If your current account has been overdrawn for most of the past few months and you are paying interest every day on the balance, you are using one of the most expensive forms of mainstream borrowing available. Since 2020, most UK banks charge a single annual interest rate on arranged overdrafts, typically in the range of 35% to 40% EAR. That is significantly higher than the rate on most personal loans, and if the overdraft has become a semi-permanent fixture rather than a short-term buffer, the cost comparison is worth taking seriously.
This guide explains how overdraft pricing works, compares the cost of a persistent overdraft against a personal loan for the same amount and period, and sets out when switching to a loan makes sense and when it does not. An overdraft that is used briefly and repaid within days is a different product from one that has been sitting at or near its limit for months. This guide is about the second scenario. All figures used are illustrative and do not represent any specific bank or lender. This article is for informational purposes and does not constitute financial advice.
At a Glance
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A persistent overdraft at a typical rate costs roughly three to five times more per year than a personal loan for the same amount.
A £2,000 overdraft held for 12 months at an illustrative 39.9% EAR costs approximately £800 in interest. A personal loan for the same amount over the same period at an illustrative 7% APR costs approximately £76 in interest. The overdraft costs more than ten times as much in this example. Even at a higher personal loan rate, the gap remains substantial. The only situation where the overdraft is cheaper is when the balance is repaid within a very short period.
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An overdraft is a useful short-term buffer. Converting a small, occasionally-used overdraft to a loan does not make sense.
If you dip into your overdraft for a few days each month and repay it when your salary arrives, the interest cost is negligible and a personal loan would be an unnecessary commitment. The comparison is only relevant for persistent overdraft use, where the balance has remained at or near the limit for several consecutive months with no realistic plan to clear it from income alone.
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A personal loan forces the debt to end. An overdraft does not. That structural difference is as important as the rate.
An overdraft has no fixed repayment schedule and no end date. It is possible to pay interest on the same balance for years without the outstanding amount ever decreasing. A personal loan has a fixed monthly payment and a defined term. At the end of that term, the debt is cleared. For someone stuck in a persistent overdraft with no path out, the forced repayment structure of a loan can be the mechanism that actually resolves the borrowing.
How overdraft pricing works since 2020
In April 2020, the FCA introduced new rules that changed how banks charge for arranged overdrafts. Before the change, banks used a mix of daily fees, monthly fees, tiered interest rates, and usage charges, which made it extremely difficult to compare the cost of one overdraft with another. The new rules require banks to charge a single annual interest rate (expressed as an EAR, or equivalent annual rate), with no daily or monthly fees on top. The intention was to make overdraft pricing transparent and comparable.
The result, in practice, was that most major high-street banks set their overdraft EAR in the range of 35% to 40%. Some sit slightly below this range, and a small number of accounts (particularly packaged current accounts or accounts with specific eligibility requirements) offer lower rates or interest-free buffers. But for the majority of standard current accounts at mainstream banks, the rate falls within this band. These rates are illustrative and are not stated as the specific rate at any named bank. Rates can change, and the rate on any individual’s account depends on the bank and the account type.
It is worth noting that the EAR on an overdraft is not directly comparable to the APR on a personal loan in a strict mathematical sense, because the two are calculated differently. EAR reflects the annualised cost of the interest rate alone. APR includes any compulsory fees as well as the interest rate. For most personal loans, there are no compulsory fees, so the APR and the effective interest rate are very close. For the purpose of this comparison, the key point is that both figures represent the annualised cost of borrowing, and the gap between a typical overdraft EAR and a typical personal loan APR is substantial.
