Predatory Lending Practices: Overdraft Protection Lines of Credit

Overdraft protection is a financial service offered by American banks to customers who overdraft on their credit accounts. Overdraft protection line of credit is a voluntary form of overdraft protection - unlike Ad-noc coverage, this is something that you have to sign up for. When you overdraft, the bank uses it's funds to help you make payments, but only up to a certain point. Furthermore, they don't do it for free - you are charged a fee and interest on the outstanding balance. Like many other predatory lending practices, it sounds good and beneficial on the surface, but in reality, it comes with a number of pitfalls that can mitigate all the beneficial aspects of overdraft protection.

Understanding Overdraft Protection Lines of Credit

Overdraft protection lines of credit are essentially loans. When your account runs low, your bank loans you some money until your next monthly bill. Different banks have different limits on how much it will loan you per month. It can be anywhere between $100-$1000 per month.

Once that bill arrives, you are required to repay the amount the bank loaned you, plus interest. The interests are set at the standard market rates on the day of the billing. If you don't repay the amount loaned, the interest will increase. The bank will also charge you a service fee for each overdraft. In other words, if, for example, you used your credit card three times after your balance reached zero, the bank will charge you a service fee three times.

The Contract Trap

As mentioned in the introduction, you have to sign a contract in order to get an overdraft protection line of credit. The problem is that many banks will include that contract in the contract you sign when you get a credit card. They are counting on you not to read the contract all the way through. If you overdraft, they will loan you the money and you will have to pay it back, along with interest and the service fees. Once he loan is made, it is automatically added to your balance, so you will not be able to see that you overdrafted until the bill arrives.

Since you signed the contract that authorized the bank to give you overdraft protection line of credit, you will have no choice but to pay. At the time of this writing, the Consumer Overdraft Protection Fair Practices Act is making it's way through the U.S. House of Representatives. If passed, it will require the bank to notify you when you overdraft and generally make overdraft protection more transparent. Until then, all you can do is carefully read the contracts carefully (or have your attorney read hait) before you sign them.

The Interest Trap

As mentioned before, the interest that the bank charges you will increase for every month you fail to repay the loan. It will increase according to market trends, so it's value may surge or drop without warning, leaving you with no way of knowing just how much you'll be charged during any given month. Together, these factors create the so-called interest trap.

Suppose that the reason you were late on your first payment is because you were short on money. By the next month, you will have to come up with money you owed for previous month, plus interest. If you don't have enough money to pay that, you will have to come up with even more money for by next month. This could potentially turn into a vicious cycle as you struggle to make payments and spend more and more money every step of the way. And, since you are running low on money, you are more likely to keep overdrafting, which will result in even more fees, more interest payments and greater financial burdens.


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