You may have overheard friends talking about doing a credit card balance transfer. Some people think doing a balance transfer on credit card debt is a smart move. But is it really? Let’s take a look.
What is a Balance Transfer?
At its root, a balance transfer is more of a marketing and advertising tool than a financially smart move.
The trick by the credit card company is to make you think transferred balances will pay down your debt quickly. But what really happens during the low or no balance transfer offers is the monthly minimum payment is significantly reduced so by the time the introductory interest rate expires you’ll be stuck on the card at a much higher interest rate.
The balance transfer cards are trying to induce you to move your debt over to the transfer credit cards and then you don’t pay the debt off.
How Does a Credit Card Balance Transfer Work?
For example, if a balance transfer offer gives you 0% intro APR for 15 months and you have $15,000 of credit card debt at 17% you want to shift to the offer then let’s take a look at the math.
Current Credit Card Payment Math
Your current credit card may charge you a minimum monthly payment of 2% of your outstanding balance. By making just the minimum payment your $15,000 of credit card debt will result in a minimum initial monthly payment of $300. And that minimum amount will continue to decline as you pay the debt off. If we apply traditional minimum payment math, that card will take more than 30 years to pay off and you’ll repay about $47,000 total. That all assumes you won’t add anything to the balance until you pay the card off.
Balance Transfer Credit Card Payment
With a 0% introductory rate offer while no interest will be charged, the monthly minimum may be $75 a month for the first 15 months. By the end of the intro APR period, you would have reduced your $15,000 of debt by $1,125. That would leave you a balance of $13,875 at the current rate for the credit card of 15% to 24%. You’ll have to pay attention to the advertiser disclosure to see what the final rate will be once you get stuck with a remaining balance.
But We Can’t Forget the Balance Transfer Fees
Credit card companies will typically charge a balance transfer fee. Paying about 3% of the transferred balance as a fee is typical.
So your original $15,000 of credit card debt you wanted to shift over after you add in the fee tor the balance transfer, winds up being $15,450. From that, you’d subtract the $1,125 in payments and your balance at the end of the intro rate period would be $14,325.
Just to show you how clever the creditors are, the balance transfer fee actually covers their cost to lend you the money during that 0% APR period.
So How Can We Use the Balance Transfer Offer Wisely?
The math is simple to get the most out of the balance transfer offers. All you have to do is pay the balance off in full by the end of the introductory APR period.
On our example $15,000 plus the balance transfer fee of $450 you would need to make a monthly payment of $1,030 to pay off your debt in full in the 0% introductory APR period at the balance transfer rate. Your only fee would be that 3% balance transfer fee.
But the reality is most people can’t afford a monthly payment that might be three times as high as their current minimum monthly payment. The deck is stacked against you to pay down your debt within the balance transfer period.
Will a Balance Transfer Offer Help You to Simplify Your Debt Repayment?
A balance transfer offer, in a perfect world, can help you to simplify your monthly payments. If you have multiple debts you want to consolidate into one payment, then using a balance transfer offer may be a something to consider if you feel you can pay the balance off in full by the end of the introductory rate period.
You can also transfer debts other than just credit cards. If you ask the lender, they may also give you a few blank checks you can use to pay off any other debt that can’t be transferred online using the lender website.
How to Do a Balance Transfer Successfully
If you have determined you will be able to pay off the total amount of debt you will transfer to the low or 0% intro APR offer then here are the steps you should follow.
- Read the full terms and conditions for the balance transfer offer you are considering. You will want to pay very close attention to confirm you will need to continue to make any monthly payments due on your other debts until the balance has been paid off with the transfer.
- Total up all the debts you want to transfer and don’t forget to add in the balance transfer percentage your new creditor is going to charge you.
- To calculate how much your monthly payment will need to be to pay it off in full by the end of a 0% introductory interest rate period, divide the total balance you are transferring by the number of months in the introductory period. For example, a transfer of $10,300 (transfer plus fee) would require a monthly payment of $858.33 if 0% period was for 12 months. Can you afford to do that?
Don’t be a Balance Transfer Gambler
One trick people like to pull is to keep transferring their debt to the next balance transfer offer that comes along. They plod along making the ridiculous minimum payment that will never pay down the debt much. When they near the end of the introductory rate period they hunt for the next offer and move the balance over to a new card.
This is fools gold.
This is a non-sensical use of these offers because:
- You are not really paying down the debt much.
- The debt is just being pushed into the future.
- The continued application of new cards and more lines of credit can reduce your credit score and leave you with a trail of relatively new accounts.
- In difficult financial times the balance transfer offers dry up and then the big balance becomes stuck on a high-interest rate credit card.
- At the end of the day you’ve really only just fallen victim to the clever marketing efforts of the credit card company to bait you onto their card.
And if you add more to your credit card debt while you are playing the balance transfer shuffle, you are just digging a deeper hole because of the way payments made to the credit card account will be applied.
You Need to Know About the Credit CARD Act of 2009 if You Add Debt
If you start loading up your new balance transfer account with regular charges, it will be at the significantly higher regular interest rate. According to the rules under the Act, any payment you make to pay down the transferred balance with extra new debt on the account, won’t work. Payments must be applied to the highest interest rate balances first and when your introductory period expires you won’t have made much of a dent in that debt at all.
Officially, Section 104 says, “Upon receipt of a payment from a cardholder, the card issuer shall apply amounts in excess of the minimum payment amount first to the card 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
So as long as you are using or adding to the balance on the new card at regular rates you won’t be able to ever have your payment applied exclusively towards paying off the balance transfer amount.
Here is How You Can Punk the Creditors At Their Own Balance Transfer Game
The one thing creditors don’t necessarily want is an educated consumer who reads the terms and conditions, shops for best offers, and pays the debt off in full by the end of the introductory period.
So the person who is the most likely to get the biggest benefit out of the balance transfer game is the person who can easily pay the much higher monthly payment to dispose of the debt before the introductory rate expires. People struggling with their bills don’t typically fall into this category.
Here is What You Should Do
If you are thinking about doing a balance transfer because you are struggling with your debt, look at other ways to tackle your debt first.
You can use my free online Get Out of Debt Calculator to see how the major solutions add up for you.
What you won’t see is any mention of using a balance transfer to get out of problem debt. And now you know the reason why. Bottom line is it’s a marketing trick that is sexy and attractive but isn’t the right move if problem debt is the issue.