Overdraft Protection

Reviewed: February 19, 2014
By FinanceWeb

In this day of rising bank fees and tightening budgets, overdraft protection is a smart investment. Available from most banks, the overdraft protection is a means of avoiding NSF charges and the avalanche of fees that they can trigger. Before you sign up for this service, it’s important to understand how it works.

Available Funds

There are a few ways banks provide you with overdraft protection. It may link into a savings account, a credit card or a dedicated line of credit. When a debit transaction is presented to the bank and you lack the necessary funds, the bank can pull those funds from the connected account. Your balance is automatically increased and the check or debit is paid rather than being refused.

Minimum Balance Transfers

Many banks transfer the funds in increments of $50 or even $100. If you don’t have enough in the overdraft account to cover the increment, then they will not pull the funds and you will incur and NSF charge. An example would be a $12 purchase. When the check arrives, you have only $10 in your checking account and $40 in the overdraft account. Without the ability to pull the minimum transfer, the bank will not do the transaction and the $12 check will be returned.

The Service Charge

Some banks pull the funds without incurring any transaction fees. It’s simply part of their service. Other institutions charge a small fee for making the transfer. It might be $5 or $10, but it’s certainly far more affordable than an NSF fee. Even when a fee is charged, the bank may allow you to transfer the funds without incurring any charges. If you know that money in your account is tight, you can do the transfer yourself before the check arrives to avoid the fee.

Paying Interest

Overdraft accounts that link to a credit card typically accrue interest in the same manner as any other charge. You may even have a 30-day grace period to pay the loan back without incurring any interest charges. Others, however, may start accruing interest from the moment money is transferred. This is more common on dedicated overdraft lines of credit. While you may not like the immediate interest fees that start building up, it’s still better than paying NSF fees to the bank and the company you wrote the check to. Overdraft accounts provide you with emergency protection. In a perfect world, you wouldn’t have to use the accounts at all. It should always be your goal to avoid using the account, and to repay the funds as soon as possible. However, even with interest and fees, it’s still better to tap the overdraft protection than to face a high charge for a single NSF check.