I opened a $2,500 line of credit in my checking account I have with my primary bank a few years ago. As of today, I have yet to borrow a single dime using this line of credit. The primary reason for opening such account was to avoid overdraft fees just in case my balance in my checking account becomes negative. However, there are other advantages associated with this account.

Why I Opened Line of Credit Account

A few years ago when I have two roommates living with me in my house, one of my roommates occasionally gave me a bad check where it bounced. He didn’t do it on purpose; he was just very poor at managing his own finances and budget. Anyway, during one particular month, when I was pretty tight on my funds and I was heavily relying on the income generated through my roommates’ rent money, one of the rent check bounced making the balance on my checking account to become negative. For this reason, my bank charged me an arm and leg for having an overdraft in the account. For each day I was in the negative, they charged me a fee. It was something I could not afford to happen again, especially during that time when I was heavily dependent on my roommates’ rent money every month.

How Overdraft Protection Works

Overdraft protection is exactly what it sounds like. It protects you against overdraft. If you never overdraft, then your overdraft protection will never kick in and you’re good to go. Basically, it acts like an insurance. It’s there to bail you out in case something bad happens, in this case, overdraft. You can choose your own amount or line for the account. The more line you have, the more you’re allowed to overdraft or borrow without incurring any additional fees. My bank Line of Credit ranges from $250 up to $25,000. My Line of Credit is $2,500. When you overdraft and the line of credit kicks in, what happens is that your bank will automatically transfer the necessary funds to your checking account to cover the overdraft that occurred. The fee for this transaction is $10 per transaction. However, the downside is that the interest rate is at a whopping 18%. Although the interest rate is high on the borrowed money, it’s not as high as it may seem because if you’re smart, you’ll deposit some funds in your checking account to cover the overdraft as soon as possible. For example, if the overdraft amount is $1,000, the total amount you’ll be charged is $10 plus $0.49 (18% apr) interest for each day your account is overdrafted. So if you pay back your Line of Credit account in 10 days, the total fee your bank will charge will be $14.90. This is much less than having your checking account overdrafted without any protection.

Have Some Money Available

I like to have money in my checking account just enough to cover all of the monthly expenses and bills. Everything else goes directly to my online savings account. I have accounts with HSBC and also with ING Direct. I have my checking account linked to these accounts so I can transfer funds back and forth without any problems. My plan is to transfer money into my checking account from my online savings account immediately if something out of ordinary happens and my balance becomes negative. That way, I will  insure myself against accidental overdraft and minimize the fees associated with it.

So if you don’t have any overdraft protection in your account, go to your local bank and apply for one. It’s free and there’s no annual fee. If you already have one, leave a comment and share your experience.