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Are overdrafts the worst way to borrow?

Banking regulators say that charges on overdrafts have become too complicated – and they are also one of the most expensive forms of credit.

Close up shot of coins flowing from a tap

Dipping into the overdraft on your current account is one of the simplest ways to borrow money.

Unfortunately going into the red can also be one of the most expensive and confusing ways of obtaining extra cash.

Overdraft charges under investigation

Regulators are at present investigating the current account market to ensure that customers are getting a fair deal.

One of their biggest concerns is that the ways banks now impose charges on authorised and unauthorised overdrafts is complicated and varies greatly from one institution to the next.

Until a few years ago, most current accounts had a single interest rate for authorised borrowing – up to a limit agreed in advance – and another higher rate for unauthorised overdrafts beyond this limit.

But that has changed.

Array of fees

Interest charges may still be imposed, but overdraft borrowers now also face a baffling array of fixed fees.

These can be levied every time a customer goes into the red – regardless of by how much – or every month during which the overdraft is used.

As shown in the table, charges for authorised overdrafts can be high – but unauthorised borrowing is likely to be far more expensive.

How the big banks charge for overdrafts

Overdraft charges

Account

Authorised overdraft charges

Annual cost of going £300 overdrawn for three days every month

First Direct 1st Account

Interest of 15.9% but first £250 interest-free
£0.78

Nationwide FlexAccount

Interest of 18.9% £5.59

HSBC

Interest of 19.9% £5.89

Barclays

Fee of 75p/day up to £1k, £1.50/day up to £2k or £3/day above £2k £27

Halifax Reward

£1/day up to £2k, £2/day up to £3k and £3/day beyond this £36

Santander 123 Account*

Fee of £1/day £36

Lloyds Bank Classic

£25 interest-free, £6 monthly fee plus 19.94% interest
£77.41

Natwest Select Account

£6 monthly fee plus 19.89% interest £77.89

The Competition and Markets Authority said in July that it is planning a full-scale inquiry into current accounts.

The CMA said that complexity of overdraft charges meant that customers found it hard to compare accounts and choose the best one.

HSBC introduces new overdraft charges 

HSBC has announced that in November it is introducing a new system of charges for unauthorised overdrafts, which will also apply to its subsidiary, First Direct.

At present whenever a customer goes £10 or more beyond their overdraft limit, they are charged a one-off £25 fee. This is being changed to £5 a day, and capped at £80 a month.

The current monthly cap is £150.

Account holders will be sent a text message whenever they go over their overdraft limit: they will then have until 11.45pm that day to pay money into their accounts and avoid the charges.

Credit card alternative

Nerys Lewis, head of money at Confused.com, says that too often, bank customers are caught out by overdraft charges.

"With more and more accounts trying to simplify charges by charging a daily overdraft fee whatever your balance, you can end up paying more than if they charged an annual interest rate," she says.

Rates on credit cards and personal loans can be much lower.

Lewis adds that anyone who regularly goes into the red could consider taking out a low-interest credit card which allows cash transfers to a current account.

"Money-transfer cards offering up to 31 months interest free are available," she says, such as the MBNA Platinum card.

"And while there is a 4% fee, over time this can result in substantial savings. 

"If you end up in your overdraft for the final five days of every month, and your account charges you £1 a day you'll end up paying £60 a year, which would be the same cost as moving £1,500 from a money-transfer credit card."

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Chris Torney

Chris Torney

Chris is the former personal finance editor at the Daily Express. He's been a journalist for more than 10 years and contributes to a wide range of finance and business titles.Read more from Chris



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