Overdraft protection is a service that helps prevent transactions from being declined due to insufficient funds. If you make a purchase or withdrawal that exceeds your account balance, overdraft protection automatically transfers funds from a linked account. Overdraft protection is optional, so you don’t have to enroll if you don't want to or don’t have an account to link.
What is an overdraft?
An overdraft occurs when a transaction exceeds the available balance in your bank account. Some banks decline overdrafts transactions, while others may pay them and charge an overdraft fee or transfer funds from you linked account through overdraft protection.
How does overdraft protection work?
Overdraft protection is designed to automatically transfer funds from a linked account to cover transactions that would otherwise exceed your available balance. This way, if you withdraw more money than you currently have in your checking account, the transaction may still clear.
There are a few common methods of overdraft protection:
- Linked bank accounts: Funds will be automatically transferred from a linked bank account, such as a savings account, into your checking account if you overdraw your checking account.
- Linked credit card or line of credit: Some banks allow you to link your checking account to your credit card or a line of credit for overdraft protection.
However, where you bank and what type of account you link can affect how overdraft protection works in a few ways:
- Fees: Transfers from a linked savings account or credit card may incur a fee. Fees are less common when overdraft protection is linked to a secondary deposit account.
- Interest: The overdraft amount is treated like a cash advance when you link your credit card, so interest starts accruing immediately.
- Limits: Many banks set a maximum dollar amount they'll transfer in a single transaction. Others might also apply daily or monthly transfer limits.
Overdraft protection is also limited by your available balance, if you link a checking or savings account, or your available credit, if you link a credit card or line of credit.
Overdraft protection in action
Exactly how overdraft protection works varies by bank and the type of account you link, but the basic process is similar. For example, let's say you have the following account details:
- Current account balance: $100
- Overdraft limit: $500
- Potential purchase: $260
In this scenario, you're attempting to make a purchase of $260 when you only have $100 in available funds. Because the purchase amount is below the overdraft limit, the transaction will typically go through. Your bank would transfer funds from your linked account to cover the shortfall and may charge a fee, depending on the bank's policies.
What is an overdraft fee?
Overdraft fees are charges banks may apply when a transaction is paid even though you don't have enough funds in your account. For debit card and ATM transactions, banks can only charge these fees if you opt in to overdraft protection. However, by not opting-in the bank may not allow you to overdraw your account and not authorize the transaction. Other types of transactions, such as checks or automatic payments, may still incur overdraft fees depending on your bank.
If you don't have overdraft protection and continue to make purchases, checks or automatic payments that exceed your available balance may result in multiple overdraft fees, depending on your bank’s policies.
Ways to avoid overdraft fees
If your checking account is subject to overdraft fees, here are a few easy ways to avoid them.
Pay close attention to your accounts: Regularly review your balances, activity and statements so you know how much you have in your accounts.
Set up automated balance alerts: If available, set up email or text alerts through your bank to notify you if your account drops below a certain level.
Change payment due dates if possible: If you might not have enough for a payment, contact billers to see if it’s possible to adjust the payment due date.
Choose a bank with a low- or no-fee overdraft policy: Before opening an account, review the bank's disclosure documents to see what overdraft charges, if any, may apply.
Build a buffer: An extra $100 in your checking account gives you some protection against small overdrafts.
Consider overdraft protection: Opting in may reduce overdraft fees on debit card purchases and ATM withdrawals.
Do you need overdraft protection?
Overdraft protection can be a valuable financial tool, but it’s not right for everyone. To determine if overdraft protection works for you, consider the pros and cons in light of your budgeting skills and personal financial situation.
Pros
Overdraft protection can prevent certain transactions from declining due to insufficient funds, which may help ensure important payments, like rent or utilities, go through. Depending on your bank, using overdraft protection may reduce or replace overdraft fees, though you could still be charged transfer fees or interest based on the linked account. When set up appropriately, overdraft protection can be a helpful option if you have a tight budget, variable income or occasional timing gaps between bill payments and deposits.
Cons
Because certain transactions are less likely to be declined when funds are low, overdraft protection can lead to overspending for some people. You might also be charged transfer fees depending on your bank and how overdraft protection is set up. This means overdraft protection may be less suitable if you prefer strict spending limits, track your balance closely or want to avoid any risk of additional fees.
Make informed banking decisions
Overdraft protection can serve as a convenient backup rather than an unexpected expense, but opting in is a choice you should base on your financial habits. Whether you’re considering overdraft protection or exploring other budgeting tools, evaluating your personal banking practices can help you take greater control of your finances.
Disclosure: This article is for general educational purposes. It is not intended to provide financial advice. It also is not intended to completely describe any Citi product or service. You should refer to the terms and conditions financial institutions provide for various products.
