Personal loan

Personal overdraft vs personal loan

Different types of financial products can help you achieve a variety of personal goals, from managing your day-to-day expenses to covering the cost of a major purchase. A personal overdraft may be able to help Australians with several similar issues as a personal loan, so which may be the best choice for you?

What is a personal overdraft?

A personal overdraft is a line of credit attached to your current account that comes into effect when that account goes “in the red”. You will need to request an overdraft in advance, but once approved it can be used at any time. Spending more money than you have deposited in your trading account will activate a prepared overdraft, allowing you to access more funds up to a predefined limit. It can allow you to live a little beyond your means when necessary, giving you access to cash when you need it in the short term.

Money you borrow with an overdraft will have to be repaid like any other loan, plus interest and fees. Because a personal overdraft is an unsecured loan, it will generally carry a higher interest rate than many personal loans. You’ll only pay interest on the money you’ve accessed from your overdraft, but some lenders may charge a monthly fee for accessing an overdraft whether you use it or not (although some do charge monthly fee only when your overdraft is active) .

What is a personal loan?

A personal loan involves borrowing a sum of money to be repaid over time, plus interest and fees. Personal loans can be used to pay large expenses, or to consolidate small debts, or for other purposes (check with the lender to see if there are any restrictions).

Personal loans can be secured by the value of collateral, such as a car, the equity in a property, or money saved in a term deposit. This can help reduce lender risk, so you pay less interest, but it could mean losing the asset used as collateral if you fail to repay.

Personal loans are often structured similarly to a home loan in that you agree to repay your loan to the lender over a predefined loan term, often between 12 months and 5 years. During the term of this loan, you will repay the principal of the loan, plus interest charged at a fixed or variable rate, and any fees charged by the lender.

Should I use a personal overdraft or a personal loan?

The best choice between an overdraft and a personal loan for you will depend on your personal financial situation, as well as the goals you want to achieve.

Some Australians may find personal overdrafts useful for day-to-day cash management, especially when their bank balances are often low. Having access to overdraft can give you peace of mind that even if an unexpected expense arises, such as car repairs or medical bills, you can cover it with your bank account. Depending on your situation, this peace of mind could be worth higher fees and interest compared to a personal loan. That said, access to overdraft could leave you tempted to overspend, which could put you at risk of having to pay more interest and fees than you can comfortably afford to repay.

A personal loan may take a little longer to be approved and have access to the money than with a personal overdraft. That said, a personal loan can allow you to borrow more than the overdraft limit. This can be useful for making a large one-time purchase, such as buying a car or paying for a wedding or vacation. Because a personal loan has a fixed term and repayment schedule, you can’t easily borrow more money and “top up” a personal loan. This means you’re more likely to repay debt on time, and there’s less risk of overborrowing and getting into a debt spiral.