When it comes to managing your cash flow, a business overdraft is an important tool for providing flexibility in the face of economic and operational changes. Small businesses rely on available working capital to run day-to-day operations, but unexpected circumstances, such as late client payments or surprise bills, can impact cash flow. 

Find out how a business overdraft can help you absorb unexpected costs and maintain continuity, the options to consider and suitable alternatives available.

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What is a business overdraft?

A business overdraft is a form of credit accessed through your business bank account. It provides additional funds, up to an agreed amount, when your account is no longer in credit. The overdraft facility helps with cash flow shortfalls, giving you more financial flexibility and security. 

So, what might you use a business overdraft for? Typical use cases include:

• Settling payments that you owe or bridging gaps caused by overdue client invoices. 
• Paying wages, purchasing essential stock (perhaps to meet a spike in demand) or managing supply chain issues, when cash is tight. 
• Managing unexpected costs, such as equipment repairs and upgrades, or unforeseen events requiring expenditure.

An overdraft provides a financial safety net as and when you need it, but comes at a pre-agreed cost and interest fees on the overdrawn amount.

How does a business overdraft work?



A business overdraft allows you to access funds when your bank balance drops below zero. Effectively, it’s a loan of sorts, which you must pay back. And like a business loan or a business credit card, you pay interest on the sum borrowed. Once you repay the outstanding figure and your account is no longer in debit, you stop paying interest. 

Overdrafts have limits, which are set by the overdraft provider (usually your bank). Limits can vary from a few hundred pounds to tens of thousands, and will be determined by several factors, including your business turnover and credit history.  

If your cash flow circumstances change, it’s possible to increase your overdraft limit. However, providers will only do this if they believe you’re in a position to pay back the amount borrowed in a suitable time.

If your bank has concerns about you repaying the overdraft, or you’re asking for a large sum, the business overdraft may have to be secured by business assets.

‍What’s the difference between secured and unsecured business overdrafts?

Depending on your circumstances, you may benefit more from a secured or unsecured overdraft, though in some cases, the choice will be made for you by your provider.

Secured business overdrafts

With a secured business overdraft, you must use a business asset (such as your commercial property or equipment) as security. If you have a secured overdraft and can't clear it within a defined period, the bank could repossess your asset to recoup the money you owe. 

Unsecured business overdrafts

As the name indicates, an unsecured overdraft doesn’t require an asset as security. However, while this may seem preferable, your provider will likely try to manage risk through an alternative route, such as a higher interest rate or a lower lending limit.

What are the advantages and disadvantages of a business overdraft?

There are several benefits of using a business overdraft to cover unexpected costs, manage cash flow problems and meet key liabilities and operational needs, but there are some potential downsides. 

Here are the main pros and cons of business overdrafts to consider:

Advantages

• A short-term and accessible funding solution that can suit small businesses and start-ups in need of financial support 
• Typically, straightforward to apply with funds available quickly
• Flexible payment terms, enabling you to clear the debt when cash flow allows
• You only pay interest on the overdrawn balance, though some lenders charge additional fees
• You can use as much or as little as you need from the agreed overdraft amount

Disadvantages

• Charges may apply if you miss a payment, which could affect your credit score 
• Business overdrafts usually have higher interest rates than business loans and alternative forms of borrowing
• Overdrafts can be called in at short notice 
• Overdraft amounts are often smaller than business loans
• They are generally only available from your business bank
• Most interest rates are variable

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Shoot for the moon with your business. Image: Jakob Owens

‍How to get a business overdraft

Normally, business overdrafts are available only from the bank that provides your business account. You can apply for an overdraft or extension by visiting your bank in person, phoning or applying online. 

What eligibility criteria do banks assess for a business overdraft?

To qualify for a business overdraft, you’ll need to meet your bank’s eligibility criteria. The bank will review your financial track record and assess your personal and business credit history to judge your suitability and what limit to offer.

As your bank has your financial data from your business account, this makes the process fairly simple. Banks will also consider the following:

• How long your business has been trading
• Reasons for needing the overdraft
• Your cash flow
• Existing borrowing/credit facilities
• Business/industry risk level

If your application is declined, there are various alternatives to business overdrafts to consider.

Do all banks offering business accounts have overdraft facilities?

