What is an overdraft and how does it occur?

An overdraft happens in instances when withdrawals in a bank exceed the account’s available balance. In this situation a person is said to be “overdrawn”. This happens when a check is written for an amount higher than the available balance.

The writer of the check may face higher fees and maybe subjected to legal action. The holder of the check may demand immediate payment and penalty for the check that was returned. There are banks, however, which protect their clients who have checking accounts. They make the payments and then notify their client that an overdraft was incurred.

If an agreement with the provider of the account for an overdraft plan exists, the bank will pay the amount and will soon collect it from the account owner with corresponding charges, interests and penalties. This is possible when there is an overdraft protection agreement.

Overdraft protection is an agreement made with financial institution or a bank to cover overdrafts on a checking account. This service typically involves a corresponding fee and is limited to a maximum limit.

In the USA, overdraft protection has become an optional service in one’s checking account. In the United Kingdom, every current account offers the pre-agreed overdraft feature.  The amount is considered depending on the credit history and the affordability.