Understanding overdrafts

Overdraft

25 Oct 2018 | 3 min. read

An overdraft lets you withdraw cash from your current account up to a certain limit. Find out how it works and how it compares to other forms of credit.

Key takeaways

  • An overdraft (OD) is a short-term standby credit facility.
  • You can use it to withdraw money from your current account up to the OD limit.
  • Check with your bank on the fees and charges for using an overdraft, such as interest charges.
  • If your account goes into excess, you should repay the amount immediately or you may be penalised.

What is an overdraft?

An overdraft (OD) is a standby credit facility. It allows you to write cheques or withdraw cash from your current account up to the OD limit.

It is a short-term facility (usually up to 12 months), renewable on a yearly basis and repayable on demand by the bank at any time.

Any amount you repay into the OD account can be withdrawn again as long as the total outstanding amount is within the OD limit. This is why it is also called a “revolving credit facility”.

Types of overdraft facilities

An overdraft facility can be granted on a secured or unsecured basis.

Secured overdraft facility lets you pledge an asset to the bank as security. Assets could be bank deposits, property, or shares.

If you can't repay your debt, the bank has the right to sell your pledged assets to recover what you owe. If the proceeds are not enough, you are still liable for the difference.

Unsecured overdraft facility doesn’t require you to pledge your assets. If you earn at least $30,000 a year, your bank can grant an unsecured credit of up to four times your monthly income. This includes the combined credit on your credit cards and other unsecured credit facilities.

If your account goes into excess

When you issue a cheque that causes the outstanding amount in your account to exceed the OD limit, your account will go into "excess". If this happens, you need to repay the excess amount immediately.

If you don’t repay the excess immediately, the bank may:

  • Stop the overdraft facility
  • Demand that you repay the full outstanding amount within a given time
  • Recall your overdraft facility — your credit record will be adversely affected if this happens

Joint borrowers

As a joint applicant of an overdraft facility, you and your joint applicant(s) are equally liable for the outstanding debt, regardless of who used the facility.

Fees and charges

Interest charges

Interest is:

  • Charged on the amount of OD used
  • Calculated on a daily basis
  • Debited from the account at month-end

If interest is not paid, it will be accumulated as part of the principal and rolled over to the next month.

Cheque book charge

Some banks charge for the chequebooks issued to you.

Returned cheque charge

If your account goes into "excess", the bank can return your cheque because you have insufficient funds in your account.

A "returned cheque charge" will be levied on you. The bank will charge penalty interest on the amount of the excess.

Penalty interest

This is the interest rate that is charged on the excess amount. It is usually higher than the agreed rate.

Overdraft versus other forms of credit

An overdraft facility, being a revolving short-term credit facility, is not subject to any repayment as long as the amount used is within the credit limit. The overdraft facility however is repayable on demand by the bank at any time.

Overdraft Term loan

Loan tenure

Short-term revolving

Fixed term

Interest rate

Usually higher than term loan

Usually lower than overdraft

Interest rate type

Variable, pegged to Prime

Can be fixed or variable

Can it be recalled on demand?

Yes

No

Can the loan be partially drawn after repaying an amount?

Yes

No

Is it a regular repayment?

No

Yes

Can you repay at anytime?

Yes

No

Last updated on 02 Nov 2018