No, not all banks that offer business accounts provide overdrafts, but the majority of high street banks do. Certain fintechs, like Monzo, offer the facility (although Monzo’s business overdrafts are currently only for sole traders), but some other popular challenger banks, such as Revolut, don’t currently offer business overdrafts. 

Here is an overview of the main UK banks offering business overdrafts:

Dig a little deeper in our dedicated article on the UK banks providing the best business overdraft options.

What’s the difference between formal and informal business overdraft requests?

A formal business overdraft request often involves either an initial meeting, in person, at your bank or a phone call to discuss the overdraft. 

You’re seeking a preemptive agreement to go overdrawn up to a set limit, so you’ll discuss and negotiate the interest rate, lending limit, duration of the business overdraft, and any other financial details relevant to your circumstances.

In contrast, an informal business overdraft request is sought if you go overdrawn or exceed your agreed overdraft limit, before contacting your bank. If you’re overdrawn without an agreed overdraft, you’ll be charged a fee and interest on the amount exceeding your limit, likely much higher than with an agreed business overdraft. 

How does a business overdraft impact your credit score?

Business overdrafts can affect your credit score in both positive and negative ways. If you’re only in your overdraft for short periods, are prompt with payments and remain within your limits, your credit score should stay healthy and even improve. However, repeatedly using a large portion of your overdraft or going beyond your limits will signal financial issues, which can harm your credit rating.

Your personal credit score can be affected by a business overdraft, as banks may still assess your personal credit history when evaluating suitability (meaning a hard search), plus if you’re asked to provide a personal guarantee, it blurs the line between personal and business credit.

If you don’t manage the credit responsibly, you can see your credit score go down, and missed payments can leave you liable for business debt. 

What are the main alternatives to a business overdraft?

If your business needs a significant cash flow boost, a traditional overdraft might not always be the best fit. Here are some alternative finance options to consider:

Invoice finance

Instead of waiting for customers to pay invoices, invoice finance lets you unlock a significant percentage of those outstanding funds, immediately. This suits businesses with healthy invoice volumes but lengthy payment cycles, offering faster cash flow without the ongoing commitment of an overdraft.

Bridging Loans

A bridging loan is a short-term lending option, designed to bridge a gap in funds until longer-term financing is secured or an asset is sold. As such, this is best suited for time-sensitive scenarios where you have a clear plan for repaying the loan quickly (e.g., property purchases with timing issues). 

Merchant cash advances

Businesses taking regular card payments, like retailers, can secure an advance against future sales as a merchant cash advance. In this revenue-based finance solution, repayment comes directly from a percentage of card transactions.

Revolving credit facility

A type of business line of credit, this facility works similarly to an overdraft, as it allows you to borrow up to a limit, pay back the funds, and borrow again. However, a revolving credit facility may have a longer approval process than a traditional overdraft.

Business credit cards

Using a business credit card is another line of credit that’s similar to an overdraft, but often has lower interest rates. Ideal for everyday expenses or covering short-term cash flow gaps, business credit cards may feel like an easy option, but as interest can be applied to the entire balance (if not repaid in full each month)​, you need to be careful with your usage and stay on top of repayments.

Small business loans

A small business loan is usually a short-term funding solution that provides working capital for various business uses. While offered by some banks, the application and approval process can take time. Digital lenders, like iwoca, offer flexible loans for small businesses that provide fast access to funds, ease of use and manageable monthly payments tailored to your needs. 

An iwoca Flexi-Loan, for example, can be approved within 24 hours, with no lengthy applications or security required. And with our flexible borrowing conditions, businesses can use our capital borrowing in a similar way to a business overdraft.

Comparing business overdrafts with lines of credit, bank loans and flexible loans

Here’s a quick-glance table comparing the benefits, features and suitability of bank loans, credit lines and flexible business loans, like iwoca, vs. business overdrafts:

For short-term funding needs, an iwoca Flexi-Loan is an ideal alternative to a business overdraft. You can borrow between £1,000 and £1 million for a few days, weeks or as long as 60 months, depending on your needs. 

Use our loans like a line of credit, drawing down what you need, when you need it and only pay interest on the funds you use. Plus, we don’t charge early repayment fees, so there’s added flexibility for if your circumstances change. 

Find out how to get a business loan from iwoca and use our loan calculator to see your likely monthly repayments – you can apply in minutes, without all the paperwork.

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