Carrying a high credit card balance can be very frustrating especially when you look at your statement and see that you are getting charged hundreds of dollars of interest a month. If you’re like me you might be wondering if there is a faster, better way to pay off your credit cards than just making the monthly payments. In short, there is.
You might have heard about balance transfer credit cards, but never took the time to look into them. These days credit card companies are offering a myriad of incentives to get consumers to apply for and use their credit cards. Some of the common incentives are rewards points, low introductory APRs, and balance transfer credit cards.
A balance transfer credit card is a credit card that has a low introductory rate. Typically this rate will be zero percent for six to twenty one months(the highest I have seen lately). Basically, any balance you transfer over will not accumulate interest until the introductory time period ends.
What is the Benefit?
You have the opportunity to pay less money in interest. Let’s say you have $12,000 on a credit card with an APR of 10%. Over the course of the year you will pay about $1,200 in interest. This gets added to the balance of the card and eventually you will have to pay that off.
Let’s say that you are able to get a balance transfer card with an introductory APR of 0% for 21 months and a credit limit of $7000. If you transfer half of your credit card balance onto the new card you will only pay about $600 in interest in the course of a year.
Since you aren’t paying as much in interest, each payment makes a bigger dent in the principle allowing you to pay down your credit cards faster.
As you probably guessed the math isn’t quite as simple as shown above. Most of your balance transfer credit cards will charge you a balance transfer fee. This usually ranges anywhere from 0-5%. If we use 5% as the fee in the above example, the balance transfer credit card company would charge you $300 to transfer $6000 off of your old credit card. This amount gets added to your new credit card, so you would have a balance of $6300 on your new credit card.
Obviously, you are going to have to work out the numbers and see if it makes sense for you to do a balance transfer. In the above example you would still be saving $300 dollars over the course of the year. If you have a really high interest rate and a high balance, a balance transfer could be what you’re looking for.
Another drawback is that although you won’t be paying interest on the balance transfer for your introductory period, you will still be required to make a mininmum monthly payment. When I did a balance transfer about a month ago of about $5800, I have a minimum monthly payment of $89 for the balance transfer card.
The reason this is a drawback is because I am unable to use that $89 to pay down my higher interest rate credit card. The flip side though is I’m not paying any interest on that $5800 yet.
Another drop back to balance transfer credit cards is that you have to be really careful and make your minimum monthly payments. If you read the fine print they will usually say that if you make a late payment you are subject to a $35.00 penalty and your APR can be raised to 29.99%. If you make a late payment you could end up worse off than you were to begin with.
Also, if you decide to do a balance transfer DO NOT charge anything else to the credit card. I repeat DO NOT charge anything else to the credit card. Typically, the way most credit cards work is any payment you make gets applied towards your lower APR purchases first. Depending on the credit card agreement your balance tranfer might have an APR of 0%, but any purchase you make might have an APR of let’s say 10%.
This would mean that any purchases you made would collect 10% interest until you paid down the entire balance transfer at which point your payments would be applied to your purchase. DO NOT MAKE NEW PURCHASES ON CREDIT CARDS YOU HAVE DONE A BALANCE TRANSFER TO!
The final drawback to a balance transfer credit card is that you just reduced the balance of your old credit card. If you haven’t changed your spending habits, then you will just max that old credit card out again and you will have more credit card debt than before you did a balance transfer credit card.
Balance transfer credit cards can be a great tool to save money on interest and help pay down credit card debt faster. However, you can also shoot yourself in the foot with them pretty quickly. Use them wisely and read and understand the fine print.