How to manage your overdraft

Some bank accounts offer qualifying customers an overdraft facility. But what is this and how does it work?
 
Jo Du Plessis, head of product and pricing for First National Bank (FNB), explains: “An overdraft facility is basically a credit/borrowing facility that is attached to your cheque account. It allows your cheque account balance to enter a negative position, up to the agreed overdraft limit. It provides you with extra funds directly from your cheque account. The overdraft facility is repaid on a monthly basis by any deposits coming into your account, such as your salary.”
 
Vanesha Palani, head of transactional, Forex and deposits at Nedbank, elaborates: “An overdraft facility is a solution that enables someone to borrow money through their cheque account. This effectively means that if the client has ran out of funds in their account, they can still access money through this facility. When the client deposits money into the bank account, the money will be used to repay the overdraft first.”
 
Do all accounts offer an overdraft facility?
 
Both Du Plessis and Palani stress that not all chequing accounts offer an overdraft facility. According to Palani, “cheque account clients can request one from the bank. There are times when a bank may automatically offer an overdraft facility, but this should be done with the client’s agreement.”
 
However, Du Plessis states: “The customer will first need to hold a qualifying cheque account. He/she will then need to apply for an overdraft facility. The bank will conduct an assessment on the customer, both from a credit risk and affordability perspective. Should the customer pass the risk assessment and affordability assessment, he will then be offered an overdraft facility.”
 
The assessments carried out by the bank are in line with the National Credit Act (NCA), highlighted Du Plessis.
 
Do you qualify for an overdraft facility?
 
In order to qualify for an overdraft facility, you first need to have an account that offers the benefit of an overdraft. Palani notes: “An overdraft facility is determined on the client’s ability to pay back the overdraft as well as their credit record history. For example, some people may qualify for R1 000, whereas someone with a higher income and good credit history could be entitled to a larger overdraft facility.”
 
Du Plessis notes that FNB has several cheque accounts that qualify for an overdraft facility. “Once a customer applies for an overdraft facility, the bank uses both internal and external data to assess the customer’s risk. Internal data is gathered from behaviour on FNB product holdings and external data is gathered from credit bureaus,” explains Du Plessis.
 
After a credit check has been completed and the customer’s risk profile has been ascertained, Du Plessis reveals that an affordability assessment is conducted. “This is based on the customer’s monthly income and expenses. This assessment determines the customer’s ability to repay the credit facility on a monthly basis. Customers who pass the risk scoring and affordability assessment are then offered the overdraft facility.”
 
Palani stresses: “There is not an absolute maximum for an overdraft facility. The amount is determined by the client circumstances such as their credit history and affordability criteria.”
 
The cost of an overdraft facility
 
The cost of an overdraft facility will be determined by the customer. Du Plessis notes that the interest rate charged is personalised to the customer’s risk profile.
 
Du Plesiss says: “FNB adopts the risk-based methodology of interest rate pricing. However, the maximum interest rate is prescribed by the NCA, and is currently at 23.2% for credit facilities.”
 
The maximum interest rate is determine by multiplying the current repo rate by 2.2 and adding 10%. [(repo*2.2)+10%]
 
According to Palani, “there are various ways to calculate the charges on an overdraft facility.” However, she emphasises that most often, interest is charged on the amount that the client is overdrawn by (i.e. how much money they have used in their overdraft facility).
 
“Some accounts may have additional fees especially if the client is overdrawn by an amount that has not been pre-authorised,” added Palani.
 
“FNB only charges a monthly service fee. There is no initiation fee. The fees are also prescribed by the NCA. Currently the monthly service fee is at R57. However at FNB, we only charge our customers the fee, if they use more than R200 of the facility, in their billing cycle,” reveals Du Plessis.
 
Tips for consumers using an overdraft facility
 
According to Du Plessis, it is advisable to “have an appropriate overdraft limit that can cater for all your transactional needs in case of an emergency. By having an insufficient limit, it could lead to returned or unpaid items.”
 
However, Palani notes that an overdraft facility should only be used in emergencies. “An overdraft should be used for emergencies and for short-term needs. Once the client has decided that the overdraft facility is their best option, it is important to understand how the fees are calculated. The client must also ensure that this amount in facility is authorised – as the cost for going over can be significant.”
 
Furthermore, Palani suggests: “As the overdraft is a short-term solution, if someone requires credit for a longer period of time, it advisable to consider a different form of credit such as a personal loan.”
 
Du Plessis notes that having an overdraft limit that is too high could tempt people to spend unnecessarily. “Plan well. Always ensure that you have money saved for emergencies and other ad-hoc expenses.”
 
It is important to keep a good credit bureau profile, according to Du Plessis, as “the better the credit risk score the better the interest rate provided to the customer.”
 
Du Plessis adds: “An overdraft provides you with a safety net directly for your cheque account. In the unlikely event that you do not have sufficient funds in your cheque account, the overdraft facility will assist with payment of debit orders and other transactions. This protects your credit record and also prevents you from incurring bank fees such as returned or unpaid item charges.”