Overdrafts explained: arranged, unarranged and the real cost
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Quick answer: An overdraft lets you spend more than your balance up to an agreed limit. Most arranged overdrafts now charge a single interest rate of around 40% EAR, which makes them an expensive way to borrow for more than a few days.
Since 2020 the FCA has forced banks to scrap confusing daily fees and charge a single, advertised interest rate on overdrafts. That made the true cost clearer — and showed how expensive overdrafts really are compared with other borrowing.
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Read the full banking & current accounts guide →Primary source: www.moneyhelper.org.uk/en/everyday-money/credit/overdrafts
Arranged vs unarranged
An arranged overdraft is a limit your bank agrees in advance. An unarranged overdraft is when you spend beyond that limit or have no overdraft agreed at all. FCA rules mean banks can no longer charge more for unarranged use than arranged use, and most payments that would take you over are now simply declined.
Because the rate is expressed as an EAR (Equivalent Annual Rate), a 40% EAR overdraft costs roughly £4 per £100 over three months — cheap for a few days, costly if you live in it permanently.
Cheaper ways to borrow short-term
If you regularly use your overdraft, a 0% purchase or money-transfer credit card, a low-rate personal loan, or a credit union loan is usually far cheaper. Some banks offer a fee-free buffer (for example the first £x interest-free).
If an overdraft has become a permanent debt, free advice from StepChange or National Debtline can help you build a plan to clear it.
Common questions
Does using an overdraft affect my credit score?
Using an arranged overdraft occasionally is normal and unlikely to harm your score. Being constantly at your limit, or using an unarranged overdraft, can be a red flag to lenders.
Is an overdraft cheaper than a payday loan?
Usually yes, but both are expensive. For planned borrowing a 0% card or personal loan is almost always cheaper than either.