The cost comparison: overdraft vs personal loan
The following worked example shows the difference in cost between holding a £2,000 balance on an overdraft for 12 months and taking out a personal loan for the same amount over the same period. All figures are illustrative.
| Factor | Arranged overdraft at 39.9% EAR | Personal loan at 7% APR |
|---|---|---|
| Monthly cost | Approximately £67 per month in interest. This does not reduce the balance. The £2,000 remains outstanding. | Approximately £173 per month. Each payment reduces the outstanding balance. After 12 months the debt is cleared. |
| Total interest over 12 months | Approximately £800 | Approximately £76 |
| Balance after 12 months | £2,000 (unchanged, unless separate payments above interest are made) | £0 (the loan is fully repaid) |
| Total paid over 12 months | £800 in interest with the £2,000 still owed | £2,076 in total, with nothing further owed |
| What happens next | Interest continues to accrue at the same rate. In year two, another £800 in interest is payable if the balance remains. | Nothing. The debt is cleared. The monthly payment stops. |
The difference is stark. In this example, the overdraft costs £800 in interest over 12 months and the balance remains at £2,000 at the end. The personal loan costs £76 in interest over 12 months and the balance is zero at the end. The overdraft user has paid ten times as much in interest and still owes the original amount. After two years of persistent overdraft use at this rate, the total interest paid would be approximately £1,600, with the £2,000 still outstanding.
The monthly cash-flow picture is different, and this is where the trade-off lies. The overdraft “costs” £67 per month in interest, but because the balance is not being repaid, the monthly outgoing is lower than the £173 monthly loan payment. The loan requires a higher monthly payment precisely because it is clearing the debt. This higher monthly commitment is the mechanism that makes the total cost lower, but it only works if the borrower can afford it. The personal loan repayment calculator can model the monthly payment and total cost for any amount and term.
The calculator below lets you enter your own overdraft balance and see the comparison for your specific situation.
Overdraft vs personal loan: your numbers
Enter your overdraft balance to see the cost comparison. All figures are illustrative.
Overdraft (12 months)
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interest paid
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Personal loan (1 year)
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total interest
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Personal loan (2 years)
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total interest
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When an overdraft is the right tool
An overdraft is designed as a short-term buffer for temporary cash-flow gaps. It is well suited to situations where income is slightly lumpy (freelance payments arriving at irregular intervals, for example) or where an unexpected expense lands a few days before payday. In these cases, the overdraft is used briefly, repaid quickly, and the interest cost is minimal. A few days of interest at 39.9% EAR on a £500 balance amounts to a few pence. No personal loan, however competitive, is worth the application process and the hard credit search for that.
An overdraft is also useful as a safety net. Having an arranged overdraft facility available, even if it is rarely used, provides a cushion against unexpected outgoings without the need to apply for credit at short notice. The interest is only charged on the amount actually used, not on the available facility, so an unused overdraft costs nothing. A personal loan, by contrast, begins incurring interest from the day the funds are received, regardless of whether they are needed.
The key distinction is between an overdraft that is used occasionally and repaid within a few days, and an overdraft that has become a semi-permanent feature of the current account balance. The first is the product working as designed. The second is an expensive form of borrowing that the product was not designed for, and it is in the second scenario that a personal loan becomes the more cost-effective alternative.
When a personal loan costs less
A personal loan becomes meaningfully cheaper than an overdraft when the overdraft balance has been persistent for more than a month or two, and the borrower has no realistic expectation of clearing it from income in the near future. The rate differential is so large that even a few months of persistent overdraft use can cost more in interest than an entire year of personal loan repayments on the same amount.
The structural advantage of a personal loan in this situation is not just the lower rate. It is the forced repayment. An overdraft has no scheduled repayment. Income arrives in the current account, offsets the overdraft temporarily, and then spending pulls the balance back down again. The cycle repeats month after month, and the balance never clears. A personal loan replaces this cycle with a fixed monthly payment that reduces the outstanding balance every month until it reaches zero. The debt has an end date, which a persistent overdraft does not.
There is also a behavioural dimension. An overdraft is invisible in a way that a loan is not. Because the overdraft is part of the current account, it does not feel like a separate debt. The available balance shown on the banking app includes the overdraft facility, which can make the account feel healthier than it is. A personal loan is a separate, visible commitment with its own monthly payment, which makes it harder to ignore and easier to manage as a distinct obligation.
