Overdraft facility is a boon for businesses who are stuck in a financial emergency and want access to immediate funds. It is a type of loan provided by banks and other NBFCs wherein the borrower can borrow up to the pre-defined permitted limit from his account. In simple terms, it is like withdrawing more money than what you have in your account and pay the interest on this extra amount. The lenders charge a fixed rate of interest over the borrowed amount.
Overdraft facility is provided by all leading banks and financial institutions.
APPLYING FOR THE OVERDRAFT FACILITY
Overdraft facility is like a loan which the borrower takes from the bank. Banks pre-entitle some customers for availing this facility whereas some customers have to get approval from the bank for availing this facility.
The overdraft facility is activated and the outstanding goes positive as soon as the customers who are pre-entitled withdraw the extra money from their account. Those customers who need to take approval prior to the withdrawal have to submit a request to the lender either through the online portal or in writing. Some banks and NBFCs may charge a processing fee of 1% to process your overdraft application.
If there is collateral attached along with the overdraft, it is considered as secured overdraft whereas an overdraft without any collateral is an unsecured one. Some of the collaterals which can be pledged against the overdrafts are a house, insurance policy, equity, fixed deposits, salary etc.
ADVANTAGES OF OVERDRAFT FACILITY
No prepayment charges: Overdraft is a great way to deal with financial emergencies. Banks moreover don’t charge any prepayment charges on overdraft.
No EMI: The borrower doesn’t always have to repay the overdraft amount in EMIs, instead they can opt for paying the cumulative sum along with the interest rate levied on it for the duration for which the overdraft facility was used.
Easy Accessibility: Businesses can use overdraft facilities to meet their short time financial needs. The overdraft facility is easily accessible and comparatively cheaper than other loan products.
FEATURES OF OVERDRAFT FACILITY
Approved Credit Limit: It is different for different borrowers. Overdraft is given over pre-defined limit.
Repayment is not done through EMIs: The borrower can repay the borrowed amount cumulatively. The borrower can either repay the amount partially or fully. The rate of interest is charged on a daily basis on the borrowed sum. However, in case the lender asks for repayment, then the borrower needs to repay.
Minimum Monthly Payment: There is no pressure of monthly repayments with overdraft but it is advisable to repay the borrowed amount as fast as possible as it could otherwise hamper your credit score.
An overdraft facility can also be availed jointly by more than one applicants.
Interest: Usually the interest is calculated on a daily basis and the interest charged on the borrowed amount. But if you default in paying the overdraft as per the schedule, then the calculated interest amount will be added to the principal amount. The interest will be charged on the new calculated principal.
WORKING OF OVERDRAFT ACCOUNT
Businessmen who have pre-approved overdraft amount can withdraw the extra funds from their account and it will automatically go into overdraft. However, the funds can only be withdrawn up to an agreed limit. In case you are not pre-entitled, then you can apply for one and as soon as the bank sanctions the overdraft, the requested amount will be received in your bank account. As one uses the overdraft facility, one is increasing the outstanding on their bank account and as the deposits are made in the bank, the outstanding decreases. The banks will charge a fixed rate of interest on the amount borrowed for the duration for which it is borrowed.
The banks allow the customers to repay the money either partially or fully. There is no need to be bounded in regular monthly instalments. As the repayment is done, the borrower again becomes eligible to withdraw the money from their bank account till the overdraft limit is reached upon.
The overdraft facility can either be secured wherein the borrowed overdraft is secured with assets like shares, bonds, home, fixed deposits, insurance policies etc or unsecured wherein no collateral is attached. The rate of interest charged on the overdraft amount is dependent upon the attached collateral.
The rate of interest is charged on a daily basis as there is no pre-set schedule of repayment. The borrower can repay the borrowed amount as per his convenience without any prior intimation. The overdraft amount reduces as you deposit funds in your bank account. And therefore the rate of interest charged also gets reduced. It is calculated on a daily basis because the ledger keeps fluctuating. The interest rate added on a daily basis reflects as cumulative in the monthly statement of the bank account.
Different types of Overdraft Collaterals
Similar to other loans, the overdraft too can be accessed with or without any collateral attachment. Some of the common collaterals which one can attach while taking the overdraft facility is:
Overdrafts against Property: When the borrower avails the overdraft against his home or other property, the bank follows the procedure of assessment, valuation and survey of the property. That is why the overdraft funds are not immediately transferred into your account. The banks usually sanction around 50-60% of property’s worth as overdraft amount. The banks also take your credit history and repayment capacity into account.
Overdrafts against Fixed Deposits: One can also put the fixed deposits (FD) and insurance policies as collateral. The borrower usually gets about 70 % of the deposit amount sanctioned as an overdraft. The borrowers also get concession in terms of rate of interest.
Overdrafts against Insurance Policy: Herein the sanctioned amount is dependent upon the surrender value of the insurance policy. Usually, the sanctioned amount is higher for an insurance policy in comparison to that of FD of the same amount.
Overdraft against Salary: Banks offer overdraft against salary as well wherein the borrower gets 50% of his in-hand salary per annum as a sanctioned overdraft. The borrower must have his salary account in the bank to avail the facility. It is also referred to as short-term loan facility.
It must be kept in mind that the overdraft facility is a great way of meeting the financial emergencies of the business. But is very important to understand that it is also a loan and shall be repaid as quickly as possible to avoid piling on the base amount with interest. The banks allow the customers to reuse the overdraft once the initial amount is deposited in the overdraft account.