Overdrafts vs Credit Cards – Which is Right for you?

If you are in need of some additional finance, then most people will initially look at an overdraft or credit card. However, you should make sure that you know the advantages and disadvantages before deciding which is best for you.

Overdrafts

An overdraft is linked directly to your bank account and allows you to spend more money than is currently in the account – providing it’s paid off and your account re-enters a positive balance in the near future (usually the next month).

There are two types of overdrafts – arranged and unarranged. An arranged overdraft is where a limit is agreed with the bank beforehand whereas an unarranged overdraft is when there has not been a predetermined limit however the user still falls into a negative balance.

The main benefit of an overdraft is that the credit is available for you automatically as soon as you require it. For example, if you have an emergency direct debit bill charged to your bank account which does not have enough to cover the costs, the overdraft will automatically cover this expense.

Credit Cards

A credit card is similar to your debit card in the sense that you have a physical card in which you can make payments on, however the big difference is that you are paying for something using the banks credit rather than funds in your account. Therefore, this will need to be paid back. You usually have a small amount of time to make payment without accruing any interest, but all banks are different so please check the terms with your provider. Interest can be costly on a credit card, so it is advised to settle the outstanding balance as soon as possible.

One of the benefits of credit cards compared to overdrafts is that the credit limit tends to be higher. Typically, overdrafts tend to go up to £1,000 however a credit card can be anything up to and over £10,000 – although how much your credit limit is will vary depending on your credit score and other qualifying criteria.

Additionally, with a credit card, there doesn’t tend to be an end limit to how long you have to pay it back and settle your credit card balance – providing you’re meeting the minimum repayments set each month. However, as with overdrafts, taking longer to settle your balance will mean you end up paying more back and is therefore not advised. Credit cards are designed for short term borrowing and should only really be used in this way.

Lastly, if you opt for a credit card with a specific purchase in mind, look out for interest free offers which can be quite extensive such as 24 months. Although you will not know until after you apply, this could be a great way of spreading the cost of your purchase over a longer amount of time whilst still paying the same amount.

Conclusion

Deciding the best form of credit can be difficult and it is dependent on each individual’s circumstances. You should only use these types of credit if it is an emergency and you are in a comfortable financial position to pay it back.

Remember, if an overdraft or credit card isn’t right for you, then alternative forms of finance are available such as payday loans from reputable lenders and in many case these loans can work out as a cheaper alternative.

This article does not necessarily reflect the opinions of the editors or management of EconoTimes