Advantages and risks compared
The table below summarises the main differences between an arranged overdraft and a personal loan as borrowing products. The right choice depends on how the borrowing is being used and for how long.
| Factor | Arranged overdraft | Personal loan |
|---|---|---|
| Cost of borrowing | Typically 35% to 40% EAR. Interest charged daily on the balance used. No interest on the unused facility. | Typically 3% to 30% APR depending on credit profile and amount. Interest included in the fixed monthly payment. |
| Repayment structure | No fixed repayment schedule. Income flowing into the account reduces the balance temporarily, but there is no structured end date. | Fixed monthly payment for the agreed term. The debt is guaranteed to be cleared at the end. |
| Flexibility | High. Borrow and repay any amount up to the limit at any time. Interest only on what is used. | Low. The monthly payment is fixed. Overpayments or early repayment may involve a small charge. |
| Application process | Usually no separate application if the overdraft facility is already in place on the current account. | Requires a formal application with a hard credit search. Takes one to five working days from application to funds. |
| Credit file impact | The overdraft facility appears on the credit file. Persistent use at or near the limit can signal reliance on credit. | Hard search at application. Monthly payment record throughout the term. Positive record builds over time with on-time payments. |
| Risk | The bank can reduce or remove the overdraft facility at any time, often with limited notice. If the balance exceeds the limit, additional charges may apply. | The monthly payment is a fixed commitment. If income drops, the payment cannot be reduced without contacting the lender. |
A note on unarranged overdrafts
Since the 2020 FCA changes, unarranged overdrafts at most banks are charged at the same interest rate as arranged overdrafts. The previous practice of charging punitive daily fees for going over the agreed limit has largely been eliminated. However, an unarranged overdraft is still different from an arranged one in two important ways.
First, the bank is not obliged to honour transactions that would take the account beyond the arranged limit. Payments may be declined, which can lead to missed bills, failed direct debits, and additional charges from the organisations that were expecting payment. Second, persistent use of an unarranged overdraft can trigger a review of the account and, in some cases, the bank may reduce the arranged limit or close the account. If you find yourself regularly exceeding your arranged limit, it is a signal that the facility is not large enough for your needs, and either increasing the arranged limit (if the bank will agree) or switching to a structured loan is a more sustainable approach.
How to make the switch
If the comparison shows that a personal loan would be cheaper than continuing with a persistent overdraft, the process for switching is straightforward. Apply for a personal loan for the amount of the overdraft balance (not the overdraft limit, the actual balance currently owed). When the loan funds are paid into the current account, they will clear the overdraft automatically. The monthly loan payment then replaces the overdraft interest as the ongoing cost.
There are two practical points to consider. First, the personal loan monthly payment will be higher than the monthly interest on the overdraft, because the loan is repaying the capital as well as the interest. This is the mechanism that clears the debt, but it does require a higher monthly outgoing. Before applying, check that the monthly payment fits comfortably in the budget using the personal loan repayment calculator.
Second, consider what happens to the overdraft facility once the balance is cleared. If the facility remains in place on the current account, there is a risk of drifting back into the overdraft over the following months, which would mean carrying both the loan payment and a renewed overdraft balance. Reducing the overdraft limit to a small buffer (enough for occasional short-term use, not enough to accumulate a persistent balance) is one way to manage this risk. The guide to is a personal loan right for you covers the broader question of whether borrowing is the right step for your situation.
Related tools
Model the monthly payment and total cost of replacing your overdraft with a personal loan at any amount and illustrative APR.
Practical guidance on getting the best rate available to you, including the borrowing band sweet spot and soft-search tools.
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Guides and tools covering secured loans, debt consolidation, and home improvementsFrequently asked questions
Can I get a personal loan to clear my overdraft?
Yes. Using a personal loan to clear a persistent overdraft is one of the most common reasons people take out smaller personal loans. The process is straightforward: apply for a loan for the amount of the outstanding overdraft balance, and when the funds are paid into the current account, they clear the overdraft automatically. From that point, the monthly loan payment replaces the daily overdraft interest as the ongoing cost of the borrowing.
The loan must be for an amount that the lender is willing to offer. Most mainstream personal loan providers have a minimum loan amount of £1,000. If the overdraft balance is below this threshold, a personal loan may not be available, and other approaches (such as budgeting to reduce the overdraft gradually or using a 0% money transfer credit card) may be more practical. The guide to how to find a low-rate personal loan covers how to get the best rate for smaller amounts.
