A balance transfer happens when you move your debt from one or more sources to a single credit card with a lower interest rate. By paying less interest, more of your payment goes toward the principal balance.
Balance transfers aren’t always the best way to get debt relief, however. You should carefully consider the benefits and downsides to balance transfers before initiating the process.
How a Balance Transfer Works
With a balance transfer, you transition the amount you owe from one card to another. You can also move other types of debt to a credit card. For example, some issuers may allow the transfer of auto and personal loans.
Here are the five steps to completing a balance transfer.
1. Choose a balance transfer card: You can either open a new credit card for the transfer or transition your debt to a card you already have. Look at interest rates, balance transfer fees and other terms to make the best choice.
2. Decide on your transfer amount: Look at the credit limit you have and ensure the balance will be less than your limit. Ideally, the transfer is much lower than your credit limit and lowers your credit utilization ratio in the process.
You’ll also want to look at balance transfer fees, which are usually around three percent of the amount you’re transferring. Some cards also have limits on transfer balance amounts. Check your card details carefully.
3. Review the terms and conditions: Make sure you’ve read all of the terms, fees and official agreements before transferring the balance. While the fine print can be lengthy, you need to know exactly what it is you’re agreeing to.
4. Initiate the transfer: There are a few different ways you can initiate a transfer—through your credit card’s online account, or calling the customer service line of your credit card company, for example—but how you do so will depend on the policies of your credit card company.
5. Pay off your debt: Make monthly payments toward your balance transfer. Create a plan to pay your debt off within the introductory period, so you don’t have to pay any interest on it.
How a Balance Transfer Affects Credit Score
Balance transfers can either improve or lower your credit score, depending on multiple factors. Here’s how:
Your credit utilization rate: If you’re able to pay off more of your debt due to the lower interest rate, your credit score will improve. By paying off debt, you’re using less of your available credit, which lowers your credit utilization ratio.
Making on-time payments: Paying your credit card bill on time boosts your credit score, as payment history is the most significant factor in scoring models like FICO®. Balance transfers can help in this area if the transfer makes it easier to pay.
Number of hard inquiries: Your credit score takes a hit when you apply for several credit cards at once because they each trigger a hard inquiry.
Hard inquiries aren’t bad in and of themselves and are a necessary part of applying for credit. That being said, if you have a large number of hard inquiries on your credit report within a short time frame—if you apply for many credit cards at once, for example—it signals to lenders that you may not be responsible with your credit.
Average age of credit: Your credit score is also based on the average age of your credit. It would be more beneficial to your credit to keep your old accounts open even after you’ve transferred the balance. This will increase the average age of your credit accounts. More open cards also help keep your credit utilization rate low.
When to Consider a Balance Transfer
A balance transfer can help you pay off debt faster and pay less overall. Here are the main scenarios when a balance transfer can help.
You have debt with a high-interest rate: If you have a credit card—or many cards—with high-interest rates, it may be good to transfer the balance to a card with a lower rate. By lowering interest, you’re able to pay more toward the principal balance and pay off debt faster.
It’s difficult to juggle multiple payments: You can combine debts by transferring them all to a single card, which will allow you to only have to keep track of one payment every pay period.
You can get a good promotional offer: Many credit cards offer low or no interest rates during the introductory period (usually six – 18 months). By transferring your debt, you can save money in the long run.
How to Choose the Best Balance Transfer Card
Balance transfer credit cards compete with other credit cards by offering good introductory APRs (annual percentage rates) to attract new cardholders. Generally, the better your credit, the more options you have for low introductory rates and no transfer fees.
Here are a few other things to consider when shopping around.
Balance transfer fee: A fee for transferring a balance is common. It’s usually about three percent of the balance amount (like we stated above). If you have a good credit score, it’s possible that the balance transfer fee might be waived entirely.
Interest rate: Interest rates vary significantly between cards. Some promotional incentives may offer introductory zero percent APR. However, be sure to look at what the APR is after the introductory period, in case you don’t pay off all your debt in that timeframe.
Length of promotional period: The introductory promotional period for balance transfers is usually six – 18 months. A longer promotional period allows you more time to pay off the debt before a higher interest rate is applied.
Annual fee: Some cards charge a fee each year to keep the card active. Be on the watch for high annual fees.
Credit limit on a new card: A higher credit limit can help you maintain a lower credit utilization rate. If you’re transferring a balance, make sure your credit card limit far exceeds the balance you’re transferring.
Basic requirements: It’s best to apply for a card that you have a good chance of being approved for. When you apply for a credit card and aren’t approved, the hard inquiry will remain on your credit report. As we said above, too many hard inquiries occurring in a short time period can lower your credit score.
Generally, if the amount you save with a lower interest rate is higher than the balance transfer fee, it may be worth transferring the balance. It’s also ideal if you can pay off the balance during the zero percent interest period, and avoid paying interest on any of your debt.
What to Do After You’ve Transferred Your Balance
After you’ve transferred your balance, there are a few things you can do to improve your credit score and pay off your debt.
Make timely payments: On-time payments boost your credit score. Any late or insufficient payments can potentially invalidate lower interest rates and harm your credit score.
Note important dates: Set reminders for when the introductory period ends. Any debt you don’t pay off during that period will be charged with greater interest rates. You’ll also want to make sure you complete the transfer within the given timeframe.
Create a plan to pay off debt within the zero percent timeframe: Design a budget that works for you to pay off your debt, ideally within the zero percent interest timeframe. This might include scaling back on expenses or picking up extra shifts at work. In the long run, it could save you quite a bit.
Don’t make purchases on your new card: When you make a payment, the funds go to your purchases first, then your transfer balance. Try to use a different method of payment to make purchases, so your credit card payments only go toward your older debt.
Keep your old cards open: By keeping other cards open, your total available credit limit is higher—meaning your utilization ratio is lower. Having older cards also increases the average age of your credit accounts.
Why You Should Check Your Credit Report After a Balance Transfer
Mistakes sometimes happen when there is a lot of activity on your credit report, such as data errors and information that should no longer be on your report.
These inaccuracies can unfairly affect your credit score. For example, some of your credit reports might not reflect the balance transfer properly. Credit repair can help you review your report, identify errors, and work to correct—giving your credit score a boost. Contact the credit repair consultants at Lexington Law to learn how we can help you.