If done correctly, a credit card balance transfer can greatly reduce the length of time you have to pay off high-interest debt, but only if you are smart about how you use it. When done correctly, a balance transfer can save you money; when done incorrectly, it can simply straighten out the pain longer.
Before we go over the steps to perform a balance transfer, we need to talk about some warning signs. Balance transfers are often thought of as a financial cheat code and can feel like an easy way out of paying off debt; however, they come with traps. There is a risk of being hit with late fees, a surprise increase in your interest rate on the transferred debt, and your credit score being affected. Balance transfers work best when they complement a larger plan for paying off debt; a balance transfer is not just a temporary escape route.
Think about them as fire; when controlled they can be beneficial; however, when not controlled they can be hazardous.
How You Can Save Serious Money With Balance Transfers
Assume you have credit card debt with a high-interest rate; the longer you carry this debt it will cost more each month due to the continued accumulation of interest on your account. With a balance transfer you will be able to stop or reduce the amount of interest being charged, allowing you to apply a larger portion of your monthly payment towards the actual debt, rather than fees.
For example, someone with $10K in credit card debt at a 20% interest rate will pay nearly $2K in fees by the end of one year. By moving this debt onto a card with a 0% promotional rate for one year, that same person will have saved $2K, because this $2K will remain in their pocket and not go to the bank as fees.
The act of using one credit card to make a payment on another credit card account is referred to as a credit card birth transfer. The transfer will reduce the balance of debt on one account (credit card), while increasing the total debt balance on the as yet unused card.
A clarification for those confused; balance transfers do not eliminate debt; they simply move it to a new location. You have learned that by changing your plate but not finished eating.
The transfer has no direct correlation to killing the debt off. Just like rearranging food on a table, it does not mean you are done eating; therefore, if the rate you pay in interest is less than when the debt was on the old card, the amount of money applied to the previous debt, {in theory}, will reduce the remaining balance that is being applied to the new debt.
The actual benefit of transferring debt comes from the decrease in interest, thus allowing you to make a more significant payment to satisfy the account (past, present, and future) when you put your money into a new account.
The absolute power of the advantage of the balance transfer lies not with the actual transfer of debt alone but rather with what you do with that debt after making a balance transfer.
Most balance transfers include some type of transfer fee, which is normally between 3% and 5% of the total dollar amount being transferred; the fee will be added to your new balance.
If a balance transfer was completed on several thousand dollars, your overall debt increased as a result of the associated cost incurred to complete the transfer. Thus, the determination of whether to do a balance transfer would then be made based on whether the cost of interest-saving would be more than the cost of the transfer.
If you’re going to be carrying a balance due on high-interest credit card debt for an extended period of time, transferring it to a low or even 0% promotional credit card will help you make progress by attacking the actual debt (i.e., the principal) rather than just paying interest on the debt. If, however, you were just going to pay off the balance with just a few payments, it makes no sense to pay a balance transfer fee.
In other words, it’s all about timing.
Three Common Mistakes That People Tend To Overlook
The first is the rate after the promotional period. If the rate is higher after the promo period than what you already have, you will have now put yourself in a worse position.
Secondly, the standard minimum payment terms will still apply to the new card, so if you happen to miss a payment or are late by even one day, you can lose your promotional rates along with any applicable fees.
Lastly, it’s possible for your credit score to take a dip. Opening a new credit card, even one to transfer a balance to (assuming you already have credit cards), will shorten your history and generate a number of hard inquiries about you on your credit report, which will cause your score to drop temporarily.
A balance transfer of a credit card may be a great way to pay off your high interest loans more quickly; but it should not be seen as ‘free money’ or a solution to your debt issues. Rather, the most effective outcome will depend on the borrower’s willingness to budget and make aggressive payments on their loans after obtaining a credit card balance transfer.
When used responsibly, a credit card balance transfer can help you get closer to being debt free more quickly. When used irresponsibly, a credit card balance transfer simply delays the inevitable.
