How does an overdraft compare on cost to a loan?

2 min read

Interest on the dipOnly when overdrawn

Cheap short-termCostly if constant

Fees tooArrangement/usage

Loan for steady needCheaper if planned

How an overdraft costs money

An overdraft lets your account go below zero up to a limit, charging interest only on the amount and the days you are actually overdrawn, usually plus an arrangement or renewal fee. Dip in for a few days and pay it back and the cost is small. This makes an overdraft well suited to short, unpredictable cash-flow gaps — the classic 'few days before the big invoice lands' situation.

Where it gets expensive

The problem is using an overdraft as permanent working capital. If you are near the limit every day, you are effectively borrowing the full amount continuously, and overdraft rates are typically higher than term-loan rates — so a constantly-used overdraft is an expensive way to hold a standing debt. It is a short-term tool being used for a long-term need, and the cost shows it. See facility vs term loan.

Choosing between them

Match the product to the need. For short, occasional dips, an overdraft or a revolving facility is efficient because you only pay for use. For a steady, planned, longer-term requirement — a purchase, a defined gap you will repay over months — a term loan at a lower rate is usually cheaper. If you are living in your overdraft, converting the standing portion to a loan often reduces the cost. Compare on the true cost calculator.

To price a term loan or facility against your overdraft, apply.

Frequently asked questions

Is an overdraft cheaper than a loan?

For short, occasional use, yes — you only pay interest on the days and amount you are overdrawn, so a brief dip costs little. For continuous use it is usually dearer, because overdraft rates tend to be higher than term-loan rates and you are effectively holding a standing debt. Match the tool to the need: overdraft for short gaps, loan for steady requirements.

Should I convert a constantly-used overdraft to a loan?

Often, yes. If you are near your overdraft limit most of the time, you are carrying a permanent debt at an overdraft rate that is typically higher than a term loan. Converting the standing portion into a loan at a lower rate, with a clear repayment schedule, usually reduces the cost and brings discipline to clearing it. Compare the two on total cost first.