Credit card balance transfer
One of the easiest ways to consolidate your debt is through a credit card balance transfer: you transfer the balance (the money owed) in your high interest credit card accounts to an account with a 0% (or very low) introductory rate. The introductory (also called promotional) period will typically last anywhere between 12 and 24 months (1 to 2 years).
Once this promotional rate period is over, the rate spikes back up to a normal credit card rate, so you must be extremely careful not to consolidate debt that carries a lower interest rate compared to the normal balance transfer credit card rate, unless you are absolutely sure that you'll be able to pay it off before the end of the promotional period.
It is critical that you use the balance transfer option to start a course toward debt reduction or debt elimination, not as an opportunity to increase your available credit, ring up new charges, and increase your overall debt burden.
What to look for in a balance transfer credit cardWhen you compare balance transfer credit card offers, you want to find one that has a low fee for balance transfers, a long 0% interest-free period and a relatively low interest rate after the intro period ends. Other things being equal, you'll want to privilege a card that doesn't apply any over limit fees or late payment fees. Carefully review the credit card agreements for terms and conditions to learn the actual costs you will incur. In particular, you will want to review and compare the following:
Balance transfer fee
This is a very costly fee that is often overlooked. It typically amounts to 3% to 5% of the transferred amount. The lower the better, especially if you plan on repaying your entire balance before the end of the promotional period. If not, you must consider the balance transfer fee in conjunction with the normal rate and length of the introductory period to find out the true cost of your balance transfer credit card.
Length of the introductory (promotional) period
You'll want this to last at least 14 months, and possibly 18 months or more.
Promotional APR (teaser rate)
You should be able to get a 0% (interest free) rate during the introductory period. Remember to look at the actual rate that will be applied to your card once you are approved, because in some cases - if your credit score isn't up to par - the actual introductory rate might be higher than the offered 0%.
Non-promotional APR (normal rate)
Look carefully at what the final rate is after the teaser time period expires, especially if you don't have a realistic plan in place that will allow you to pay off your entire debt by the end of that time period. If the post-promotional period interest rate is higher than the one you are currently paying on your debt, you may have to pursue a different consolidation option. Finally, read the fine print to make sure that you will not be charged a higher rate by transferring your balance with a check or direct deposit. If so, execute the transfer over the phone.
You'll want to shop for a credit card with no annual fee, unless it's a cash back card and you have estimated that the cash you will earn on your basic expenses (such as groceries and gas) will offset by a wide margin the annual fee charged for the card. For example, if the card offers a 1% cash back and carries a $100 annual fee, your regular expenses on gas and groceries will have to amount to $10,000 per year in order to offset the annual fee with the cash back you'll earn ($100 / $10,000 = 1%).
Late payment penalties
Check late payment fees and, more importantly, whether the APR will go up to the default rate (or penalty rate) if you make a late payment during the introductory period.
Over limit fees
Ideally, you'll want a card that doesn't charge any fee. Regardless of whether the card charges an over limit fee or not, you want to keep your balance at a safe distance from the limit in order to not hurt your credit score.
7 Mistakes to Avoid when Making a Balance Transfer
1. Don't apply for multiple credit cards all at once
Instead, find the one offering the best balance transfer deal and apply for that.
Applying to a large number of credit cards within a short time period will damage your credit report and score (this has been confirmed by myFICO), which in turn will lower your chances of being approved.
You will want to research the available balance transfer options, select the one that looks preferable for your situation, and apply to that credit card. Only if you are not approved you will want to consider applying to another card. Keep in mind that each time you apply for a new card there might a temporary, small decrease in your credit score due to an inquiry added to your file.
2. Beware when transferring the balance with checks or direct deposit
Your existing credit card issuer might mail you some checks (sometimes called "Check Cash Advances," "convenience checks" or "credit card checks") which you can use to transfer the balance from your old cards.
The problem is that with some banks (such as Bank of America) if you use these checks or the direct deposit method to transfer your balances, you will usually be charged a much higher interest rate (higher than the regular rate applied to purchases: it's not uncommon to see a 19.99% variable APR on these checks) once the promotional introductory period expires compared to the interest that will be charged if you transfer the balance online or over the phone. Check the fine print on your balance transfer offer to see if this APR difference applies to your case and, if it does, avoid using those checks and simply call the card issuer to make the transfer.
The only rare case in which you might want to use them is if you have a temporary cash flow problem for which you need some cash (and you'll need cash only if there is an item you need to purchase that can't be paid for with a credit card, for example a rent payment). But make sure you pay off that cash advance balance before the promotional period expires and the high APR kicks in.
