It can happen to just about anyone. You made a purchase, but you forgot to check the balance of your checking account, and now your account is in overdraft. As a result, your bank has charged you with an overdraft fee.
What exactly is an overdraft, and how can you avoid these additional fees?
Definition of overdraft
Basically, an "overdraft" happens when you spend more money than you have. Each time a transaction exceeds your account balance, you experience an overdraft. Your bank or credit union will cover the cost of these transactions, though this money is treated as a loan that you're expected to pay back.
While an overdraft is never desirable, it ensures that your checks and debit card transactions go through even when you don't have sufficient available funds in your account. This processing ensures that you're still able to pay bills on time and avoid a full-scale halt to your spending.
However, your bank or credit union will also assess an overdraft fee. This fee makes overdrafts into costly mistakes that you’ll want to avoid.
Common causes of overdrafts
Overdrafts occur more readily than you might expect. Here are some of the most common reasons an account holder can find themselves with a negative balance.
Automatic payments
Automatic payments are convenient for paying recurring bills, but they're also easy to forget about. If you don't have enough money in your account to cover this payment, the automatic payment becomes an overdraft.
Losing track of your funds
Mistakes happen. Sometimes an overdraft can occur when you write a check or make a debit card purchase without checking your available balance. If it's a large payment or purchase, your bank might not cover the transaction at all. When they do cover it, you'll experience an overdraft and all of the fees that apply.
A check was deposited late
If you write someone a check, the recipient might not deposit the check until considerably later than you expect. You might have forgotten about this check in the interim, so your check will "bounce," and you'll experience an overdraft.
Credits not applied in time to cover transactions
Different kinds of transactions clear in different ways. As a result, your credits won't necessarily enter your available balance prior to your debits. For example, if your employer pays you through direct deposit, there can be a brief delay between the day you're paid and the day you have access to these funds.
Admittedly, this isn't always clear since your available balance won't necessarily reflect the chronological sequence of your transactions—some transactions may be marked “pending,” meaning they haven’t cleared yet. Nevertheless, it's possible that your bank could withdraw a debit before a credit is applied, resulting in a negative account balance.
How does overdraft work?
The existence of overdrafts might raise an obvious question: If you don't have the money in your account, why doesn't your bank simply decline the transaction?
Actually, this is possible. Each time an overdraft occurs, your bank decides whether they will decline the purchase or cover the cost of the transaction. This decision is entirely at your bank's discretion, though each bank usually has a limit—the bank will cover transactions up to a certain amount.
How do overdraft fees work?
When you don't have enough money in your account to cover withdrawals or transactions, you'll experience an overdraft. You’ll need to pay back the amount by which you’re overdrawn, and the bank may also charge you an overdraft fee on top of that amount.
In addition, some banks charge continuous overdraft fees, or daily overdraft fees, meaning you’ll be charged with a new overdraft fee every day your account remains overdrawn. Those fees can really add up, so consider carefully before you opt in to your bank’s overdraft program.
Declined transactions aren’t subject to overdraft fees because your bank refuses to honor the check or debit card transaction, so your account won’t be overdrawn. However, these checks or purchases may be returned unpaid. When this happens, your bank may assess you a fee for "insufficient funds" (sometimes called "non-sufficient funds").
Again, every bank sets its own policies regarding these fees. But federal regulations require financial institutions to obtain your consent before adding an overdraft protection program that charges an overdraft fee.
When you open a checking account or savings account, you have to opt into overdraft protection before your bank charges you any fees.
Types of overdraft protection
Overdraft protection refers to the agreement you make with your bank to cover overdrafts on your checking account and charge you overdraft fees. When you sign up for a checking account, your bank may provide several options to choose from.
Here are some of the most common overdraft protection service options available today.
Standard overdraft coverage
The most basic form of overdraft protection covers small transactions and recurring payments. This default form of coverage ensures that you're able to cover things like monthly memberships and subscription services. However, you may need additional overdraft protection for larger purchases.
The standard form of protection doesn't guarantee that your debit card transactions will all be approved. You may still have some transactions returned unpaid if you don't have enough money to cover them.
Debit card coverage
This approach allows you to continue to spend money even when you have a negative account balance, though you'll be charged an overdraft fee for each transaction.
Debit card coverage is best used only in an emergency since the fees can add up quickly. Some banks may also place limits on how much you can spend when using this type of coverage.
Linking your checking account and savings account
Some banks and credit unions will allow you to link your savings and checking accounts together. This way, when you don't have sufficient funds in your checking account, you'll automatically withdraw money from the linked account to cover the purchase.
