When you open a bank account in India with any financial institution, be it a savings account or a current account, you are welcomed with a bouquet of various financial products and services from the bank; all the way from cheque books to SMS notifications and net banking facility to a debit card, this bouquet houses it all. But one financial service we often tend to overlook is the overdraft facility, and thus very few of us actually know about it and use it on a regular basis.
If you too are in the same turmoil, this article is for you as we will be discussing everything you need to know about overdraft facilities. Without further ado, let's get started.What Is an Overdraft Facility?
One of the first and most important aspects we need to understand is the meaning of an overdraft facility. In simple terms, an overdraft facility is a form of a very short-term loan given to you by the bank, which you can further utilize to withdraw money from your account even when your balance is zero. Although traditionally, this facility was only available to current account holders, these days, most beneficiaries of savings accounts can also take advantage of this facility.
Similar to any other type of short-term loan, the bank levies an interest rate on the amount you withdraw from your account, and generally, this is fixed and predetermined. Along with this, similar to your credit card, in an overdraft facility, the bank issues an upper limit on the amount you can withdraw, such that the risk is managed and your chances of repayment are high.
Features of Overdraft Facilities
Now that you know of the basic definition of an overdraft facility mentioned below are some of its most significant features.
- The bank or financial institution predetermines the limit of the overdraft facility, and it generally tends to vary between organizations as well as between account holders.
- Depending on the upper limit set by the bank, you can withdraw or deposit money into your overdraft account at any time to maintain your account.
- Unlike a cash credit facility wherein you are required to open a separate account to avail of this service, the overdraft facility can be orchestrated in your existing account itself. (Read more about Cash Credit vs Overdraft Facility)
- Unlike a traditional loan, where prepayment is often discouraged and expensive, banks generally encourage you to prepay your overdraft balance in order to maintain the account.
- In most traditional lending instruments, the system of EMI is predominant wherein both the amount you need to repay every month along with the time of the month is pre-decided by the bank. However, in the case of an overdraft facility, there is no such requirement, and you can pay back any amount as and when you have it with you. However, there is a deadline for the payment, and missing this might attract additional charges and penalties.
- In case you have a joint account, and you have availed the overdraft facility, both the account holders are equally liable to repay the amount on time.
How Does an Overdraft Facility Work?
By now, you must be curious as to how the overdraft facility exactly works, and thus mentioned below is a brief about the same.
As mentioned in the introductory paragraph of this article, an overdraft facility can be broadly compared to a very short-term loan from the bank. Similar to the workings of a traditional loan, an overdraft facility is also extended to customers in two different variants.
- Pre-Approved Overdraft Facility
- Post-Approved Overdraft Facility
In a pre-approved overdraft facility, the bank or financial institution assesses the customer's statements and banking habits ahead of time and generates a risk profile. Based on this, if the customer meets the eligibility criteria set out by the bank, the bank extends a pre-approved overdraft limit to the customer.
On the other hand, once a customer applies for the overdraft facility, the bank will not only check all their previous banking habits but also carefully chalk out a risk profile to assess whether or not this facility should be extended. If the customer meets the criteria, the bank approves an overdraft limit and extends it to the customer; otherwise, the application is rejected.
In either case, you will receive the amount in your bank account, similar to a traditional loan.
Once the approval is extended to you, you can withdraw till the approved limit, and the balance in your account will move past zero balance. The institution will start charging you interest from the day you withdraw the amount till the day you repay it, and generally, the interest will be calculated on a reducing balance basis. Along with this, the bank will charge you no additional interest for prepayment of the overdraft.
How To Apply For an Overdraft Facility?
Now that you know in detail about an overdraft facility, you must be asking yourself, "How can I apply for one?"
There are two ways of going about this process. The first is to physically check with your branch and enquire about a pre-approved limit or otherwise apply for one, and the second is to do so online via your net banking facility.
Along with this, a little-known fact about overdraft facilities is that they too arrive in two variants, a secured and unsecured one. In a secured overdraft, you need to provide the bank with some form of collateral or asset such as a house, fixed deposit, life insurance, etc., and in an unsecured overdraft, you are not required to provide any such assets or collaterals.
If you do not hold a pre-approved overdraft facility from your bank and are now applying for one, a good way to go about it and increase your chances of getting approved will be to apply for a secured overdraft facility.
An overdraft facility can prove to be immensely beneficial, especially in times of a crisis, and thus, it is always advised that you speak to your bank and enquire about your eligibility today.