Legal differences between bank overdrafts and bank loans

Legal differences

From a legal viewpoint, a bank loan is different from a current account financing in form of a bank overdraft though the two may be similar in one way or the other. On one hand, a bank overdraft though it extends credit to customers, it is usually on short term basis.[1] This means that the customers that acquire credit through this system should settle it as soon as possible after they acquire the credit. The period for settling such a credit may be in few weeks or in a month’s time.[2] For the bank overdraft, the bank should not allow its customers to overdraw their accounts unless the bank has a contract with those customers to do so. At the same time, when the customer overdraws his/her account without the bank’s consent, the bank may charge the customer in question higher interest and add other bank charges.[3] On the other hand, a bank loan is usually on a long term basis meaning that once the customers acquire credit through this system, they have considerable time to repay the credit. In this case, the customers may have a fixed number of months or years to repay the credit.[4]

In terms of differences, a bank overdraft usually exists as a pre-conditional contract between the bank and a customer whereby the customer agrees to certain terms and conditions upon opening a current account with the bank.[5] By agreeing to pre-conditional terms and conditions, the bank allows the customer to draw a certain amount of money from the current account the customer holds with the bank.[6] This means that for a customer to obtain an overdraft facility from the bank, the customer should have a current account with the bank in question. For the bank loan, this may not always be the case especially for the salaried people and other secured bank loans because the collaterals or the pay slips may secure the bank loan. Given that an overdraft facility requires the customer to agree to certain pre-conditional terms and conditions, the customer acquires this facility without making any prior arrangements.[7] On the contrary, for a customer to acquire a bank loan, the customer should make prior arrangements for the same.

Another difference between a bank overdraft and a bank loan is that while the interest for the bank overdraft is calculated on daily balances the interest of a bank loan is calculated either on monthly balances or annual balances as the contract may state.[8] At the same time, while the contract for a bank overdraft facility has a maximum amount of credit that a customer can obtain at any given time, a bank loan does not have a maximum amount of credit that a customer can obtain at any given time. Instead, the maximum amount of the bank loan that a customer may obtain at any given time depends on the customer’s financial capacity to repay the loan.[9]     

In spite of the differences between the two systems of credit, a bank overdraft and a bank loan are similar in the sense that the two systems avail money to customers in form of credit. Furthermore, the two systems of credit charge interests and some bank fees on the money they avail to their customers.[10]

In most cases, banks extend overdrafts to businesses as opposed to private customers. For this reason, for a private customer to acquire a bank overdraft facility that person should have a registered business. On the contrary, a bank loan is available to both private customers and businesses.[11] This means that there are no differences to the elements discussed above whether the customer is a private one or a business entity. 

Bibliography

Bates, Bronwynne. Business management: fresh perspectives. Cape Town, South Africa: Pearson Education, 2005.

Campbell, Dennis and Christian Campbell. Legal aspects of doing business in Europe. Huntington, NY: Jurist Publication, 2011.

Ellinger, E., Eva Z. Lomnicka, Hare and E. P. Ellinger. Ellinger’s modern banking law. Oxford: Oxford University Press, 2009.

Hong Kong Institute of Bankers. Bank lending. Singapore: John Wiley & Sons Singapore Pte. Ltd, 2012.

Industrial systems research. The business finance market: a survey. Manchester: Industrial systems research, 2013.

Nieman, Gideon and Marius Pretorius. Managing growth: a guide for entrepreneurs. Cape Town: Juta Academic, 2004.

Owens, Keith and Keith Owens. Law for non-law students. London: Cavendish, 2001.

Reynolds, Wal, Alan J. Williams, and Warwick Savage. Your own business: a practical guide to success. South Melbourne: Nelson Thomson Learning, 2000.

Shihata, Ibrahim. The World Bank legal papers. The Hague: Nijhoff, 2000.

Swart, Nico. Starting or buying your own business or a franchise. Lansdowne, South Africa: Juta, 2002.    


[1] Campbell, Dennis and Christian Campbell. Legal aspects of doing business in Europe. (Huntington, NY: Jurist Publication, 2011), 11.

[2] Industrial systems research. The business finance market: a survey. (Manchester: Industrial systems research, 2013), 185.

[3] Ellinger, E., Eva Z. Lomnicka, Hare and E. P. Ellinger. Ellinger’s modern banking law. (Oxford: Oxford University Press, 2009), 753.

[4] Owens, Keith and Keith Owens. Law for non-law students. (London: Cavendish, 2001), 506.

[5] Hong Kong Institute of Bankers. Bank lending. (Singapore: John Wiley & Sons Singapore Pte. Ltd, 2012). 164.

[6] Bates, Bronwynne. Business management: fresh perspectives. (Cape Town, South Africa: Pearson Education, 2005), 176.

[7] Ellinger, E., Eva Z. Lomnicka, Hare and E. P. Ellinger. Ellinger’s modern banking law. (Oxford: Oxford University Press, 2009), 753.

[8] Nieman, Gideon and Marius Pretorius. Managing growth: a guide for entrepreneurs. (Cape Town: Juta Academic, 2004), 178.

[9] Shihata, Ibrahim. The World Bank legal papers. (The Hague: Nijhoff, 2000), 133.

[10] Swart, Nico. Starting or buying your own business or a franchise. (Lansdowne, South Africa: Juta, 2002), 16.

[11] Reynolds, Wal, Alan J. Williams, and Warwick Savage. Your own business: a practical guide to success. (South Melbourne: Nelson Thomson Learning, 2000), 212.