Get over the overdraft

RICHARD MEADOWS
Last updated 05:00 11/06/2014

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An overdraft is a student's best friend. With bills to pay, limited income, and beer - ahem, textbooks - to buy, there is many a cash flow gap that needs bridging.

But as a working adult, you  will find out exactly why the banks encourage you to get a taste for debt from an early age.

Here are the eight reasons why we are officially over personal overdrafts:

1. Uninvited

The worst kind of overdraft is the one that takes you by surprise. 

Making a payment without the dreaded "declined" brings a huge wave of relief, but it turns into nausea when you later find out your bank has put you in debt. Auckland woman Sandra Cooper is the public face of a class action lawsuit against ANZ's allegedly unfair fees.

One of her bank statements shows she was charged an unarranged overdraft fee of $20, despite dipping into the red by $56 for just one day.

If the fee was translated to an annual interest rate, it would be over 13,000 per cent.

To add insult to injury, Cooper claims she had actually been rejected for an "arranged" overdraft in the past.

Overdrafts are a common complaint to the Banking Ombudsman's office, but the banks usually win any disputes.

That is because their right to put you in debt is enshrined in the terms and conditions of your account.

Take the sad story of "Mr G", from the Ombudsman's case files.

While travelling overseas for several months, he withdrew cash from his savings account.

When he got home, he found out he was overdrawn by more than $1000.

The bank had kept letting him make the withdrawals, and he had also been racking up penalty fees and interest every month without knowing it.

Mr G's bank gave him a token discount on repaying the debt, which he was forced to accept.

So how is the decision made? Kiwibank's Bruce Thompson says it generally honours automatic payments and direct debits if you are slightly short on funds, but will not put you in overdraft if your card declines.

ASB general manager product and strategy Shaun Drylie says the bank has an automated system that makes the decision.

A history of "good" account behaviour means you are more likely to go into overdraft, he says.

To its credit, ASB will let you opt out, but you have to actively ask.

Bank of New Zealand will also allow people to opt out if they call up and ask, but only for Eftpos or other card transactions.

BNZ spokeswoman Claire Rennie says the bank assigns a "risk profile" to customers, which determines whether or not they will automatically be put into overdraft.

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ANZ also conducts an internal assessment, while Westpac would not say how it makes the decision.

2. Start-up costs

If you do want to set up an "arranged" overdraft, you're down $25 to $35 right from the word go.

That's the "establishment fee" the banks charge to check your credit history and see if you're good for it.

Kiwibank has a much lower fee of $15, which is great. The bad news is you will still have to pay it even if your application gets declined.  

3. Ongoing costs

Every month, $5 will be siphoned from your account, regardless of whether you are actually using your overdraft or not.

Over the course of a year, that works out to roughly the same fee you would pay for a cheap credit card.

However, ASB broke new ground recently by offering a credit card with no fees at all, for the life of the card.

The other disadvantage is unlike a credit card, you do not get the benefit of an interest-free grace period to repay your debts. 

4. Painful interest rates

If you do not have a house, big term deposit or other form of collateral, overdrafts can be very expensive.

ASB charges 19 per cent interest, for example, which works out to $380 a year on a $2000 debt.

With a low-interest credit card at 13 per cent interest, you would pay $260.

And if you do end up with an overdraft you did not ask for, you not only cop the fee but a penalty interest rate too.

While penalty interest rates are typically around 23 per cent, Westpac's is close to 27 per cent, and ANZ's tops 28 per cent. Ouch.

5. Murkiness

ASB and Kiwibank get gold stars for openly publishing their arranged overdraft interest rates.

But if you are an ANZ, BNZ or Westpac customer you will have to call them to find out.

All they disclose is a "base rate" of about 13 per cent, with a margin added on a case-by-case basis, depending on the circumstances of the borrower.

6. Habit-forming

Banks descend in packs on university orientation days, a prime hunting ground for selling more debt to students.

It is not just the free sausages and energy drinks that hook the young ones in, but the enticing deals on offer.

All banks offer big discounts while you are studying, and usually as a fresh graduate too.

Typically there is no establishment fee, a reduced monthly fee, and sometimes even zero interest.

This is great, but cheap debt can be dangerous. 

Raewyn Fox is chief executive of the New Zealand Federation of Family Budgeting Services.

One of the issues Fox's network of advisers faces is young adults who have ingrained a bad overdraft habit in their formative years.

"Once you get into it, it's really hard to get out of it," she says. "It just becomes part of life, and it becomes quite hard to break that habit."

Clearly the banks are keen to encourage that same habit.

When one of Fox's daughters was at teachers' college, she had to visit three banks before she could find one who would give her a student account without an automatic overdraft or credit card. 

7. Short-term disincentive

The fee structure is designed so if you only want to bridge a short gap, you will pay even more.

At some banks you can simply call up and order a short-term overdraft over the phone, but it will cost you.

Westpac is the worst offender with a $50 temporary fee, double the usual charge.

8. Overdraft overdose

A $500 overdraft might seem relatively harmless. But much like a credit card, the bank will creep your limit up over time until $2000 seems perfectly normal.

"The biggest trap is to have a small overdraft," says Fox. "Often you get offered increases, and it grows like topsy."

Alternatives

If you do need to take on some short-term debt, think about your options. A low interest credit card is sometimes more appropriate, or even a personal loan.

Fox points out that you may actually be able to negotiate and avoid debt altogether.

Electricity retailers will typically give you some extra time to get your payment sorted, for instance.

As always, budgeting skills and good money management should make an overdraft entirely unnecessary in the first place.

"What a budget adviser would say is if you can't afford to live on your income, actually you need to look at your spending," says Fox.

It is time to get over overdrafts. They might have been a lot of help as a student, but they are no longer your best friend.

- Stuff

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