What to Watch Out For: Consolidating Debt with Balance Transfer Credit Cards
The Wall Street Journal reported that 0% credit card balance transfers are becoming a rare commodity, especially with credit card companies changing their business models to accommodate the new rules of the CARD Act. Nonetheless they still exist, and when used strategically they can save you money.
But be forewarned: Without proper due diligence and precaution, those 0% balance transfer deals can backfire and end up costing you a lot of money.
Factoring Transfer Fee Cost into Your Debt Consolidation
Credit card issuers use 0% balance transfer offers to obtain new, high-quality customers by allowing them to transfer debt from other credit cards to a new card with a 0% interest rate. If you have a high enough FICO score to qualify for one of these offers, you will pay a transfer fee of 3-5% of the transfer amount.
Is it worthwhile? Not always. It can depend on the length of the term of the promotional rate. Consider that if there is a 5% balance transfer fee, and the 0% promotional rate lasts only 6 months, that effectively amounts to a 10% annual interest rate. Use a balance transfer calculator to crunch the numbers and find out how much money you will really save. Also keep in mind that in many cases, cards offering low- and 0%-interest balance transfer deals tend to skimp on rewards, so if you’re transferring a balance from a rewards card, you may be losing all your reward points.
0% Interest Rate Isn’t Forever
The 0% offer is a loss leader with a limited term, often about six months. Read the fine print and find out how high the interest rate will be after the promotional period ends. As before, run the calculations to verify it does not cost you more in the end. For example, if you transfer balances from accounts that already have a reasonable rate, and the 0% rate goes up to 18% after the promotional term, you may end up paying more than you would have if you just kept the debt where it was.
In addition, keep in mind that the promotional rate is contingent on performance. If you make just one late payment, it is very likely that the credit card issuer will determine that you are in violation of the offer and immediately raise your rate to a punitive level.
0% Balance Transfer as a Means of Debt Consolidation
Assuming you pay on a timely basis and play by the rules, you will probably get some financial benefit over that introductory period, but it’s a decidedly short-term benefit that will only apply to your credit card debts. While any savings is good, a balance transfer may not be a comprehensive enough approach to debt consolidation for someone who is heavily in debt, especially those who have multiple types of debt.
True debt consolidation is a long-term strategy to address a serious problem. A 0% balance transfer is a limited-term fix.
Will Consolidating Debt with a Balance Transfer Help My Credit?
Don’t overlook one of the most important aspects of debt consolidation – how it affects your credit score. Conventional debt consolidation loans and HELOCs, which take a more comprehensive approach to managing debt, are more likely to have a long-lasting and positive effect on your finances. . As long as you make your payments on time and follow through with paying the loan off it will reflect positively with the credit bureaus and help boost your credit score. You’ll also be paying more of your debts down with a conventional debt consolidation loan, rather than just your credit card debt.
Also consider that opening a new credit card account and transferring balances to it can have a mixed impact on your credit score. Depending on the credit limit of the new card, your total balance-to-available-credit ratio may not be that much different than it was before. In addition, though you will be showing a low balance on your old cards after the transfer, you will have a high balance on the new card, which could negatively impact your credit. If you already have 3 or more credit cards opening another credit card account can also hurt your credit score.
A 0% balance transfer can be a viable solution for handling credit card debt, but it’s not a one size fits all solution. If you have debt that can’t be paid off in 6 months, multiple types of debt, already have good rates on current credit cards, or have several credit cards already, you may want to look at other options for finding debt relief.