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Introduction
Overdraft is basically a credit agreement between the account holder and the bank that allows the customer to withdraw money from the account even when the balance is zero. This is a pre-approved limit that the bank offers to the customer at a fixed rate of interest.
Overdraft limit is usually availed by business entities to meet their working capital requirements. These days, banks and NBFCs are offering this feature even to regular customers, as a value added benefit. It is disbursed quicker and with minimal documentation, than personal loans or other term loans. It also allows multiple withdrawals and deposits helping business men in managing their interest outflow better.
- Overdraft is a credit facility extended to salaried individuals and other account holders to withdraw money even when the balance is zero.
- Overdraft facility is solely determined on the customer and bank relationship.
- Overdraft limits are two types - secured overdraft and unsecured overdraft.
- These limits can be offered against salary accounts, savings account, term deposits, property, insurance policies and equity holdings
- Overdraft limits are primarily availed to meet short term funds requirements.
- You are charged interest only for the utilized amount and not on the entire sanctioned amount.
- They allow multiple, flexible repayments.
About Overdraft Limit
- How does an Overdraft Limit work?
- Some important features of an Overdraft Limit
- How is the Overdraft Limit determined?
- How do I repay the amount under the Overdraft Limit?
- How do I repay the amount under the Overdraft Limits?
- What is the difference between an Overdraft Limit and a Loan?
- Different types of Overdraft Limits
How does an Overdraft Limit work?
Overdraft is basically an extension of your withdrawal limit. The bank allows you to withdraw up to an amount of money, over and above your bank balance. It charges you interest on that amount, as and when you utilize it. There are no fixed EMI payments that need to be made. You can repay whenever you come across some surplus and this will be adjusted against the principle.
Overdraft accounts protect you against check bounces and payment fails. This is primarily used by businesses to manage their working capital requirements. Individuals and salaried people can also use this facility to manage any unforeseen emergency needs.
A few kinds of Overdraft Limits popular in the market today
- Overdraft against Credit Card limit
- Overdraft against Fixed Deposits
- Overdraft against Salary Accounts
- Overdraft against Insurance Policies
- Overdraft against Invoice Receivables
- Overdraft against Property
Some important features of an Overdraft Limit
- This facility is extended by the bank to eligible customers based on their financial standing with the bank.
- Overdraft limit, interest rate and other terms and conditions will vary based on the assets offered as collateral.
- Overdraft limits work like a loan too. But you will be charged interest only when you withdraw the money and also, only on the amount you have utilized.
- Overdraft limits are of great benefit to small businesses who have cash flow needs.
- Repayment tenure differs on the amount of overdraft facility and the individual customer.
- In recent years, many banks and financial institutions have started offering this overdraft facility to salaried individuals too.
- Interest rate is similar to Personal Loan interest rates.
- No prepayment or part payment penalty charges. Make payments anytime for any amount as per your business needs.
How is the Overdraft Limit determined?
Overdraft limits are predetermined limits, based on your repayment capacity and financial standing. The limits, rate of interest and other terms and conditions are solely determined based on the relationship between the bank and the customer.
Customers are offered limits starting from Rs. 50,000 up to Rs.5 crores.
How do I repay the amount under the Overdraft Limit?
Overdraft Limits do not have a fixed EMI. You are allowed to repay any amount, any number of times. Interest is calculated on a daily reducing balance method and hence allows you to repay multiple times. This reduces your overall interest burden. You can repay your loan any time without any prepayment charges.
How do I repay the amount under the Overdraft Limits?
Overdraft Limits do not have a fixed EMI. You are allowed to repay any amount, any number of times. Interest is calculated on a daily reducing balance method and hence allows you to repay multiple times. This reduces your overall interest burden. You can repay your loan any time without any prepayment charges.
What is the difference between an Overdraft Limit and a Loan?
Overdraft Limit | Loans |
This is a Credit Facility | This is borrowed capital |
Interest is charged only on the utilized amount | Interest is charged on the entire sanctioned amount |
Fixed rate of interest calculated on the Daily Reducing Balance method | Can have both fixed or floating rate of interest |
No fixed EMI. Allows multiply repayments | Fixed EMI deducted from account every month |
Suitable for short term fund requirements | Availed for long term requirements |
Not much paperwork since limit is given based on account balance and financial standing | Lot of paperwork to process the loan |
Different types of Overdraft Limits
Overdrafts against House
Your house may be pledged with the bank as collateral for an Overdraft limit. Some banks give house loan customers overdraft limits, who are seeking funds to cover their current home loan repayments. Before the house is approved as collateral, the property is assessed, valued, and surveyed. The amount of the overdraft is usually up to 40 – 50% of the value of the property. Your credit history and repayment capacity are also taken into consideration when granting house overdraft as collateral.
Overdrafts against Fixed Deposits & Insurance Policies
It's easy to get the overdraft sanctioned against Fixed Deposits (FDs) and life insurance policies when compared to getting an overdraft sanctioned by pledging your home as collateral. You can get the overdraft limit without any hassle as the FDs are already with the bank. Overdrafts are offered to a maximum of 90% of the FD amount. If you keep FD as collateral, the interest rate charged is also less. Usually banks charge 2 percent more interest than you earn from that fixed deposit if you hold the FD as collateral.
Overdrafts against Equity
Equity is not preferred as an option for collateral but overdraft facility can be availed through it. The reason is that equity is market dependent, and therefore its value fluctuates. The overdraft limit against equity is generally lower compared to other forms of collaterals.
Overdraft against Salary
This facility is gaining popularity with salaried individuals these days. Banks offer overdraft against your salary. This usually works with salary accounts. You can get an overdraft limit of up to twice your salary but that may vary from bank to bank. They usually come as pre-approved offers to the customers based on their salary credit and monthly account usage trends.
Conclusion: An Overdraft Limit proves to be beneficial in many ways. It has multiple withdrawal facilities, flexible repayment options and attractive interest rates. They are a good option if you are looking to meet some short term financial needs or an emergency.