The average cost of an authorised overdraft is at a 10-year high - even though the official cost of borrowing has slumped to an all-time low. We find out why - and hunt down the cheapest current accounts deals for dipping into the red.
The big banks have slowly pushed up their charges for maintaining an agreed current account overdraft over the past year. The average authorised overdraft rate now stands at an eye-watering 14.22%, according to new figures from financial analysts Moneyfacts.
The last time overdraft rates were this high was in May 2000, when the Bank of England base rate was 6%. Yet in more recent times the official cost of borrowing has fallen dramatically, with the Bank of England holding interest rates at an all-time low of 0.5% since March 2009. So what’s going on?
Banks have understandably lost their appetite for risk in the aftermath of the financial crisis, but they’ve also seen their balance sheets hit by the effects of the bank charges backlash. In 2006 consumer watchdog the Office of Fair Trading (OFT) went on record to claim that penalty charges for unauthorised overdraft borrowing were “unfair” and “excessive”.
The ruling was challenged in the Courts by the big banks and was eventually overturned - but not before banks had pre-emptively lowered penalty charges across the board and paid out £1bn in refunds to angry consumers. Before the court tussle, banks made an estimated £2.6bn of annual income from current account charges - now they make significantly less.
And it seems they’ve responded by turning the blow into an opportunity. Moneyfacts current account expert Michelle Slade explains: “The loss of income gained from a minority of customers is now being recouped from all customers who use an agreed overdraft. Banks are likely to be making more now from these current accounts than they ever were from penalty charges.”
Vote with your feet
Among the worst providers named and shamed in the survey are Barclays, who have hiked fees from 3.4% to a staggering 18.3% over the past 14 months on their Additions Active account and Nationwide, whose FlexAccount customers saw their overdraft rates rise from 1% to 18.9% in June 2009.
Rachel Robson reveals some top tips for switching current accounts.
Whether you stay in the black or creep into the red, there’s no benefit to staying loyal to your existing bank. What’s more, it’s never been easier to switch - under the voluntary Banking Code that governs banks’ operations your old bank and your new one will help transfer all your direct debits and standing orders automatically, free of charge.
If you regularly dip into the red, switching to an overdraft with a competitive overdraft deal could save you hundreds of pounds - so where are the cheapest deals for free-to-open current accounts?
Overdraft best buys
Leading the way by some distance is the Alliance & Leicester Premier Direct current account, which offers an interest-free overdraft for the first 12 months from opening the account. Overdraft fees then revert to 50p per day capped to a maximum limit of £5 per month. Be aware that the account requires a minimum monthly deposit of £500.
You can also secure the same 12-month 0% overdraft with Alliance & Leicester’s Premier current account, which also currently offers a £100 cash payment to people who switch to it. However, you need to switch over all your direct debits to this account in order to qualify for the £100 cashback.
If you’re looking for a permanently low overdraft rate, it could be worth looking to the Cahoot current account, which has no minimum monthly funding requirement or account fees, an interest-free overdraft buffer of £100 and a low agreed rate of 11.80% on negative balances above that threshold.
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Borrowers who want the best of both worlds may want to look to the Santander Preferred Overdraft Rate Account. It offers a 0% overdraft for the first 12 months from opening the account, after which time the authorised rate reverts to a very competitive 12.9%.
When 0% isn’t 0%
Many banks have moved to “streamline” their overdraft charges, replacing an average rate of overdraft interest with a daily “usage fee” - which isn’t as generous as first appears and certainly doesn’t offer a 0% rate of authorised borrowing. The Coventry, Halifax and its sister bank, Bank of Scotland, have all recently introduced flat fees of £1 for each day people are overdrawn.
If your balance is overdrawn for a full year with one of these deals, it adds up to a stinging interest charge of 365% APR!
To get even more from your current account, sign up for our exclusive online banking service and take control of your money. Alternatively, you can make it your goal to reclaim your bank charges or find out how the banks lied to us.