Does having an overdraft affect your credit score?

What is an overdraft and how does it impact my credit score?

An overdraft can be a really helpful tool when it comes to paying any last minute bills, especially when you’re waiting for payday to come around or you’re in between jobs. But just like with most things when it comes to money, there are strings attached to an overdraft, and managing it badly can come back to haunt you. We show you how to make the most of it to keep your credit score in good condition.

How do overdrafts work?

An overdraft is effectively the bank lending you money. It’s a kind of credit, in that the money is never actually yours, and you are expected to pay it back within a certain timeframe. There are two kinds of overdraft that you might find in your current account:

An approved overdraft

This is an amount of money your bank has agreed you can borrow in advance. This amount will automatically kick in if you reach the end of your funds and need to pay for something else. A portion or all of this amount may be interest-free, or your bank may charge you interest for using it. 

An unarranged overdraft

This is when your bank has not approved you any extra funds, but you spend them anyway. This could happen because you’re unaware of how much money is left in your account, or because there is a scheduled payment that will take you over your limit. Your bank may give you some flexibility so that your payment can still go through, but they’ll likely charge you a fee if you stay in that unapproved range for too long. 

Does an overdraft show up on your credit report?

In short, yes. Your overdraft will appear on your credit report as a kind of debt, just the same way as a credit card or loan might. If you never use your overdraft, it will show up with a balance of zero, whereas if you’re sitting in your overdraft at the time the credit report is done, the amount you owe will be visible. 

If you occasionally dip into your overdraft but pay it off every month, this might not show on your credit report at all. This is because your bank only sends information to credit reference agencies once a month, so on that particular day, you might be overdraft-free. 

The bad news comes if you’re using an unarranged overdraft, or have been issued charges for late payments. This will show as a negative hit on your credit report. 

How can you use your overdraft to improve your credit score?

Just like any kind of borrowing, lenders want to see that you can be trusted to pay it back. There’s nothing wrong with using an approved overdraft - that’s what it’s there for. However if you regularly fail to make repayments, this could have a negative impact on your credit score and lead to you being charged higher rates of interest on future lending. If you routinely pay your overdraft off and show lenders that you can be relied upon, your credit score will improve. 

You can also make a difference by limiting how far into your overdraft you go. If you max it out each month, this will look like you’re spending irresponsibly and are too reliant on credit, whereas if you just use some of it and pay it back on-time, it will show you’re good with managing your money, helping to improve your credit score. 

How can you manage your overdraft?

It can be easy to get stuck in an overdraft cycle, but a few small changes to your habits can help you get out of it for good. 

1. Manage your outgoings

This one might seem obvious, but it’s surprising how often we pay for something every month that we don’t really need. Got a streaming service that you rarely use? Stuck on an old phone contract that’s not worth the money? Not been to the gym in a while? These are all common things we pay for monthly that could save you hundreds of pounds if you cancel. 

2. Switch to a fee-free overdraft

If your finances are in a good enough position, you might be able to switch to a better current account for your circumstances. Some overdrafts come without any usage fees, meaning you won’t get into further debt by going into them. You could also benefit from a joining bonus from your new bank - shop around to find the best deals.

3. Make the most of interest rates

If your current account doesn’t have an overdraft feature, you could be better off spending on a credit card. Compare the interest rates on both to see which one will cost you less to use, and ensure you only ever spend what you can afford to pay back. 

4. Move your direct debits to just before payday

If your direct debits go out just before payday, your balance will be boosted quicker than if you have to wait a whole month, meaning you’ll spend less time in the red. This looks great on your credit report. 

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