Business Debtline – June 2017

Overdrafts – The Good and The Bad
Overdrafts are a great way of having a short term injection of credit, and as you will already have a working relationship with your bank they will be more likely to provide you with an overdraft as a form of credit, and quickly. Overdrafts can therefore be a lifeline to people and businesses to oversee a crisis or a short term cash problem. However, in Advice NI’s experience of helping clients in debt, an overdraft can also be an extremely hard form of debt to pay off for most.
 
If you have a sudden emergency, an authorised overdraft can be convenient especially if you only need it for a short period as the costs can be low. Overdrafts were originally meant as a short term solution to a consumer needing credit.
 
However, over time overdrafts have changed into a permanent debt for too many people and are an increasing problem. A recent survey by Alliance Trust Savings in June 2017 showed an increase in the number of people who use a monthly overdraft, particularly in younger people aged under 35. Authorised overdrafts usually have high charges (unless you are still a student) and unauthorised overdrafts are worse again, with extortionate charges as you can be charged per transaction once over the overdraft limit. This is why overdrafts can lead to debt issues and can feel impossible to escape from.
 
An overdraft is a debt
Most people don’t think of an overdraft as a “debt” until they go over their overdraft limit.  You don’t have to pay any money directly to reduce the balance each month like you do a loan or a credit card, and banks describe the amount you are under your limit as “funds available”. These factors mislead many into thinking it is not a debt, using an overdraft becomes a habit and most only worry about it when they exceed their limit. At that point some may find that their bank increases their limit.
 
An overdraft is a debt and the bank can demand this money to be repaid immediately. Other issues can arise, for example, if applying for a mortgage or other credit, your overdraft is still treated as a debt and could affect your chances of being approved. Also, if you continually maximise your overdraft, you don’t have access to it for a sudden emergency, you could be forced to seek other forms of credit or miss payments to other debts which could affect your credit rating.
 
Why an overdraft is so hard to clear
Other forms of credits such as loans are fixed – you must pay a set amount per month and the debt decreases. Credit cards are unfixed but generally you pay a monthly amount and the debt can decrease but they require more restraint as you can use the card again.
 
However, you can’t stop using your current accounts, and there isn’t an easy way of automatically reducing your overdraft by setting up a regular payment. Instead, you have to contact your bank and request them to reduce the limit. This can be laborious, time consuming and slow. It can also be difficult to plan an overdraft reduction with the constant transactions on your current account – with income going in such as pay once a month, benefits on different dates, and spending going out like rent/mortgage, direct debits and unplanned payments such as contactless and debit card payments. For a business, it is near impossible due to the volume of transactions. Therefore it can be extremely difficult to reduce or clear an overdraft if you are still using the account.
 
How can I clear my overdraft?
The easiest way to clear your overdraft is by reducing it gradually.  Write out an accurate budget, to help you may keep a spending diary for a number of weeks. Then list all of your household income and take away all of your expenditure - don’t forget to take into account the overdraft charges. This will give you an idea where you can begin to reduce your spending on non-essentials items. By reducing spending it will free up monies to go towards reducing your overdraft.
 
You may want to implement some saving strategies like:
  • “No spend” months: no new clothes, no online spending, no buying coffee, no eating out or takeaways - eat up the contents of the freezer and so on.
  • Declutter and sell items at a car boot sale or online to raise some cash to reduce the balance immediately.
  • Do a financial spring clean by checking all your outgoings to be sure you are not overpaying for anything, cancel any unused direct debts/standing orders items, use comparison sites for utility bills, TV subscriptions and insurances to ensure you are getting the best deal. Be careful as some agreements may have cancellation fees however paying these can still mean you can make bigger savings in the long term.
  • The most practical solution would be to get a new bank account. Remember, if you are offered another overdraft on a new account, say no. It is better to remain in credit on your new account rather than going into overdraft debt again which will only exacerbate your situation. Switch all outgoings to the new account. Then set up a fixed direct debit amount to repay the old overdraft, just make sure you pay more in than the bank charges.
  • Tackle your other debts first, if you have tried to reduce an overdraft to no avail, or you don’t want to change bank accounts, you could start dealing with any other debts you have. If you are able to pay off another debt, your general financial situation will improve leaving more money to clear your overdraft in the future.
  • Seek independent free advice from Advice NI or another advice providing charity, the advisers will assess your financial situation and help you with budgeting, maximising income, looking at solutions and negotiation with creditors. 
If you are a business owner or a sole trader and need debt advice then you can contact Business Debtline provided by Advice NI in partnership with the Money Advice Trust on 0800 0838 018.
 
If you have personal debt issues and need further advice you can contact Advice NI’s Money and Debt Service in partnership with Trussell Trust on 0808 801 0665.