Is it better to use an overdraft or a credit card?

If an unexpected cost comes up or you’re struggling to keep up with your finances, you might be wondering whether it’s better to use your overdraft or a credit card to borrow money.

 

We’ll explain the pros and cons of using both so you can decide what’s best for you.

What's in here?

What is an overdraft and when to use one?

An overdraft is a way you can borrow money through your current account. If you make a transaction or a payment goes out that takes you below £0, you’re in your overdraft.

 

With an arranged overdraft you have a limit on the amount of money you’re able to spend once you’re overdrawn.

 

Reasons to use an overdraft include:

  • paying Direct Debits
  • paying standing orders
  • small purchases
  • unplanned expenses
  • taking out cash.

 

Overdrafts can be OK for bridging a gap, but they’re not suitable for long-term borrowing as you’ll typically be charged interest.  While it isn’t recommended to use your overdraft for everyday spending, it can be useful to know you have one to cover the gap if you're running low on cash. For example, some people may need to dip into their overdraft in the days before getting paid.

 

Learn more about when to use one in our how does an overdraft work guide.

 

Arranged and unarranged overdrafts explained

The cost of using an overdraft will depend on whether you have an arranged or unarranged overdraft. 

Arranged overdrafts

An arranged overdraft is an agreed amount of money that you can dip into to make payments or withdrawals up to an agreed limit. Your bank or lender will usually charge you interest for using an arranged overdraft. In some cases, there may be an interest-free buffer, meaning you can borrow up to an agreed amount without being charged interest.

They can be handy if you need a short term boost to tide you over for a few days.

Unarranged overdrafts

An unarranged overdraft is when you make a payment that will take your account overdrawn without having an agreed limit in place.

Banks and lenders often charge interest for this type of borrowing. Transactions made while overdrawn without an agreed overdraft in place can also often be declined. 

What is a credit card and when to use one?

A credit card comes with a credit limit that you’re able to spend. There are many different types of credit cards but each one comes with an agreed limit and a minimum payment you need to make each month to pay it back.

 

You’ll get a monthly statement that shows how much you’ve spent, your balance (the total amount you owe) and the minimum amount you need to pay back.

 

You can get credit cards specifically for balance transfers and others for purchases. Some come with 0% interest offers, which mean that if you can pay back the amount you’ve borrowed within the agreed timeframe you won’t need to pay any interest.

 

But interest rates can be high on credit cards so it’s important to keep on top of your repayments to avoid getting into debt.

Overdraft vs credit card

Each type of borrowing comes with its own advantages and disadvantages. What’s right for you will depend on how much you need to borrow and how quickly you’ll be able to pay it back.

If you find you’re struggling to make ends meet regularly, our tips on budgeting and money management may be helpful. 

Advantages of using your overdraft

  • if you don’t have an agreed overdraft with your bank, you can apply for one and sometimes even be accepted the same day
  • you can take out cash, make card payments, pay Direct Debits and standing orders
  • no fixed repayment period - you won’t need to make monthly repayments.

 

Disadvantages of using your overdraft

  • the agreed limit you can borrow is usually capped quite low so it won’t be suitable for large purchases
  • no rewards or offers
  • if it’s an unarranged overdraft, interest rates can be high
  • banks can withdraw your overdraft at any time.

Advantages of using a credit card

  • higher borrowing limits mean they can be useful for large purchases such as flights
  • added consumer protection means you have more chance of getting a refund if the company you’re purchasing from goes bust. Longer repayment periods mean you have more time to pay back the money
  • you can set up a Direct Debit to pay it back
  •  0% interest offers can be beneficial if you pay back all you owe during the offer period
  • some offer rewards.

Disadvantages of using a credit card

  • charges for missing monthly repayments
  • interest rates charged can be high
  • your credit rating is considered to assess how much money you can borrow
  • wait time for your card to arrive can be several days
  • you may be charged for withdrawing cash and overseas spending.

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