3. Don't max out your new card with the balance transfer
To avoid hurting your credit score, it is very important to not transfer an amount that will get you too close to the available credit limit on the new card. Avoid transferring a balance which corresponds to 80-90% of your credit limit on the new card. It is advised to keep the credit utilization rate of each account at 30% or below (ideally between 1% and 9%).
Credit scores in fact take into account not only your overall utilization rate (or balance-to-limit ratio, which is your overall debt divided by your total limit on all accounts combined) but also your balance compared to the limit on each individual credit card account (cf. myFICO).
Another reason to not carry a balance that is too close to your credit limit is that there can be penalty rates and penalty fees applied if you exceed the limit, which can easily happen simply as an effect of interest compounding on balances you carry on your card.
4. Don't immediately stop making payments to your old cards
Once you transfer the balance from your old cards to your new card, don't overlook the statements from your old credit card issuer. Until you verify that the debt has been successfully transferred and is not showing up on your old cards, you must continue to make minimum payments until the transfer is confirmed.
5. Don't close your old accounts
There are two common myths related to what to do after transferring the balance to a new card.
The first myth is that you should close your old credit card accounts because this might help your credit score. In reality, closing an account causes your credit utilization rate (or debt-to-credit ratio: used credit divided by available credit) to increase (cf. myFICO), which can result in a decrease of your credit score (as confirmed by Experian). This is why it is advised to keep your old accounts open, even if they have zero balance and no utilization (cf. Experian).
The second myth is that when you close your accounts you should ask the credit card company to report the account as being closed at your request in order to avoid hurting your credit score. This used to be true in the past, but today it doesn't make any difference whether the account is marked as “closed at consumer’s request” or “closed at creditor’s request” (cf. Experian).
If you are afraid you will use the cards, you can always cut them, so you'll not be able to use them even if tempted. You might want to keep at least a credit card for emergency situations (provided you don't abuse and extend the meaning of the term "emergency"). You can always freeze the emergency card on a bowl of ice to make sure you'll not use it lightly.
6. Don't start spending with your old cards
Once you consolidate your credit cards, even if you don't close your original accounts, make sure you remove your old cards from your wallet and put them out of your reach as suggested in the previous tip. Avoid the common error of running those cards back up just because their balance shows zero.
Remember that your debt is still there, you just moved it to a new card. And even if you get a temporary relief from the promotional rate, your monthly payments will go back up once the introductory period ends, so adding more debt would eventually result in a greater problem down the road.
7. Don't be tempted by the 0% rate for new purchases on your new card
You might be tempted to take advantage of that 0 percent period for new purchases that comes bundled with many cards with a 0 percent balance transfer period. Resist the temptation and remember that interest will eventually be charged on any new purchases you make, adding to your total debt, so only focus on your goal of eliminating your debt rather than accumulating more of it.
The Balance Transfer Game (repeating the transfers)
The so called "Balance Transfer Game" refers to the strategy of moving your balance from one 0% balance transfer credit card to another right before the expiration of the promotional rate. This process is repeated over and over with the goal of paying no interest throughout the life of your credit card debt, until your debts are completely paid off.
This "game" unfortunately rarely works in reality. At some point, the constant opening and closing of accounts begins to show up on your credit report, and could have such a bad impact on your credit score that eventually you won't be approved for that next offer, leaving you holding a high interest compounding debt burden.
In order to win the game, you will have to:
- play it with moderation: do not repeat the transfer too many times. In the long run all those low-introductory-rate offers will not be made available to you or you will not be approved anymore. Credit card issuers won't want to be taken for a ride once they see that you have a proven track record of cutting and running. In addition, there is a limited number of good balance transfer credit card issuers, so you will eventually run out of opportunities.
- don't use your additional credit: resist getting into a spending spree, tempted by the additional available credit (often at 0% on new purchases) that is suddenly made available to you
- stay organized: take note of the date in which the 0% promotional rate expires and mark it on your calendar. Back up a couple of months and make another note, reminding yourself to shop around for another balance transfer credit card offer in case you haven't paid off the balance in the meantime.
- don't ignore the balance transfer fee: remember that this will not be a zero cost game. While you can easily find 0% promotional interest offers, there is usually a considerable balance transfer fee charged on your balance, typically 3% to 5% of the amount you transfer over. When you make repeated balance transfer, you will be paying this fee over and over.
