Should I use a credit card to pay off my overdraft?

Published:
17 January 2014
Topic:
News,Money,Credit Cards

Like many of its competitors, giant credit card provider MBNA has recently improved the offer on its balance transfer card. It has upped the interest-free term on credit card debt (transferred from another provider) to 29 months.

Unlike most of its competitors however, the MBNA Platinum Balance Transfer card also offers the same 0% term on cash which it will pay straight into your bank account - known as a money transfer. So, could it be worth using a credit card to pay off your overdraft? We take a look.

What is a money transfer credit card?

Credit cards that offer money transfers mean that - should you be accepted for the card - you can opt for your agreed credit limit to be paid as cash straight into your current account. (Just like a regular balance transfer though, you will only be able to transfer up to 95% of your agreed limit in cash).

Many money transfer credit card deals will offer a promotional 0% rate on this cash for a certain period - in the MBNA Platinum case, for 29 months.

This means that if you have been sitting in your overdraft for a while and your bank is charging you for it, you could be better off taking a 0% money transfer deal.

Money transfers do come with fees, though, which are higher than those charged on regular balance transfers. On MBNA's Platinum card for example, you will pay 4% on money transfers compared to 2.89% on balance transfers from another credit card.

Who offers money transfers?

MBNA is the main provider of 0% balance transfer cards that also come with a money transfer facility - but this could be under any one of its various brands which include Virgin, the AA and a whole host of charity and football credit cards.

The Leeds Building Society credit card, which is not part of the MBNA group, offers 0% on money transfers though, while RBS/NatWest offers the facility but not interest-free.

Are they worth taking to pay off my overdraft?

Let's do the sums. If you have an overdraft of £1,500, and are being charged a typical interest rate of 19.3% (EAR) on it, you'd be paying out 79p per day. So, paying back the overdraft over 12 months would cost you £288.

If you were to pay off the £1,500 over the same timeframe with a money transfer from the Leeds Building Society Credit Card (which offers 12 months at 0% on money transfers for 4% of the balance) you'd only incur the fee of £60, saving yourself around £220 in total over the year.

To make sure you clear the balance over the course of the 12 months, it's a good idea to set up a monthly direct debit. Because if there is any debt left outstanding, it would start to be charged at a representative APR of 17.9% (variable) after the 12 months is up.

If you don't think you can repay the debt of your overdraft over 12 months (actually, even if you can), there are much longer 0% money transfer deals available.

As we have already mentioned, MBNA's 29-month Platinum offering will allow you to clear the debt in monthly repayments of £51.72 - much more manageable than the £125 the Leeds card would require.

Again though, failing to pay the debt off in the allotted time means you'll be at the mercy of the MBNA card's representative APR of 18.9% (variable) - and your switching exercise will become less cost effective with each passing month.

But what about debt that will take even longer to pay off than the market leading MBNA Platinum's 29 months?

Low rate credit cards

Another option could be to take out a low rate money transfer credit card, which instead of offering an introductory 0% period offers a cheap interest rate for the life of the balance.

The AA Transfer Plus Credit Card (which also falls under the MBNA umbrella) offers money transfers at a rate of 6.9% for the life of the balance, subject to a 2% handling fee. This means that paying off that £1,500 overdraft over 12 months will cost you £129.72 per month on top of the £30 transfer fee.

So in total you'd pay back £86.65 in fees and interest, which still represents a saving of £201.70 when compared to leaving it in your overdraft over the course of the year.

If you were to pay the £1,500 over 29 months you'd pay back a total of £162.84 in interest and fees. This means you would still save yourself £125 over the course of the year compared to if you left the debt as an overdraft. You'd also cut your repayments to just £56.30 per month.

Low rate personal loans

Personal loan costs are at their lowest ever levels. Unfortunately though, the very cheapest deals apply to borrowing between £7,500 and £15,000 when you can get rates as low as 4.6% for borrowing terms as short as 12 months.

But if you're looking at a small loan to cover your £1,500 overdraft, rates will soar from that level - you'd most likely be charged an APR of around 18%.

So would it be worth taking out a personal loan to pay off that £1,500 overdraft?

In short, yes it would, because interest on a loan is charged annually, as opposed to the daily rate charged on overdrafts. So, even if you got a 12-month personal loan with a representative APR of 18.4%, such as Sainsbury's Shopper Standard Loan, you'd only pay £142 interest on this borrowing and still save yourself £146.35.

Switching banks accounts

Another option could be to switch your bank account (and your overdrawn balance) to one that offers a lower interest rate or even a free overdraft facility.

For instance, Nationwide's FlexDirect current account offers a 12-month, interest-free overdraft facility, meaning switching to this account will give you a year to pay down your overdraft without worrying about interest or any extra fees being added on.

There are other options too which may not offer an upfront 0%, but will offer one low overdraft rate. For example, Clydesdale Bank's Current Account Direct offers an overdraft with a rate of 9.90% (AER), meaning that you'd pay around 41p per day interest. So, repaying the £1,500 over 12 months means you'd pay back £148.50 in interest fees, saving £139.50 on that 19.3% (EAR) overdraft.

First Direct's 1st Account offers another option, as this comes with an interest-free overdraft facility up to £250. After that interest is charged at 15.90% (EAR). This means you'd pay interest on just £1,250 of your overdraft, which equates to about 54p per day.

Taken over the course of the year you'd then pay a total of £198.75 in interest fees, saving yourself £89.60 along the way.

Remember...

With all these financial deals, including current accounts, you will be assessed on your income and credit score - and may or may not be accepted. If your application is agreed, the rate you are offered on credit cards and personal loans will be dependent on the health of your score. The rate you see may not be the rate you get.

Please note: Any rates or deals mentioned in this article were available at the time of writing. Click on a highlighted product and apply direct.

 

 

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Les Roberts

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