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Meaning and definition of overdraft

An overdraft can be defined as the amount by which withdrawals surpasses the deposits, or the extension of credit through a lending institution to consent to such a situation. In simple words, an overdraft allows the individual to continue withdrawals even with zero funds. Actually, the bank grants permission to individuals to borrow a specific amount of money.

As explained by Investopedia, if you have an overdraft account, your bank will cover up the checks which would else wise bounce. Akin to any other loan, interest is paid on the outstanding balance of an overdraft loan. Very often, the loan interest is lower than credit cards.

Reasons for an overdraft

Overdrafts can occur for various different reasons like:

  • Intentional short-term loan

An overdraft occurs in case the account holder finds themselves short of money and intentionally makes an insufficient funds debit. The associated fee is accepted by them and the overdraft is covered with their next deposit.

  • Failure to maintain a perfect account register

Another reason for an overdraft is the account holder not maintaining the account activities accurately and overspends through casualness.

  • ATM overdraft

ATMs or banks might allow cash withdrawals in spite of insufficient availability of funds thus leading to overdrafts.

  • Playing the float

The account holder might make a debit during the presence of insufficient funds in the account thinking that they would be able to deposit the required funds in the account before the debit is cleared.

  • Bank error

A check debit might post or an overdraft because of human or computer error. Therefore, an amount bigger than the maker anticipated might be withdrawn from the account. Similar bank errors could work to the account holder’s disadvantage, while others might work to their benefit.

  • Intraday overdraft

A debit occurring in a customer’s account leading to an overdraft which is thereafter covered by a credit which is posted to the account during the same business day.

  • Bank fees

A fee is charged by the banks for the overdrafts thus leaving insufficient funds in the account for a subsequent debit. This fee is, however, unexpected to the account holder.  

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