When you get a business overdraft, the bank has given you credit for a certain amount on your regular banking transaction account.
For example, if you are approved for a business overdraft of $10,000, you can have a negative account balance up to that amount.
A business overdraft is like a line of credit in that you have a maximum credit amount and only pay interest on what you borrow. So if you only use $5,000 of the $10,000 business overdraft, you will only pay interest on $5,000. Of course, the amount of the overdraft will fluctuate as you receive and spend money.
When should you use a business overdraft?
A business overdraft can be helpful if your cash flow fluctuates. For example:
- You work on long-term projects but only get paid when the work is completed.
- Your sales are seasonal, but you need to pay staff and buy inventory throughout the year.
- You have a new business and you need to cover costs before you start earning an income.
- You have had customers fail to pay their debts and you need assistance until your cash flow recovers.
What’s needed to be approved for a business overdraft?
Banks look at several factors before granting a business overdraft. These include how long you have been in business, your turnover, whether you have equity in a property or other assets to secure the loan, and why you need the overdraft.
Differences between secured and unsecured business overdrafts
There are two types of business overdrafts – secured and unsecured. With a secured overdraft you pledge property or another asset as collateral. This is required if you want to get a higher limit, usually over $50,000.
With an unsecured overdraft, you don’t need to pledge collateral against the overdraft. Ultimately, however, if your business runs into difficulties and you fail to repay, the bank will have recourse to your assets.
Another difference between secured and unsecured business overdrafts is the interest rates.
With a secured overdraft, the bank has collateral. The reduced risk means that the interest rate on secured overdrafts is lower. The interest rate on an unsecured overdraft is usually 1.5 times higher than for the unsecured overdraft. For example, if the interest rate for a secured business overdraft is 8.00%, the rate for the unsecured overdraft will be around 12%.
The benefits of getting a business overdraft
One of the main benefits of a business overdraft is that it’s relatively easy to get if you meet the criteria outlined above. A bank will look at these factors to determine the size of the overdraft. It usually only takes a few days to be approved for an overdraft, so it’s a fast finance option if you are approved.
Another plus of business overdrafts is that there’s not a regular payment schedule. When revenue comes into your account, and exceeds your expenses, the amount you owe goes down. On the other hand, if your expenses exceed the revenue coming into your account, your debt (level of overdraft) increases.
In addition, the interest rate on a secured or unsecured business overdraft is lower than you would typically pay on a credit card.
Know the shortcomings of a business overdraft
An application fee is required to open a business overdraft. In addition to the interest charged, business overdrafts include a regular service fee. You will also be charged a fee if you go over the overdraft limit.
Another big drawback is that a business overdraft can be called in at any time. This means the bank can demand repayment of the entire amount owed immediately. The fact that a business is using an overdraft means it probably does not have any excess cash. So the demand for repayment could place the business in a difficult position.
If you would like more information about business overdrafts, or would like to discuss other types of loans that may be more suited to your needs, call one of our friendly Brokers on 1300 736 780 or get a quote.