Overdraft protection. That little feature so many of us buy into when we open our chequing accounts so that we can occasionally forget our bank balance and be no worse for the wear because of it. But is that really true? Is overdraft protection really the “protection” we think it is?
When you look at it very closely, it’s probably not. When you sign up for overdraft protection from your bank, you can write a cheque that you don’t have the funds to cover, or payments can go through on your account, even when there’s no money in it. And the payment will still go through. This is because the bank will cover you (up to a certain amount,) and show your account balance as a negative. This negative amount reflects how much “in overdraft” you are. It’s also the amount that you now owe back to the bank. Unfortunately, it will be more than you originally used to cover yourself.
This is because just like all other loans, overdraft protection carries interest. How much interest will depend on the bank that you use; but the bank is loaning you money, no matter how little or for how short a time. And you can be sure that they’re going to want something in return for loaning you that money. That’s the interest. But there are even more fees you’ll have to pay. The biggest one is the handling fee.
Handling fees are actually far more than interest, as these are charged each and every time you use your overdraft protection. Typically banks charge $4 or $5 per transaction. This is a lot of money just to borrow money, even if you only pull from your overdraft twice a month. Use it any more often than that, and it can quickly add up to a small fortune.
So, how are you supposed to protect yourself from NSF fees and missed payment penalties? With a HELOC.
Using a HELOC (home equity line of credit,) you can borrow up to 80 per cent of the value that you have already built up in your home by using your home equity. The way it works is very simple.
You are a homeowner. You have, for example’s sake, $100,000 worth of equity in your home and you want to borrow $50,000 of it. It’s under the federally-mandated 80%, you have a good history with the lender, your first mortgage is in good standing, and so it’s not a problem. You can be approved for your HELOC quickly and the funds will be in a HELOC account ready for you to access. Much better and much easier than setting up overdraft protection.
HELOCs do still come with interest attached to them, as the bank will still be loaning you money; but the interest should be less than you’ll find with overdraft. Plus, only that interest will be due at the end of the month. Unlike overdraft, which will simply automatically pay back the overdraft as soon as you put more money into your account.
Of course, the balance of your HELOC is going to be due at some point – but not until the draw period has expired, which is usually about 10 years. Before then you don’t even have to pay a dime on the principal amount of the loan if you don’t want to.
Of course, you should if you’re financially able to; and you shouldn’t pull on HELOCs as though they’re a second chequing account that just came with free money in it. But when you need a little financial help and need a few extra bucks to cover you, HELOCs can be a much better alternative than overdraft protection.
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