Gareth Shaw: How upcoming changes will impact student overdrafts

Graduation. Pic: Helen Franks
Graduation. Pic: Helen Franks
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Dear Gareth,

I currently have a student bank account with an interest free overdraft. I’m graduating this summer, and have started trying to clear my overdraft before my bank starts charging interest on it, but have still got a long way to go.

I’m aware that there are changes affecting how much banks can charge for being overdrawn that come into effect in April this year, and some banks have already started charging nearly 40%.

This feels like a huge jump and I don’t know how I’m going to be able to afford it - is there anything I can do to reduce how much being overdrawn will cost me?

Name and address provided

Gareth says…

There are heaps of money-saving offers available to students, and a generous interest-free overdraft on a student bank account is one of them. It’s also one of the main things students tell us they look for when opening a bank account at university.

But, of the students we spoke to who didn’t have a student bank account, nearly three in 10 said it was because they were worried that an overdraft would encourage them to spend too much. And with graduation looming, many students like yourself will be thinking about how to clear their overdraft before the interest free period ends.

Before I get into the steps you can take to reduce the cost of your borrowing after graduating, it’s worth touching on what these new rules regarding overdraft charges coming into effect in April mean.

In June last year, the Financial Conduct Authority (FCA) announced it was scrapping unarranged overdraft charges. The announcement came after years of campaigning from Which?, urging the regulator to take action on excessive charges for unarranged borrowing. Previously, unarranged overdrafts could cost you more than borrowing from a payday lender.

Under the new rules, with which all banks will need to be compliant by April 2020, banks will not be able to charge more for unarranged overdrafts than arranged ones, and fixed daily and monthly fees will be banned. Banks will also have to provide annual percentage rates (APRs) for their overdrafts, as they do with loans, to make them easier to compare.

The FCA reported that banks made £2.4 billion from overdrafts alone in 2017, 30% of which came from unarranged overdrafts. They are likely to want to make up the lost revenue that the ban on these charges will bring about, and some have already amended the way they charge for overdrafts well ahead of the ban coming into effect.

Nationwide was the first bank to do so, scrapping unarranged overdrafts and charging a flat rate of 39.9% for all arranged borrowing in July last year. In December, HSBC, First Direct and M&S Bank followed suit, also setting their rates across all of their accounts at 39.9%. And RBS and NatWest have confirmed that they’ll be amending the rates on their arranged overdrafts from late March or early April, varying from 19.49% to 39.49%, with most accounts charging the higher rate.

But higher headline interest rates won’t necessarily mean that overdraft users pay more – rather, the removal of fixed daily and monthly fees mean that many will pay less for their borrowing.

Until your bank lets you know how they’ll be amending their overdraft fees, it’s unclear how much staying put and remaining in your overdraft will cost you when you start having to pay interest.

What you can do in the meantime though, is set yourself a budget to try and gradually reduce your overdraft so you have less to pay off when your interest free period ends. Consider how much you have to repay, how long your interest-free period is set to last, and what you can afford to repay each month, and set yourself a monthly repayment target. We have more advice on paying off your student overdraft at which.co.uk/student-overdraft

The good news is that typically, current account providers will automatically move you from a student bank account to a graduate bank account and only start charging interest on student overdrafts two years after you graduate, giving you more time to pay it off before your bank’s new overdraft fees will affect you.

Graduate bank accounts usually also come with a 0% overdraft, but with a limit that steadily decreases every 12 months to help you scale back your borrowing. It’s worth checking with your bank what the repayment conditions are for your overdraft when you transfer to a graduate account though so you don’t get caught out, and there may also be a significant drop in the interest-free limit – for example, HSBC’s student account offers up to £3,000 in your final year, but the maximum interest-free overdraft for its graduate account is £1,500.

You don’t have to stay with your current provider though. Even if you’re in your overdraft, you can still switch your current account using the seven-day switching service to move accounts, as long as your new bank is happy to offer an equivalent overdraft. For a rundown of the best graduate accounts on the market, visit: which.co.uk/graduate-accounts