Pros and Cons of consolidating your debt with a Balance Transfer
- No interest compounding every month, at least for a while
Even though there will be a balance transfer fee of typically 3% to 5% of the amount being transferred, balance transfer offers usually come with an introductory period during which little or no interest is charged on your balance. This interest cost reduction could provide a fresh opportunity to start paying off your debt.
Reducing the number of credit cards will make it easier to keep track of your expenses, simplify your monthly financial management routine, and help you not to be late or miss payments, since you are going to replace several statements with multiple due dates with one or two accounts and payment dates.
- Only a temporary solution, with only a temporary low rate
If debt consolidation is already a temporary relief (and not a solution) to your debt burden, consolidating your debt by making a credit card balance transfer increases the temporary limitations of the relief by applying a low rate only for a limited time before raising it again. You can try transferring the balance over and over a few times, but eventually you will have no options other than to keep your entire debt on the last credit card your balance was able to transfer to, and be charged with a high interest APR.
- The true cost is often overlooked, and is never zero (don't underestimate the transfer fee)
Be sure to check what the transfer fee will be and take that into account when making your assessment. It is by no means a negligible cost. In some cases, this fee can be more than the amount of interest you'll save by transferring. To calculate the true cost of the balance transfer option, you should estimate for how many years you plan to keep the balance on that card and then the overall interest that will be charged during that period (a combination of the intro rate and the normal rate) in addition to the transfer fee. Finally, compare this cost with the interest cost on your current debt you plan to transfer to make a proper assessment.
- Temptation to increase spending
By opening a new line of credit at a low or zero interest on new purchases during the promotional period, there is a concrete risk of using the new balance transfer credit card for additional spending rather than to pay off the balance. This will result in a bigger debt rather than a smaller one.
- Temporary decrease in credit score
By applying for and getting a new credit card account, your credit score might suffer a temporary decrease, which is in any case negligible (unless you apply to multiple cards all at once, rather than just apply to one).
- It may be difficult to find a card with a credit limit that can comfortably hold all your debt
And you don't want to max out the card (utilize a too high portion of its credit limit), as this can have a negative effect on your credit score as your credit utilization for that card increases, as discussed previously.
How to make the Balance Transfer
The process itself is relatively simple. Although multiple ways of transferring your balance might be offered, some of these options (such as "convenience checks") might be more costly and result in a higher APR down the line.
Therefore, the best and safest way is to transfer your credit card balance is to call the issuer of the new card and ask them to initiate the balance transfer process, which entails them paying off your other balances and placing them on your account.
You will need to provide your new card issuer with the account number, name, and payment address of the accounts you want to pay off, as well as the amount. You will also need the account number of the new balance transfer credit card to which you are transferring the balance.
Q. What types of balances can I transfer? What debt can I consolidate with a balance transfer?
A. Technically, you can transfer balances from any credit card, personal loan, auto loans, or home equity loan from lenders other than the issuer of your new card where you plan to transfer the balance to. You can also pay off gas cards, retail and department store cards. Even though any type of debt can be consolidated with a credit card balance transfer, you absolutely don't want to transfer any secured debt. Just stick to unsecured debt and avoid transferring any unsecured debt that has a lower interest rate than the non-promotional APR on the balance transfer card. You might not be able to pay it off before the promotional period expires, and be left with a higher rate than the original one, in addition to paying a 3% (or more) transfer fee.
Q. After I transfer a balance, do I need to continue to make payments to the other lender(s)?
A. Yes, make payments to your other lenders until you see the transfer show up on your new balance transfer card statement. And if you want to completely close the other account (which is generally not advised since this action can decrease your credit score), you should contact the lender directly.
Q. If I transfer a balance at a promotional rate on a card where I have other balances at my standard rate, how are my payments applied?
A. Payments above the minimum payment due will generally be applied to your highest-rate balance first. Check with your card issuer to see if they follow this rule.
Q. What happens if I don't pay off the entire balance by the time the low-rate offer expires?
A. If you make a balance transfer, unpaid balances at the end of the promotional period will be charged your card's non-promotional Annual Percentage Rate (APR) for balance transfers.
If you use a check or direct deposit to pay off a balance, unpaid balances at the end of the promotional period might be charged a different - usually higher - APR. Check with your balance transfer card issuer for details.
Where to get a Balance Transfer Credit Card
See a list of companies offering balance transfer credit cards. Major banks and financial service companies such as CitiBank, JPMorgan Chase, CapitalOne, Discover Card, and Barklays Bank all offer these type of cards.