Credit cards are a financial instrument followed by numerous advantages and disadvantages. Credit cards could offer many benefits if used properly, or be a reason for a headache if not used in a proper manner. For this reason, you should make a careful (informed) decision regarding the need for a credit card, and the manner in which you will use it. Thus, the first thing that someone should do is to have information and understand how credit cards work.
That being said, it could be noted that one problem that could appear when having (and using) credit cards, is the level of debt. Namely, you might be faced with large outstanding balance and most probably being charged with high APR. Therefore, you need to find a way to either repay your debt or at least lower your interest cost. The best thing would be to do the both if possible. One choice you have to lower your APR along with the possibility to repay your debt faster, is the credit card balance transfer. Hence, it is important that you have gathered information and understand what credit card balance transfer is and how it works.
Balance transfer defined
If you are using a credit card(s) there is the possibility (danger) that you have accumulated high-interest debt. In addition, you might be faced with a multiple debt payments on multiple credits card, even if you are paying the minimum amount on your credit cards. Faced with this situation, you could start searching for a solution to your credit card debt problem. So, in general, you have couple of basic options, either repay the debt in full, try to decrease the interest cost or consolidate the multiple payments into one payment. While the first option imposes the need for you to have substantial amount, depending on your debts, the second could be executed using a credit card balance transfer.
For this reason, the first thing you should do is to understand what credit card balance transfer is. It represents a process of opening a new credit card with low (even zero APR sometimes) interest rate, for the purpose of paying off balances on existing credit cards (or loans). The paying off is performed by transferring the existing balances to your new credit card.
Things to know about balance transfer
Before going for the balance transfer credit card, there are things you should be aware off. Knowing these things would help you to better understand the credit card balance transfer. These are:
- Understand the difference between balance transfer and repaying – you might misinterpret the purpose of balance transfer. When you make a credit card balance transfer you are not becoming debt free. You simply transfer the existing balance, and continue paying monthly payments. The aim of doing this is to benefit from the lower APR, thus saving money.
- Consolidate multiple payments – is possible thanks to the balance transfer. Meaning that, in case you have more than one credit card, you will have multiple monthly payments. Keeping track of multiple payments across different credit cards can be time consuming and confusing. Thus, by making a balance transfer you will consolidate these multiple payments into one monthly payment.
- Balance transfer is not limited to credit card debt – although it is most commonly used for credit card debt, you can also use it for other debts. Namely, you can use balance transfer to consolidate loans used for different purchases (such as car, furniture, etc.). In general, it could be done for most monthly installment payments. The process is execute through checks issued by the bank (credit card issuer).
- Know the balance transfer fees – since nothing is given for free, neither is the balance transfer option. For this reason, you should always pay attention to possible fees you will be charged with. Make sure that you are informed about the balance transfer fee charged as a percentage of the total amount you want to transfer. Typical balance transfer fee could be around 3%. Meaning that, when calculating expected savings from balance transfer to low interest rate, you must add the transfer fees. Let’s say that you want to transfer a $10,000 credit card debt, this means that you will pay $300 in balance transfer fee.
- The expiration date of low APR – do not forget that the new credit card with low APR has an expiration date. Stated differently the low APR offer is for a limited time, often around 12 months (it can be for longer or shorter period). After the predetermined period of low APR is over, the interest rate will drastically increase to more than 12% (depending on multiple factors). This is concerning you because, this APR is most probably higher than what you have paid on your old credit card. Thus, if you fail to pay your monthly obligations on time, and repay the balance owed (at least portion of it) during the APR promotional period, your initially planned savings will disappear.
- Control your shopping urges – don’t get into the psychological trap of making new purchases just because you have a low or even a 0% APR balance transfer on your new credit card. Make sure that you go through the entire agreement carefully. This is because in some cases the low interest rate is only applicable to the balance transferred, and is not applicable to new purchases. Consequently, all new purchases bear higher APR. Make sure you know whether the low APR is applicable only to balance transferred or it can apply to new purchases.
- Get acquainted with the Credit CARD Act of 2009 – dedicating some time to go through the Act will help you better understand your rights as a consumer, not only in terms of balance transfer, but also for other credit card related issues. In accordance with the aforementioned Act it is required that: a card issuer, upon receipt of payment, to apply amounts in excess of the minimum payment amount first to the balance bearing the highest rate of interest, and then to each successive balance bearing the next highest rate of interest, until the payment is exhausted (Source – Public Law No: 111-24 (05/22/2009)). This means that you cannot influence the way your payments are disbursed if you have low interest balance transfer balance and new purchase balance with higher APR on the same credit card. For this reason, it might be wise not to use your new balance transfer credit card for purchases.
- Resist the temptation of repeating the process – avoid repeating the balance transfer process after the low APR period is over. Although it might seems to you that you could be riding the benefits from low APR continuously, don’t do it. Repeating the balance transfer process could have negative impact on your credit score. Lenders might perceive you as a risky borrower because you are constantly retaining higher level of debt, although you are using the balance transfer.
