What Does Overdraft Protection Mean for Your Credit?

Image shows how credit card overdraft protection affects your credit: Overdraft protection can affect your credit if you've linked your checking account to a credit card or line of credit as a backup source of funding. Some credit card issuers treat overdraft payments as a cash advance, which is more costly. Your credit score is impacted if you can’t afford to clear up the overdraft.

Image by Colleen Tighe © The Balance 2020

When pending bank transactions are higher than your current checking account balance, your bank may cover those payments for you, but at a cost. Banks charge an average of $30 each time they cover a transaction with their funds rather than yours. This is referred to as an overdraft.

To continue covering transactions, even when you have a low balance, some banks offer overdraft protection. Overdraft protection links your checking account to another account—like a savings account, credit card, or line of credit—and uses that account to cover transactions that would have otherwise triggered an overdraft fee.

To use a credit card or line of credit for overdraft protection, your credit history must be good enough to qualify for the credit product. You may need to have a checking account and credit product with the same bank. The exact qualification criteria will vary by bank.

Without overdraft protection, your bank might decline any transaction over the amount in your checking account. Instead of being charged an overdraft fee, your bank would charge you a non-sufficient funds fee and the merchant to whom you presented payment might also charge a fee in addition to the original amount of the transaction.

Credit Card and Line of Credit Overdraft Protection

Ordinarily your checking account activity doesn't affect your credit score because these details aren't reported to credit bureaus. Using your savings account for overdraft protection won't hurt you either. Your credit could be at risk, however, if you connect a credit card or line of credit overdraft protection to your checking account for overdraft protection.

Some credit card issuers treat overdraft payments as a cash advance. This makes the overdraft protection more expensive because cash advances often have higher interest rates, no grace period, and a cash advance fee. Over time, you could end up paying just as much, and possibly more, on the cash advance as you would have paid in overdraft fees.

Some credit cards have a different interest rate for overdraft cash advances and ATM cash advances. Check your credit card terms for exact pricing.

When your overdraft is connected to a line of credit, you risk paying fees on the overdraft if you don't pay the balance before the grace period runs out (if there is a grace period). If you already have a balance on your line of credit, the overdraft would just be added to your current balance.

If you don't have enough available credit on your credit card or line of credit, your credit card issuer may decline the transaction. You might be charged an overdraft fee anyway.

Impact To Your Credit

Overdraft protection is meant to protect you from the problems that stem from not having enough money in your checking account. However, if you can't afford to clear up the overdraft, you could suffer worse consequences. For example, if your account overdrafts to your credit card and you later miss your credit card payment or default on the credit card, your credit score will be damaged.

If the overdraft transfer is large and pushes your credit utilization above 30%, your credit score could drop because of the higher credit card balance. Reducing your credit card balance can help you recover those lost credit score points.

Optional Overdraft Protection

Banks now are required to ask your permission before processing overdraft transactions. If you opt-out, your bank will deny debit card transactions that exceed your checking account balance. Instead, you could be charged a non-sufficient funds fee and you’ll have to take care of the transaction directly with the merchant to avoid further collections.

Opting-in to overdraft fees means your bank will process transactions when you don't have enough funds to cover them and you’ll be charged an overdraft fee for that courtesy.