Depending on your bank, there could still be a small transfer fee when withdrawing from your linked savings account. However, the transfer fee is usually preferable to other, larger overdraft fees.
Using a credit account
You can also pay overdrafts by connecting your bank account to a credit account. Some financial institutions already classify overdraft protection as a line of credit, which means you'll be paying interest on whatever amount the bank essentially loans you when it allows you to overdraft your account.
If you already have a personal line of credit, you can link this account to your checking account to form an overdraft line of credit. When you exceed your available balance, you'll automatically transfer money from your line of credit up to your available credit limit.
This setup can be a reliable way to prevent overdraft fees, but you'll still be subject to your standard annual percentage rate (APR), so use this service wisely.
How to avoid overdrafts
Naturally, you'll want to avoid overdraft fees as much as possible. In December of 2024, the Consumer Financial Protection Bureau (CFPB) issued a rule that would limit the amount that the largest US banks can charge for overdraft fees. The rule could save US consumers about $5 billion annually if it’s allowed to go into effect on October 1, 2025.
Still, you can save even more money by learning to avoid overdraft fees altogether. Here are some of the most reliable ways to avoid overdrafts.
Rely on banking apps
If you haven't already downloaded your bank’s mobile app, now's the time. Today, most banking apps make it easy to monitor the money in your checking and savings accounts.
By using a secure app, you can check your account balance from anywhere in the world, so you’ll always know whether you have enough money in your account to cover a particular purchase.
Track your expenses
Checking your bank account online makes it easier to keep track of your transactions. In addition to your available balance, you'll be able to see your recent transaction history.
But don't expect every transaction to appear on your bank statement right away. If you make a lot of frequent purchases, or if you ever have to write checks, it's wise to have a separate tracking system or tracking app that will help you stay organized and avoid an overdrawn balance.
Balance alerts
Your bank or financial institution may offer account alerts that let you know when your bank account balance dips below a specific amount. Usually, you can specify this amount yourself. This way, when your account drops, you can stop using your debit card and manually transfer money from some other account to avoid a negative balance.
Transferring the funds yourself may also be cheaper than the transfer fees you experience when using a linked account to cover your overdrafts.
Give yourself a cushion
Of course, the most reliable way to avoid overdraft fees is to ensure you maintain a positive account balance. Make sure your monthly budget includes a small "cushion" to protect yourself against overdrafts.
For example, you might create a rule for yourself that you’ll never let your account drop below one week's paycheck. That kind of personal guideline can help prevent overdrafts and keep you from having to dip into your hard-earned savings.
Use a credit card for emergencies
When you don't have enough money in your checking account, consider using a credit card instead of a debit card. It’s often better to use a separate credit card for emergency spending, especially for the kinds of small transactions that tend to cause overdraft fees (because larger ones are declined).
Business banking made simple
Overdrafts don't just happen to consumers. Business owners are vulnerable as well, and these overdraft fees can cut into your profits. One of the best ways to avoid this is by managing your business cash flow with modern financial automation tools.
BILL’s financial automation platform helps you keep track of your cash flow and allows your customers to pay you through automatic ACH transactions.
Overdraft FAQ
Here are some common questions that business owners and consumers ask about overdrafts. For specific questions about your fees or overdraft protection service, consult your bank or credit union.
Can I still withdraw money after I overdraft?
Generally, you can still make cash withdrawals even if you overdraft, depending on how much you’re overdrawn. Withdrawals and ATM transactions work the same way as other overdrafts, in which the bank basically lets you borrow the money and then repay the debt later.
As expected, there are overdraft fees associated with these sorts of withdrawals. And as always, the bank reserves the right to authorize or reject these requests. This determination is usually based on several factors, including the size of the withdrawal, your overdraft history, and the frequency of your direct deposits.
What happens if my account remains overdrawn?
Frequent overdrafts and negative account balances can have long-term consequences. If your account remains overdrawn for too long, your bank may refuse to provide additional overdraft assistance. In severe cases, it may suspend your checking account or close it entirely.
Your bank can also report your outstanding balances to a collections agency or credit bureau, which can make it harder to open future checking accounts.
Will overdraft fees affect my credit score?
Overdraft fees will not show up on your personal or business credit report in and of themselves. In fact, overdraft fees might even preserve your credit by ensuring that your bills are paid on time, even when you have a negative balance.However, once your bank covers the transaction, the bank becomes your creditor. You must repay the debt (and the overdraft fee) according to their timetable; otherwise, they may report you to a credit bureau or collections agency.If you fail to repay the bank, it can negatively impact your credit score for years and will likely impact your ability to qualify for future credit, including home loans, auto loans, personal loans, and credit card accounts.