- The importance of good credit score – in order to enjoy better terms on your balance transfer credit card, it is highly important for you to have high credit score. The higher your credit score, the better terms you will get from the lender. This means that you can even qualify for a 0% APR on your balance transfer. Keep in mind thought, that maxing out your credit card could influence your debt-to-income ratio.
Should you transfer your credit card balance
Whatever anyone says, the final decision regarding the need to make a balance transfer or not, should and will be entirely yours. For this reason, you should gather as much information as possible, and understand all important aspects. Therefore, you should consider some of the advantages and disadvantages before making a balance transfer. Some of them are listed below:
- Save money on your interest rate – lower interest means that your debt is much cheaper, thus the lower the interest the more you save on your outstanding balance.
- Consolidate multiple payments into one – this will drastically simplify your finances and make your life easier.
- Pay off your debt faster – because you are paying lower (even 0%) APR for a certain period, it means that you could be making larger payment toward the principal amount. Meaning that, the money you are saving could be directed toward repayment of the outstanding balance, above the minimum payment required by the credit. This way you are able to repay your debt much faster. This is a benefit only if your financial situation allows you to redirect your saving towards balance repayment.
- You will pay a balance transfer fee – this fee could eat up portion of your savings. Therefore, make sure you understand all fees and possible savings associated with the balance transfer. Do not end up making the balance transfer, while fees are eating up your savings.
- Effect on credit score – balance transfer could have a small negative effect on your credit score in the short run.
- Higher interest rate after low interest rate period is over – most probably your new credit card will charge you a higher interest rate after the period is over. Thus, not repaying your debt during the low interest rate period, will result in increased cost on your outstanding balance.
Whatever decision you are making in relation to your finances and financial products, always consider the advantages and disadvantages. This can be a strategy which will help you to easily understand all possible benefits, as well as the things you could lose.
How to choose adequate balance transfer offer
Although each and every one of us might have different needs when it comes to a financial matters, we still search for some common features when it comes to balance transfer. Thus, you should make sure that you have considered all available options before choosing the balance transfer offer. Consequently, in order to get the most out of your balance transfer, you should pay attention to the following:
- Search for an offer with 0% APR, and no balance transfer fee.
- If multiple offers fulfill the aforementioned criteria, then look for the period of the offer. The longer the period of 0% APR the more you save.
- Make sure that you understand how you will save, and accordingly calculate your possible savings. See how balance transfer fee will influence your savings level.
- Make an effort to repay your debt before the low interest rate period is over.
- You will have to decide what you want to do with your old credit card account. If you keep your old account open you could be charging small amount (gas bill for instance) every month or so and paying off this balance in full. This could have positive impact on your credit score. On the other hand, it could lead toward increase in your debt levels, if you start using your old credit card on regular bases for larger purchases.
- Make regular payments, missing a payment could result in termination of the low interest rate agreement. Afterwards, you will be stacked with paying a regular interest rate.
- It was previously mentioned that you can increase your score by charging small amounts on your old credit card. If you start making larger purchases with the old credit card, then you will be in worse position, since you have accumulated additional debt.
It is obvious by now that a balance transfer has the potential to save you a substantial amount of money. This is if it is executed in the right manner. Therefore, the first thing you should do before making a balance transfer, you must read the agreement of your existing credit card, and get acquainted with the terms of the deal. Next, although interest rate is highly important, other aspects of the new credit card deal should be considered before making any final decision.
Balance transfer example
After explaining what balance transfer is, it is time to see an illustrative example about the benefits one might have from balance transfer. Before going to the example, it should be pointed out that this is an illustrative example. If you are planning to make a balance transfer, ask from the bank (your new credit card issuer) to give you exact calculations. This way you will have the information applicable to your financial situation.
So let’s consider a person who has a current balance of $7,000 being charged with 16% APR. In accordance to the current terms, if a fixed payment of $300 is made each billing cycle, it would take a 29 monthly payments for the balance to be repaid. The interest charge would be approximately $1,440.
Now imagine that there is a credit card balance transfer offer with 0% APR for 15 months (the 0% applies for the first 15 months). It should be noted that there are offers where the 0% APR period could be more than 15 months. After the low interest rate period is over, the regular APR is 17%. There is also a 3% balance transfer fee. Under the assumption that the monthly payment is fixed at $300 each month, it will take 24 months for the balance to be repaid. This is five months less until the debt is paid off compared to the current situation. In addition, by paying off the balance in 24 monthly (where the first 15 months are with 0% APR) the interest saved would be a bit more than a $1,000. This saving is after the balance transfer fee of $210 is paid.
So how would you feel if you could save hundreds if not thousands of dollars in interest charge? How would you feel if you have the possibility to pay off your credit card debt months even years earlier? Before applying for a credit card balance transfer, shop around for an adequate offer – You can find balance transfer credit cards examples as well as offers easily online.