Can I Overdraft My Credit Card? And What Happens If I Do

Understanding how different financial tools function is important for personal finance. Credit cards operate distinctly from bank accounts, particularly concerning spending limits. This distinction is important when considering “overdrafting” a credit card. This article explores the mechanics of credit limits, the rules governing transactions that exceed these limits, and the potential repercussions.

Credit Cards and Spending Limits

A credit card provides access to a predetermined amount of borrowed funds, known as a credit limit. This limit represents the maximum balance you can carry on the card, encompassing purchases, cash advances, interest, and fees. A credit card extends a line of credit from a financial institution, unlike a bank account which holds your own deposited money.

The available credit on your card is the difference between your total credit limit and your current outstanding balance. For instance, a card with a $5,000 limit and a $1,000 balance has $4,000 in available credit. Credit card issuers determine these limits based on several factors, including an applicant’s creditworthiness, income, and payment history. Consistent on-time payments and a responsible credit history may lead to credit limit increases, while a decrease in income could result in a credit reduction.

Exceeding Your Credit Limit

The question of “overdrafting” a credit card is often misunderstood due to its association with bank accounts. Generally, if a transaction would push your credit card balance over its established limit, the transaction will be declined. However, there is a specific exception related to “over-limit” coverage.

Under the Credit Card Accountability, Responsibility and Disclosure (CARD) Act of 2009, credit card issuers cannot approve transactions that exceed your credit limit and charge an over-limit fee unless you have opted into this service. This opt-in provides permission to the card issuer to allow transactions that push you over your limit, with the understanding that a fee may apply. If you do not opt in, your card issuer must decline the transaction if it causes you to exceed your limit, and they cannot charge an over-limit fee.

While this regulation has significantly reduced over-limit fees, some minor transactions or recurring charges initiated before the limit was reached might still process, potentially leading to an over-limit situation even without opt-in.

Consequences of Exceeding the Limit

When a transaction causes a credit card balance to go over the limit, due to opt-in or issuer discretion, several consequences can arise. The most direct is an over-limit fee.

These fees are capped by law; a first over-limit fee can be up to $27, and a second fee within six months can be up to $38. However, the fee cannot exceed the amount by which you went over the limit. For instance, if you exceed your limit by $10, the fee cannot be more than $10. Issuers typically charge only one over-limit fee per billing cycle.

Exceeding your credit limit also impacts your credit score, primarily through the credit utilization ratio. This ratio compares your total credit card balances to your total available credit; a higher ratio indicates increased credit risk. A ratio above 30% can negatively affect your credit score, as it suggests greater reliance on borrowed funds. Consistently going over the limit can also lead to other adverse actions from the card issuer, such as a reduction in your credit limit, an increase in your interest rates, or even the closure of your account. These actions can have lasting effects on your credit profile.