As the last day of the working month, today could well be the time when workers get paid their monthly salary. Some may be breathing a sigh of relief as their pay packet hits their current account, but those customers who were in their overdraft may find that they're missing some of their hard-earned cash as it becomes wasted on excessive overdraft charges.
Our latest analysis reveals widespread variation in how banks charge their customers for dipping into the red, with even arranged overdrafts likely to add up to a significant amount in fees. So why pay too much? The upcoming overdraft changes due this week from Lloyds Bank may be the perfect prompt to check how you use your overdraft facility, and whether the changes could make you better or worse off.
Let's start by looking at what the changes actually are. As it stands, Lloyds Bank charges a £6 monthly usage fee for holding an arranged overdraft, as well as an interest rate of 19.89% EAR. From Thursday, the whole system will be revamped and borrowers will instead be charged 1p for every £7 borrowed, with the fee added at the end of the day rather than at the end of the month. (It's also worth noting that they're removing all fees for unarranged overdrafts, but for the purposes of this article, we're focusing on arranged lending.)
The table below shows what the changes could mean for a typical borrower, as well as a few alternatives if you're not particularly happy with the costs involved:
|Lloyds Bank - Classic Current Account customers||£500 overdraft for 15 days||£500 overdraft for 7 days|
|Before the overdraft change||Costs £9.88
(£2.83 worse off)
|From 2nd November||Costs £10.74
(£0.86 worse off)
|Best Buy alternatives:||£500 overdraft for 15 days||£500 overdraft for 7 days|
|first direct - 1st Current Account||Costs £1.63 (first £250 interest-free, then charged at 15.9% EAR)||Costs £0.76 (first £250 interest-free, then charged at 15.9% EAR)|
|M&S Bank - M&S Current Account||Costs £2.62 (first £100 interest-free, then charged at 15.9% EAR)||Costs £1.22 (first £100 interest-free, then charged at 15.9% EAR)|
|Post Office Money® - Standard Account||Costs £3.00 (charged at 14.6% EAR)||Costs £1.40 (charged at 14.6% EAR)|
"Debt can escalate into a stressful issue for consumers relying on their overdraft facility to make ends meet," said Rachel Springall, finance expert at moneyfacts.co.uk. "If they use it too often or dip into the red by a significant amount, it's a convenience that will likely cost them dearly over time. Some overdrafts can charge borrowers daily fees and these can add up to a hefty sum over just a few weeks."
Rachel points out that a much more cost-effective overdraft can be found with first direct, as the table above highlights, with a £250 interest-free facility and a flat rate of 15.9% EAR charged thereafter. Charging simple interest makes it much easier to compare accounts and it's usually cheaper too, yet more and more providers are changing the way they charge for their overdraft, including Lloyds Bank in just a few days' time – and while some could benefit, others could lose out.
"A Lloyds Bank Classic Current Account customer who borrows £500 over 7 days will be better off from November by paying a £4.98 fee, whereas they would have previously been charged a £6 monthly usage fee plus £1.81 in interest (19.89% EAR)," said Rachel. "However, those who borrow £500 over 15 days will be £0.86 worse off than before," which means it's vital to make sure you've got the right overdraft facility for your needs.
To avoid paying the price of dipping into the red, it's essential to keep an eye on your current account balance and upcoming payments. That way, if it looks as though you could go overdrawn in a few days, you've got plenty of time to move money across from a savings account to cover the amount.
Most banks offer mobile apps and some will offer free text alerts to help customers manage their outgoings on the go, and if you need to get into the habit of checking your account balance more frequently between paydays, this kind of service can prove vital.
However, if you're really struggling to manage your overdraft, it might be time to consider moving to a basic bank account or even using a prepaid card. "A basic bank account such as Virgin Money's Essential Current Account doesn't offer an overdraft facility but it does offer perks such as use of its lounges and discounts," said Rachel. "A prepaid card like Pockit can help borrowers manage their expenditure, as customers can load their spending money and know that it's the limit for that month and that they can't borrow more."
Then there's the possibility of using a credit card, which can be a much more cost-effective way of managing between paydays or if expensive emergencies arise, as long as it's used wisely. Rachel points out that, "while borrowers have an abundance of interest-free credit card deals to choose from these days, it's important for them to remember that tackling debts is just as important as spreading the cost. Borrowers could be lulled into a false sense of security by picking a long interest-free credit card and not paying more than the minimum repayment each month, only to still be left with debt at the end of the interest-free term.
"Above all, it's imperative for consumers to check how they are using their overdraft to see whether it's still the most cost-effective choice for them. It's also worthwhile running a credit report to check your score to see if you are borrowing sensibly and to learn more about your financial footprint."
Compare overdraft accounts to see if you can find the deal that's right for you
Information is correct as of the date of publication (shown at the top of this article). Any products featured may be withdrawn by their provider or changed at any time.