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A layman's guide to UK bank charges

• How do banks make money?
• How is interest calculated?
• Do banks make errors?
• If so, what kind of errors?

It is reported that the UK banks made profits of £75 from every customer for the year 2004-2005, a rise of 13.4% over the previous year. They outperformed power and water companies, High Street stores, phone firms and insurance companies. So how do they make such sums amounting to many billions? Quite simply, by charging for their services, levying penalties should your account go overdrawn and charging interest on loans, mortgages and overdrafts. Frequently, one problem leads to another, e.g. when a penalty charge is made and this results in other charges being applied because of a lack of funds. It is therefore vital to monitor bank accounts to ensure that (a) sufficient funds are available to meet outgoings, and (b) that the bank is not overcharging.

How is interest calculated?

There are basically two types of account to consider, having either authorised or unauthorised overdrafts. With an authorised overdraft, the bank would normally seek some kind of security, e.g. a charge over property, or a life insurance policy. From the bank's viewpoint, this is a relatively safe form of borrowing and attracts a lower interest charge than unauthorised borrowing. Typically, interest rates would be about 10% or less for authorised borrowing and 20-30% for unauthorised borrowing. Interest rates would vary according to the degree of risk involved. Normally, a limit is set on the overdraft, and penal rates are applied should this overdraft limit be breached. A typical arrangement could be an interest rate of 5% over base rate for borrowings up to £10,000 and a fixed rate of 29.5% for amounts over this limit. Base rate is the rate set by the relevant country's monetary committee.

Interest is calculated on the daily cleared balance. This is NOT the figure shown on the bank statement, as this figure may include cheques credited to the account, but going through the clearing process to verify payment. So the cleared balance will normally be less than the statement balance. The clearance cycle at present for the main UK banks is two banking days. This means that a cheque paid in on Monday should be cleared by Wednesday, but a cheque paid in on Thursday or Friday will not clear until the following Monday or Tuesday, or even longer if there is a bank holiday in between. Obviously, this must be taken into account whenever interest calculations are made.

Do banks make errors?

In our experience, quite frequently! Clearly, banking is big business involving many staff at many different levels, so the chances of errors when dealing with numbers is high. How easy is it to misread a three for a five, or to switch two digits around when entering a large number? Considering the volume of transactions going through the clearing system, it is in fact surprising that the majority go through without a problem. However, when things do go wrong, the problem escalates, as the additional charges then result in further charges, and so on. Our mission is to ensure that mistakes are rectified by providing both the bank and customer with the correct information.