If you’re struggling with credit card debt, a balance transfer credit card can save you money on interest while you repay it.
Fortunately, I haven’t used balance transfer credit cards in a long time (because I haven’t carried credit card debt in a long time). But there was a time when I used balance transfers left and right – shuffling debt from one credit card to another in order to stave off the interest…and the inevitable crash with the a financial wall towards which I was rocketing.
For the financially-savvy, balance transfer offers are a way to borrow money cheaply. For others struggling with credit card debt, 0 percent balance transfer offers can be wolves in sheep’s clothing. Yes, balance transfers provide temporary relief from crushing interest rates, but sometimes they end up exacerbating the problem because they give you even more credit which can, of course, lead to more debt than you started with.
In an effort to consolidate balance transfer advice from around Money Under 30, here I’ll discuss how balance transfer credit cards work, when to transfer a balance, and what to watch out for.
How Balance Transfer Credit Cards Work
A balance transfer is simply paying off one credit card with another.
Hopefully, it’s pretty obvious that a balance transfer doesn’t really help you pay down debt; it simply moves the debt from Card A to Card B.
So why bother?
Normally, most credit cards charge fairly high interest rates (12, 15, even 20 percent). If you carry a $5,000 balance on a card with a 20 percent interest rate, you could be paying up to $83 a month just towards interest! So if you pay $200 a month towards that debt, only $117 actually goes to pay down the principal…the rest goes to the bank.
But banks compete with one another. So if you’re paying Acme Bank $83 a month in interest, Best Bank thinks “I’d like to get that revenue some day.” Best Bank then mails you an offer for a new credit card that promises a 0 percent APR on balance transfers for 12 months.
Let’s say you go for. You apply for the credit card from Best Bank and (assuming you have excellent credit) get approved. You give Best Bank the account number and balance of your credit card with Acme Bank.
Best Bank pays off Acme Bank and charges you a fee of a few hundred dollars to process the transfer. But then you don’t pay any interest for a full year. Your $200 monthly payment goes straight towards paying down your debt. Ultimately, you save hundreds in interest.
Of course, balance transfers don’t always save you money. Depending on how much you owe, your current interest rate, and the cost of transferring the balance (the balance transfer fee), it may not be worth it.
Is a Balance Transfer Right For You?
Before you transfer a balance, ask yourself the following questions to figure out if it’s the right move for you.
Are you absolutely committed to getting out of credit card debt for good? Or is there a chance you’ll transfer the balance and then start using the old credit card again?
Will I be approved for the balance transfer card? Believe it or not, balance transfer cards require excellent credit – and that may not be enough. Banks also won’t extend new credit if you’re maxed out or very close to the limits on all of your credit cards. You’ll stand the best chance of getting approved for a new balance transfer credit card if your credit score is 700 or above and you’re credit card debt is less than 50 percent of the combined credit limit on all of your credit cards. This is called your utilization ratio.
Unsure of your utilization ratio? Grab a free copy of your credit report from annualcreditreport.com. Each account on your credit report should show a balance and credit limit. Add up all your balances, then add up all your credit limits. Divide the total credit limit by the total balance to arrive at your utilization ratio. Free credit scoring tools like CreditKarma can also do this for you.
Will you save more in interest than the cost of the balance transfer fee? (Use our balance transfer calculator to find out.) Most credit cards charge between 3 and 5 percent of the transferred balance to do a transfer. Some cards cap this amount at a couple hundred dollars.
An example: If you’re repaying a debt at a 15 percent APR or higher over six months or more, a 0 percent balance transfer with a 5 percent fee starts to make sense. (The actual break even-point depends on your actual APR and your monthly payments, of course.)
If, however, you could repay the debt in less than six months, you might not actually save anything with the 0 percent balance transfer. You would, however, be tempted to let the debt hang around longer because you’re not paying interest…for now. You never know when you might face an emergency or lose your income and get stuck with an unpaid debt and an expiring introductory interest rate.
Important Things to Remember if You Do a Balance Transfer
You can avoid unpleasant surprises during the balance transfer process by preparing for the following scenarios.
You may not be able to transfer your entire balance. Although credit card applications will give you space to list multiple balances that you’d like to transfer, they don’t guarantee that they’ll transfer all of them. The bank will give you whatever credit limit they decide you should have, and it may be less than the balance you’d like to transfer.
If this happens, the balance transfer will still go through, but the new card will pay off some of your old balance, just not all of it. In this case you should make minimum payments on the new credit card while you pay off the old card’s balance as quickly as possible.
Read a card’s terms and conditions carefully to determine how long you have to transfer balances to take advantage of the intro rate. Some cards may require you do it at the time of application while others may give you several days or an entire billing period. In the latter case, you may want to apply for the card and then transfer balances once you know your credit limit.
You should avoid using the new balance transfer credit card for purchases. Although many cards that offer a 0 percent introductory rate on balance transfers also extend the no interest offer to purchases made within the introductory period, you have to read carefully. On some cards, the 0 percent offer may only apply to the transferred balance and those new purchases will result in finance charges.
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