • you’re not charged if you don’t use it

Here are 4 disadvantages of overdrafts, and things to watch out for:

  • you’re usually charged interest on what you borrow
  • interest rates might be higher than other forms of borrowing, such as personal loans
  • you can only borrow up to your overdraft limit, which may be fairly small compared to other loans
  • going over your arranged overdraft limit and into an unarranged overdraft can negatively affect your credit score

What is an unarranged overdraft?

An unarranged overdraft, or an unauthorised overdraft, is one that you haven’t agreed with your bank.

You’ll go into an unarranged overdraft if you:

  • withdraw money that takes your balance below AED 0 if you haven’t got an arranged overdraft; or
  • withdraw money that takes you over your arranged overdraft limit

Interest charges are usually higher for an unarranged overdraft than an arranged one, and you could negatively affect your credit score by going into it.

If you’re intending to use an overdraft, set up an arranged overdraft with your bank if you’re eligible and try to avoid going over the limit.

What’s the difference between a secured and unsecured overdraft?

Most banks offer an unsecured overdraft, and this is the most common type.

A secured overdraft, however, is an overdraft that’s secured by another asset, meaning the bank can claim this asset if you aren’t able to repay what you owe. This works in the same way as a mortgage, which is a secured loan against a property.

For HSBC secured overdrafts, your overdraft can be secured against a Term Deposit held with us.

Term Deposit secured overdrafts

A Term Deposit is a type of savings account that you can earn interest on over a fixed term.

Explore: Our savings accounts

Overdraft interest and charges

When you apply for an overdraft, you should check the interest rate that your bank will charge you for going overdrawn.

Interest is calculated as a percentage of what you’ve borrowed. So, the more you borrow through your overdraft, the higher your charges will usually be.  

It’s important to note that you’re typically charged interest for each individual day you’re overdrawn, regardless of whether you pay it back within the same month.

This is different to how a credit cards works, as you can usually avoid paying interest on your credit card if you clear your balance in full each month.

Explore: How credit cards work

How to pay off your overdraft

One of the advantages of an overdraft is the convenience of it being attached to your current account.

Paying it back is as simple as paying money into your current account.

This could be via your salary payments going into your account, transferring a lump sum from a savings or investment account, or even setting up a Direct Debit from another current account to pay it off over time.

With an HSBC overdraft, you can check your outstanding overdraft balance through online and mobile banking while you’re on the go.

Even if you can’t afford to pay it off completely, paying back at least what you can afford could reduce your interest payments as you’ll be charged on a smaller balance.

Here are a few tips for managing your spending:

  • review your spending habits and split your spending into ‘essential’ and ‘non-essential’ items
  • see if there are any non-essential things you can cut back on
  • create a budget you want to stick to, based on the above
  • monitor your spending to make sure you’re staying on track

Can you change your overdraft?

If you need to borrow more through your overdraft, you can usually apply to your bank to increase your limit.

How much you can borrow is based on your personal situation, your salary, and your credit score.

You can also apply to reduce your overdraft, which can be helpful if you’re trying to limit your spending and regain control of your finances.

Do overdrafts affect your credit score?

Using an overdraft usually affects your credit score, as the AECB factors in all forms of borrowing and debt you have when calculating your score.

However, if you use your overdraft responsibly, paying it off quickly and regularly, it could actually improve your credit score as it demonstrates your ability to manage debt.

Going into your unauthorised overdraft can negatively affect your credit score, which, along with the higher charges, is another reason to avoid doing this if you can.

You can check your credit score on the AECB website.

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