Have you ever wondered how bankers decide whether or not to approve a loan? Have you ever been rejected for a loan? Are you interested in a new loan sometime in the near future? If so, you should probably know a bit about how bankers underwrite loans to decide whether to approve or deny prospective customers.
Emergency funds are an important part of anyone’s personal finances. Having quick access to funds is important in case you have an unexpected emergency like a car repair, medical issue, or damage to personal property that you need to replace faster than insurance can get you a check.
Keeping that cash in a checking account would be a terrible idea. It would be a shame to earn virtually no interest. We can surely make more money than that.
I have a file cabinet at home with bank statements dating back to when I opened my first checking account when I was sixteen years old. Nine years later, I wondered if I still need those bank statements. I also have every tax return I have filed, ever. Do I need those? I did some digging and found the answers.
In the wake of 2010 banking regulations that require customers opt-in to get their overdrafts paid, and pay overdraft fees, banks have been pushing overdraft lines of credit as an “alternative to save you money.” Let’s take a look at how good of a deal this really is for the typical bank customer.
What is an Overdraft Line of Credit?
An overdraft line of credit is essentially a credit card attached to your checking account. If you overdraw, the amount automatically is deducted from the credit account so you don’t have a real overdraft on your account. An overdraft happens when your account balance goes below zero.
The new regulations are not working well, however, as banks made $32 billion from overdraft fees in 2012. Despite that increase, many banks still push customers into a “free” alternative to overdraft fees and offer the overdraft line of credit instead.
This image shows a snapshot of my Capital One 360 checking account (formerly ING Direct). At this point in time, I had a balance of $50.72 in my account and an unused overdraft line of $1,000. While I only had $50 in my account, the bank showed that I had $1,050.72 to spend including my overdraft line of credit.
Why Overdraft Lines of Credit Are Better Than Overdrafts
I am an advocate of this type of account, but only on several conditions.
- The line of credit should be free. If you have to pay to keep it active, monthly or annually, you are getting a bad deal.
- There should be no fee to use the line. If you are charged each time your bank makes an automatic transfer from your line of credit to your checking account, you may get a better deal just paying the overdraft fee. Depending on the bank, the overdraft line of credit access fee may still be less than an actual overdraft. In that case, it is your call which you prefer.
- Most importantly: You should be able to pay it all off at once any time from a linked savings account.
Like a credit card, most overdraft lines have interest attached. If you pay it off right away, you don’t pay interest. It is more of a safety net.
I have an overdraft line of credit at Capital One 360, and it has been used once for about an hour. I had an auto-payment make a withdrawal on payday, though my paycheck had not processed yet. It was already used and paid off before I woke up! So it is a useful backup.
The Danger of an Overdraft Line of Credit
Never ever think of that line of credit as money you can spend. Like credit cards, it should be used as a backup and paid off immediately so you don’t pay interest. I have never paid credit card interest and I have never paid overdraft line of credit interest. You should not either. Don’t think of it as “spending power”, think of it as “what if”. In fact, don’t even think about it. It is better to forget it is there and never dip below the zero in any of your accounts.
Do you have an overdraft line of credit? Have you ever used it? Share your stories on the comments.
Originally published October 29, 2008. Updated May 29, 2013. Image by Adam Bruderer / flickr.
I recently refinanced my loan from 4.25% to 2.875% and lowered my loan time from 29 years to 15 years. While my monthly payment went up a bit, I am saving thousands of dollars in interest over the life of the loan. With such a low interest rate, it makes me wonder if I should try to pay off the loan early or invest my extra funds?
If you still use checks, buying new blanks is a necessary evil. Unless your bank gives you free checks, you have to spend money to be able to spend money. That seems like an archaic concept to me, who pays everything through credit cards and online bill pay. If you still do use checks, though, make sure you spend as little as possible to buy them.
Every month most households have some kind of recurring bill. For me, those are mortgage, HOA dues, phone/internet, and credit cards. Add rent, power, water, TV, and insurance and you have a standard list of monthly bills in this country. Some people’s are more, some are less. How you pay them, however, is usually up to you.
Savings accounts are a great option for keeping some cash on hand for easy access, but many people treat their savings too much like an investment or a checking account. Here are the important things to know about savings accounts, how to use them, and how to not use them.
A checking account is the most basic personal finance tool, and it is important that you understand how it works, how to use it, and how not to use it.
People often talk about why banks are a bad place to keep your money. They charge lots of fees and have notoriously bad customer service, but there are benefits and drawbacks to both big banks and local credit unions that are important to consider.