Will I save money by switching from an overdraft to a personal loan?
In almost all cases where the overdraft has been persistent (held at or near the limit for several months), yes. The rate differential between a typical overdraft EAR and a typical personal loan APR is so large that the interest saving is usually substantial, even when the loan runs for a longer period than the overdraft has been held. A £2,000 overdraft at an illustrative 39.9% EAR costs approximately £800 per year in interest. A personal loan for the same amount at an illustrative 7% APR over two years costs approximately £150 in total interest and clears the debt entirely.
The one scenario where switching does not save money is if the overdraft is only used briefly and intermittently. A few days of overdraft use each month generates very little interest, and the application process and credit search for a personal loan would not be justified by the saving. The comparison is only relevant where the overdraft balance has been persistent.
What happens to my overdraft facility after I clear it with a loan?
The overdraft facility typically remains in place on the current account unless you ask the bank to reduce or remove it. This means the facility is available to use again, which creates a risk. If spending patterns do not change, the overdraft can rebuild over the following months, and the borrower ends up carrying both the loan repayment and a renewed overdraft balance. This is the most common way the switch fails to deliver the expected benefit.
To manage this risk, consider asking the bank to reduce the overdraft limit to a small buffer amount, enough to cover a few days of cash-flow mismatch but not enough to accumulate a persistent balance. Some people prefer to remove the facility entirely, although this removes the safety net for unexpected short-term gaps. The right approach depends on spending behaviour and the likelihood of needing the buffer.
Can my bank reduce or remove my overdraft without warning?
Banks can reduce or remove an arranged overdraft facility, but they are required to give reasonable notice before doing so. The FCA expects banks to give customers adequate time to make alternative arrangements. In practice, this typically means at least 30 days’ notice, although the specific terms vary by bank and account type. If a bank reduces the limit below the current balance, the customer is effectively in an unarranged position on the excess, which can trigger declined payments and additional complications.
This is one of the risks of relying on an overdraft as a long-term borrowing facility. The facility is not guaranteed for any specific period and can be changed at the bank’s discretion. A personal loan agreement, by contrast, is a fixed contract that cannot be altered by the lender once signed. The monthly payment, the rate, and the term are all locked in for the duration of the agreement.
Is a 0% money transfer credit card a better option than a personal loan for clearing an overdraft?
A 0% money transfer credit card allows the cardholder to transfer funds from the card into their bank account, effectively clearing the overdraft with credit card money at a 0% promotional rate. If the full balance is cleared before the promotional period ends, this can be cheaper than a personal loan because no interest is charged during the 0% window. A transfer fee (typically 2% to 4% of the amount transferred) usually applies.
The risk is the same as with any 0% product: if the balance is not cleared before the promotional period ends, the revert rate on the credit card is typically 20% to 25% APR, which is lower than an overdraft but higher than most personal loans. A personal loan is the more predictable option because the total cost is known from the start and the repayment structure guarantees the debt is cleared by the end of the term. The guide to personal loans vs credit cards covers the broader comparison in detail.
Squaring Up
An arranged overdraft is a useful short-term buffer, but it is an expensive way to borrow persistently. At typical rates, holding a balance of £2,000 or more for several months can cost hundreds of pounds a year in interest without the balance ever decreasing. A personal loan for the same amount at a significantly lower rate clears the debt within a defined period and costs a fraction of the overdraft interest in total. The trade-off is a higher monthly payment, because the loan is repaying the capital as well as the interest, but that higher payment is the mechanism that actually resolves the borrowing.
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Everything in one place, across secured loans, debt consolidation, and home improvementsThis article is for informational purposes only and does not constitute financial advice. All interest rates, EAR figures, and cost comparisons are illustrative and do not represent any specific bank, lender, or account product. The rate and terms available to any individual will depend on their bank, account type, credit profile, and individual circumstances. Missed repayments on any credit product can affect your credit rating and may result in further action.
