What Is An Overdraft?
An overdraft is the extension of the credit from a lending institution, preferably a bank, when an account reaches the sum of zero. This means that an individual is able to withdraw funds from his account even when he does not have funds in his account. This is a form of borrowing, however, it is restricted to a particular set of money and the borrowings cannot be unlimited.
What Is A Payday Loan?
Payday loans are short term loans i.e. they have to be paid back in a small time frame. The reason why people take payday loans is to get some money to take care of their emergency needs.
They are normally available through the different payday lenders, but nowadays, many payday loans can be availed online too. They are a boon to the people who need cash immediately on an urgent basis. However, many people use it for covering their regular expenses also. But, one should make sure to understand the costs and risks associated with payday loans before using one.
Comparison Of Overdrafts And Payday Loans
Payday Loans are extremely expensive as the interest rates on them are as high as 1700% APR. There are various reasons for the high interest rate, primarily that there are no credit checks. The borrowers are typically the ones who have a bad credit score. The payday industry is not regulated and the payday loan business had quadrupled in last 4 years.
Now you would think that the interest rates for payday loans is exorbitantly high because the industry is unregulated and that the premium lending institutions would never charge such high interest rates. You may be very wrong on this. Many high street banks indeed charge more for the unplanned overdrafts than the payday loans might charge you. The reason for this is that besides the interest rate being charges by the banks, they even charge daily fees for the unplanned overdraft facilities.
The banks offer the overdraft facilities to customers as short term solutions to their problems. However, what they leave behind is the huge price the customers have to pay after they avail the overdraft facility. Many experts have now called out the banking sector for the exorbitant prices that they have been charging their customers and duping them in the name of a solution.
The consequences of availing an unplanned overdraft facility is that people are left with a debt. Many a times, people are not aware of the available funds in their account and withdraw as such. When there are not sufficient funds in their bank account, the banks lend them in the name of overdraft facility and people withdraw it without realizing that the money is not theirs but a loan from their bank.
The important thing to note is that the people who avail or are made to avail the facility of overdraft are the people who don’t have money in their account and can least afford the extra interest to be paid with the overdraft amount. This leads to the poor families in debt which they cannot repay. The people often remain in debt indefinitely as they maintain the overdraft from month to month, spiraling up their interest.
What this leads to is the increased debts on the people who can least afford it. This is simply trapping people in highly expensive and long term cycles of persistent debt. The banks even charge higher daily fee charges for higher amounts of debt thereby increasing the debt on the already debt ridden poor families.
Whereas if we consider the payday loans, one knows the interest rates beforehand and is able to match and calculate his expenses for the following month to pay the loan amount back.
Disadvantages Of Overdrafts And Payday Loans
There is a disadvantage with both the payday loans and the overdraft. The greatest disadvantage being that the interest rates are sky high. However, with the overdraft, there is another disadvantage. If you fail to pay the debt, your debt increases further. However, if you fail to pay the minimum amount which needs to be paid back, your bank may turn your account to a collection agency. This way, your credit score gets damaged badly and you may not be able to get loans in the future, even if they are pre planned loans unlike overdraft facilities.
Alternatives To Overdraft Facilities
Instead of availing the overdraft facilities or taking a payday loan, one could plan and get a planned loan before the amount in the account gets to zero. This way, the interest on the loan would be around 10% at maximum which is far less than the interest rate on the payday loans which may reach up to 2000% and on the unplanned overdraft facilities which have higher interest rates than even the deadly payday loans. It is always better to plan for your future rather than doing things at the last moment and regretting it later.
The Bottom Line
The conclusion of the whole case would be that one always needs to prepare his budget well in advance even incorporating the emergency funds one might need if the need arises. Another important thing is to always know the funds available in your bank account even if you do not wish to withdraw it. This makes the person well aware of his realties. And lastly, if the need be, as can happen to anyone, one should only avail the benefit of the advance loans as they are affordable as compared to payday loans and the overdrafts which are 7 times as costly to payday loans. The advance and planned loans may check your credit score and sometimes even take a little time, but in the long run, they are far better as you don’t end up in a spiral of debt forever.