Episode 296: December 18, 2012
Debt Loans Credit
by Laura Adams
A reader named Emily writes:
“I have 2 credit cards that each have balances over 50% of their credit limits. The lower-interest card is offering a balance transfer at 0% APR for a limited time. Should I transfer the balance of my higher-interest card and save money, even though a transfer would almost max out the low-interest card and jeopardize my credit?
Emily’s question brings up some important issues about credit card balance transfers. We’ll cover what you need to know in order to make doing a transfer pay off.
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How a Balance Transfer Saves You Money
One of the easiest ways to save money on debt is to reduce the interest rate that you have to pay. This doesn’t cut the total amount of debt you owe, but getting a lower rate can help you get rid of debt faster if you put your savings to work by using it to pay down your account balance instead of spending it.
Let’s say you have a credit card with a $5,000 balance that charges 22% interest. If you transfer the entire balance to a card that charges 0% for the first 12 months, you’ll save about $875 during the promotional period. If a balance transfer card also offers a lower interest rate than your old card after the promotional period expires, you have more potential future savings to look forward to.
How a Balance Transfer Affects Your Credit
Emily is a smart cookie because she realizes that there’s a downside to having a high balance on her credit card: It can hurt her credit.
The general rule of thumb is that you should never allow balances on revolving accounts—like credit cards and lines of credit—to creep above 30% of your available credit limits. Having a low debt utilization ratio is an important factor in maintaining good credit scores.
So, is doing a balance transfer on a credit card that already exceeds 30% of your credit limit out of the question? It depends on your financial goals and objectives.
If saving interest and getting rid of debt sooner rather than later is more important than your credit scores, it makes sense to take advantage of a balance transfer offer no matter your debt-to-credit ratio.
But if you’re in the process of getting a loan or want to make a big purchase soon, maxing out a card and having your credit scores go down isn’t worth it. Having lower credit scores means that you won’t qualify for competitive interest rates on installment loans or credit cards.
Paying just 2% more interest on a $200,000, 30-year mortgage could cost you over $85,000 in additional interest! That’s why maintaining good credit is so important to your overall financial health.
How to Shop for a Balance Transfer Credit Card
If Emily has good credit, one option she should consider is applying for a brand new balance transfer credit card. Here are some great offers to check out:
Not only do new customers typically get the best transfer offers, but having an additional credit line will improve her total debt-to-credit ratio and boost her credit scores in the long run. Depending on the credit limit she’s offered, she could transfer all or a portion of the debt from her high-interest card or installment loans.
When shopping for a balance transfer card, look for the following features:
an introductory interest rate of 0% APR for a minimum of 12 months
a low regular interest rate that begins after the promotional period expires
a transfer fee that doesn’t exceed 3% per amount transferred
no annual fees
Many cards have deadlines, such as 30 or 60 days, for new customers to complete a balance transfer. So be ready to make the move once you’re approved so you don’t miss the savings opportunity.
If you can save money during the promotional period despite any transfer fees, and have a similar or lower interest rate than the old card after the promotion expires, you’ll come out ahead. Just be sure to read the fine print on any new credit card so you don’t get hit with unexpected fees or interest rates.
There are some great online tools that make it easy to crunch the numbers for doing a balance transfer. Simply enter your information into calculators on sites like bankrate.com, creditcards.com, and smartbalancetransfers.com so you know whether doing a balance transfer will pay off and improve your personal finances.
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