Should You Have Overdraft Protection?

Today’s Money Monday article is by friend Jill Russo Foster of Cash, Credit and Your Finances.

Now that these new rules are in effect, you have probably been bombarded with overdraft protection offers.

Why is your bank sending these offers now? Because overdraft protection will allow you to overdraw your checking account when using your debit card. If you don’t have overdraft protection, and a transaction will overdraw your account, your transaction will be declined at the register.

So, should you have overdraft protection?  I can’t answer that question for you.  It depends on your lifestyle and how your particular bank works. I personally do like overdraft protection, and I do have it with my checking account.

I write and talk about finances every day, so why would I need overdraft protection? Because mistakes happen. I don’t keep a lot of money in my checking account because my checking account is not an investment or savings account. That leaves me vulnerable to overdrafts. Sometimes a check doesn’t clear as quickly as I think it will, or I forget about a recurring annual subscription fee. Sometimes my husband and I will both make a purchase just before payday, each thinking we have enough in the account to cover our little purchase. It happens to the best of us. But, overdrafts are expensive and I don’t feel they’re worth the risk.

There are different types of overdraft protection. I’m going to list some types below. Which does your bank offer?

Overdraft Line of Credit. This is how overdraft protection works at my bank. First, it doesn’t cost me anything unless I use it. It’s like a micro-loan that’s automatically paid off with my next deposit. I only pay interest on the amount I use for a very short time period. So in the rare occasion I do use it, it costs me pennies and saves me dollars. This is not a linked account (see below). I can’t use my overdraft line of credit for other credit needs. You should know that your bank may charge you a monthly or yearly fee for your overdraft line of credit account, and there may be a per transaction fee as well. Check with your bank for details.

Linked Credit Card Account. Some overdraft protection accounts are tied to a bank credit card. That means that you are required to have that credit card (possibly with an annual fee and terms that are not favorable.) They often transfer amounts in $100 increments, even if you overdraw by a few dollars. And, you’ll have to make payments, which means you may be paying a higher rate of interest for a longer period of time than you would with a line of credit account.

Linked Savings Account. This type of overdraft protection pulls from your savings account. As with the overdraft line of credit account there may be fees associated with each overdraft transfer, but you won’t have to pay interest.

Linked Line of Credit Account. This is similar to the overdraft line of credit, except this pulls from your personal line of credit. If you’re already using your line of credit for a personal loan, you should be careful about using it as a linked account. If you overdraw more than your available credit, it will be like not having protection at all.

Bounce Protection. It may also be called “courtesy pay” or “bounced-check protection.” Be warned: this is not a true overdraft protection plan. You have no contract with the bank, and they can decide not to cover your overdrafts, leaving you open to hundreds of dollars in fees.

Do the research with your bank and make an informed choice that works for you.  Remember to find out about all the fees and fine print before you decide.

Jill Russo Foster is a mortgage broker,  speaker and author of Cash, Credit and Your Finances: The Teen Years who has spent her career educating people on scams and encouraging her audience to manage their money and live within their means. Visit her site Cash, Credit and Your Finances: The Teen Years for more tips and tricks on managing your finances.