Overdrafts Facility - When and How Should You Use

One of the first chances you get to borrow money from your bank might be in the form of an overdraft facility. This can be a very useful method to see you through a short term need for immediate cash. When your credit score is acceptable, your bank may well grant an 'automatic overdraft facility', to be used in conjunction with your current or checking account. This allows you to borrow up to the 'overdraft limit' without needing to apply to the bank for permission. You will, of course, pay interest on any amounts borrowed, but this can be a very convenient method of taking care of unexpected bills or expenses. The real value of this facility can be lost, if it is regularly used every month and simply becomes part of the budget. This can then lead to real problems when the unexpected happens and there is no cash available. Used correctly, the overdraft can be an extremely useful part of you financial planning.

An overdraft is usually a short-term arrangement of loans to cover any temporary shortfalls in the cash resources. The interest is chargeable only on the amounts drawn against the allowed limit. As the borrowing firm has to allocate its resources for regular monitoring of the interest rate, and renegotiating of the borrowing terms, overdrafts are sparingly drawn, only when required. In addition, the overdraft facility can be cancelled at any time. These factors bring out the essential short-term nature of this mode of financing. It may be prudent to include the overdraft in calculations. Similarly, if an overdraft is callable on demand, it is definitely a part of the Current Ratio, and subject to other details, it may well form a part of the Quick Ratio.