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The difference between overdrafts and loans

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Transcript

An overdraft is a variable amount of borrowing agreed with your bank up to a set limit. A loan is a fixed amount of borrowing over a set term with regular repayments.

Overdrafts allow you to borrow money as and when you need it up to a limit agreed between you and the bank. This can be great for short term financial requirements, such as operating expenses, or equipment purchases, where you can repay the money quickly. You’ll only pay interest on the amount you borrow.

However—interest rates are often higher with overdrafts, and the bank has the right to change your overdraft limit, or request that the overdraft is paid back at any time.

Loans have fixed terms and repayment schedules. This can help you plan expenditure and cash flow but makes them less flexible than an overdraft. You can often borrow larger amounts with loans, making them better for long term high value purchases. But if you don’t pay back a loan or miss a payment, you could damage your credit rating or get into further financial trouble.

In summary—overdrafts are good for short-term operating expenses and loans are better for longer term higher value purchases.

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