What is Overdraft Protection?

A bank account is a useful place to store money. It’s insured by the Federal Deposit Insurance Corp. (FDIC), and you can use your debit card to make purchases. Debit cards make buying goods and services more convenient, but people who don’t check their bank accounts enough may overdraw their accounts. This can happen when you have $50 in your bank account and make a $100 purchase with your debit card. Overdraft protection usually kicks in during these moments. Every consumer should know what overdraft protection entails and how it affects their bank accounts.

How Does Overdraft Protection Work?

Overdraft protection is a feature some banks offer to minimize your overdraft fees. Instead of charging a fee the moment you overdraw your balance, some banks give you a buffer. You may have a $50 to $200 buffer, depending on the bank, that acts as your overdraft protection.

If you have $100 in overdraft protection, you won’t incur overdraft fees until your bank account gets overdrawn by $100.01 or more. This arrangement also makes it possible to continue using your debit card if you have insufficient funds. But that comes with a limit, and you will eventually have to repay the balance.

Opting In

Most banks require that you opt into overdraft protection. Online banks and in-person financial institutions offer this service, but you may have to speak with a representative to set up overdraft protection.

Linked Accounts

Banks use linked accounts to protect your account from overdraft fees. These are the two common ways banks enable overdraft protection.

Linked Savings Account

Some banks let consumers link their savings accounts to their checking accounts. This way, if the balance on the checking account is about to become negative, funds get pulled from the savings account to the checking account. This transfer ensures your checking account doesn’t become negative as long as you have enough money in your savings account to cover the purchase. You may get charged a fee for this service, but overdraft fees are usually more expensive.

Line of Credit

You can also link a line of credit to your bank account to cover expenses. If you quickly pay off the line of credit, you can end up paying less than if you got stuck with an overdraft fee. A line of credit acts as an extra reserve that you don’t have to tap into, but it can keep your checking account positive.

Overdraft Limit

Banks set overdraft limits to control how much you can overdraw before your purchases get rejected. Your overdraft limit depends on your creditworthiness and account history.

Fees and Interest

Overdraft protection can keep you safe from overdraft fees initially, but you may have to pay fees if you continue to spend money without paying it back. You can get charged a $30 to $35 overdraft fee if your account becomes negative, and you will also owe interest on a credit line if you use it for overdraft protection. You should review your bank’s fees and interest on overdrawn accounts to understand the playing field.

Repayment

Overdraft protection only provides a short-term solution to overspending. You must eventually pay back the debt. Some banks automatically take funds from your paycheck to reduce the overdrawn account’s negative balance. Every debt becomes due.

Monitoring Your Account

Consumers should frequently look at their account balances and spending habits to avoid future overdraws. You don’t want to get overconfident because of an overdraft protection policy. Make sure you only spend as much money as you can repay and avoid getting deep into debt. The fees and interest can add up if you are not careful.

Example of Overdraft Protection

If you have a $25 balance in your checking account and make a $50 purchase, the purchase will still go through, but it will leave you with a negative $25 balance. Some banks won’t charge an overdraft fee if you have a negative $25 balance and give you a small buffer. Other banks will take $25 from your savings account or a line of credit and use that to replenish your negative checking account balance. How overdraft protection gets implemented depends on the bank.

Things to Consider with Overdraft Protection 

Before you opt into overdraft protection, you should understand the full scope of the agreement. Here are some factors to consider before getting started.

Are There Fees Associated with Using Overdraft Protection?

Some banks charge fees for their overdraft protection programs. It’s possible to get dinged with a $30 to $35 fee the moment your balance becomes negative. Other banks give you a buffer before fees rack up.

Can I Link More Than One Account for Overdraft Protection?

You can link more than one account for overdraft protection, but you should be careful about doing this. It can help to link an extra savings account, but you don’t want a bad spending habit to deplete your emergency savings. Overdraft protection can enable misspending and reduce your retirement funds.

How Do I Opt In or Opt Out of Overdraft Protection Services?

You should reach out to a representative at your bank to opt into or out of overdraft protection services.

Is Overdraft Protection Applicable to All Types of Transactions?

Overdraft protection is applicable to all types of transactions. Any purchase that would result in a negative balance triggers overdraft protection.

Advantages of Overdraft Protection

Overdraft protection gives bank customers several advantages:

• You can still make purchases even if you do not have enough funds in your account.
• You can link a savings account or line of credit to avoid overdraft fees.
• Some banks give you a buffer, which adds further protection.
• The purchase goes on like normal, which can help you maintain a good relationship with the recipient.

Disadvantages of Overdraft Protection

• Overdraft protection can result in extra fees, even if you never overdraw your account.
• Overdraft protection can encourage overspending and put you deeper into debt.
• It’s still possible to receive an overdraft fee or get your transaction declined.
• Banks can remove your overdraft protection if you do not address a negative balance.

Protect Your Bank Accounts

Overdraft protection can keep your bank account safe, allow purchases to go through, and minimize your fees. But relying too much on overdraft protection can cultivate poor spending habits and put you deeper into debt. Overdraft protection is one of many ways to protect your wealth.

Frequently Asked Questions