Transfer your Balance…or Not?

If you have a credit card with an available balance on it, you may have been offered a chance to lower your interest rate via a balance transfer. These offers, however, may or may not be as good as they seem and it is important to read the fine print before making a final decision.

Things to consider before accepting ANY offer:

Do you already have a balance on the credit card making the offer? If so, you probably won’t want to accept the offer since all of your payments will be applied to the lowest interest balance until it is paid off completely.

Do you use the card for monthly purchases and pay them off before you accrue interest? Again, you won’t want to use that card for doing a balance transfer since you will be paying down the balance on the transfer, but accruing interest on your new purchases.

How much is the balance transfer fee? Most credit card companies charge 3% with a minimum of say, $5. Some have a maximum fee of $50, $75, or $100, but others don’t have a max at all. Ask about the maximum fee and make sure to include it in your calculations of whether you will save money or not.

How long does the offer last? The lower the interest rate you are being offered, the higher the chances that your rater will last only a short time. Generally, very low offers like 0%-2% only last 6 months to a year, while higher rates will last longer—up to the amount of time it takes you to pay it off. Keep in mind that you are best off not using that particular card until the balance is paid in full. Be realistic about how long it will take to pay off the balance and plan your transfer accordingly since every time you transfer your balance to a lower rate card you will probably have to pay another 3%.

What is the minimum finance charge? This question is only applicable if you are transferring a very small balance. For example, I once had a card offer me a 2% rate on a tiny $500 purchase. I thought that was great until I found out that the minimum finance charge was $1.00 per month. That would still only calculate out to be 2.4% on the original $500, but as I paid the balance down to only $100 it was effectively 12%.

So, how would you use this information to make a decision in real-life? Here are a few examples that show you how to do the calculations.

Example offer: 0% good on transferred balances for 6 months. Balance transfer rate of 3%, no max fee. Rate after promotion ends is 12%

Situation: You have a $5,000 balance and you can make payments of $250 per month. You are currently paying 8%. You go online to www.bankrate.com and discover that paying it off without transferring it you will pay $385 in interest if you are able to pay $250 per month for 22 months.

Option #1: Transfer the entire balance to the new offer. You will pay $150 to do the transfer, but you will be able to pay off $1,500 on the card before the new interest rate kicks in. Sadly, you will have to pay the 12% on the remaining $3,500 which will cost you an additional $750 in interest. This is clearly not the best option!

Option #2: Transfer only $1,000 to the new offer. You will pay $30 to do the transfer and your little $1,000 balance will be paid off before the higher interest kicks in. Unfortunately, you still have to make minimum payments on your remaining $4,000 at 8% credit card which will be about $80, so you will only have $170 per month to pay toward the $1,000. During the time you pay $80 on your 8% balance, you will pay $155 in interest leaving you a balance of $3,675 at the end of 6 months. Then, applying your full $250 to that balance until it is paid off at the end of 16 months, you will have paid an additional $205 in interest. Adding the $30, $155, and $205 you see that you will pay $390 in interest if you do it this way—also not a good option!

Option #3: Transfer the entire balance now, and then to an identical offer in 6 months, and then again every time the rate changes – in this case a total of 4 transfers. If you were actually able to do this, you would pay a total of $339 in fees, saving you a measly $45.41 for all that work.

The offer would be worth considering if: a)your balance were lower to begin with, b) the interest rate offer lasted longer, or c) the fee had a cap.

Example offer #2: 4% on all balance transfers for 2 years with a 3% transfer fee and a $100 fee limit. Rate after promo rate expires is 12%

Situation: $5,000 balance with the ability to make $250 payments every month. You are currently paying 8%.

If you take this offer, you would pay the $5,000 off in only 21 months and you would have paid a total of $190 in interest and $100 in fees. This saves you $95 total.

As you can see, the numbers can be complicated, but you can get help from the calculators at www.bankrate.com. The main point of running the numbers is to show you how a seemingly good deal can really be a bad idea if you don’t take the fees into consideration.