A credit card balance transfer can get you a lower interest rate, which could translate into hundreds, or even thousands, in interest savings. In addition, a balance transfer can help you consolidate your debts, which can greatly simplify your financial life. Here's what you need to know before you start browsing balance transfer offers for your own credit card debt.
What is a balance transfer?
In a nutshell, a balance transfer means moving a debt that you owe on one credit card to another. Credit card issuers often offer promotional interest rates on balance transfers in order to entice new customers to apply for their products.
While there are certainly some good reasons you might want to complete a balance transfer, there are also some potential drawbacks you need to be aware of. Here's a rundown of the pros and cons of transferring your credit card balances, so you can make the right decision for you.
Reasons you might want to do a balance transfer
The most obvious reason to transfer a balance is for the potential interest savings. Many credit cards regularly offer 0% intro APRs on balance transfers for 12 months or more, and there are intro APR periods of as long as 21 months being offered as I write this. Competition among credit card issuers has never been higher than it is right now, and it has resulted in some fantastic balance transfer offers for consumers.
Another reason you might want to consider a balance transfer is for debt consolidation purposes. In addition to the interest savings, it can be more convenient to owe one large credit card balance rather than several smaller ones.
While a balance transfer certainly has the potential to simplify your finances and save you money, there are a few drawbacks that you should be aware of.
For one thing, most credit cards have a balance transfer fee. 3% of the transferred balance, with a minimum fee, is the industry standard. To put this into perspective, this means that a $5,000 balance transfer should cost about $150. A few cards have offers that include no-fee balance transfers, but this is the exception, not the rule. It's also important to mention that if the newly opened credit card has an annual fee, this needs to be taken into consideration as well.
Even when including the fee, a balance transfer could save you significant money on your credit card debt, but it's still important to be aware of.
In addition, a balance transfer has the ability to adversely impact your credit score, especially if you consolidate several balances onto one card. The FICO credit scoring model considers your credit utilization -- how much of your overall available credit you're using, as well as how much of each individual credit line you're using. Experts generally suggest that you should keep each credit card's balance under 30% of its limit, or else your credit score could suffer.
For example, let's say that you have five credit cards, each with a $1,000 balance and a $5,000 limit. This means that you're using 20% of each card's available credit. If you were to consolidate all of those balances onto one new card with a $5,000 limit, all of a sudden you have a maxed-out credit card in the eyes of the credit bureaus.
Finally, a balance transfer frees up space on your old credit card, which could come with the temptation to rack up even more debt. Be sure that you're disciplined enough to handle the additional available credit if you plan to leave your old credit card open after the balance transfer.
Finding the best balance transfer offer for you
As I mentioned, competition in the credit card industry has never been higher, and balance transfer offers are rather generous right now. They are also constantly evolving, so be sure to check out The Motley Fool's current favorite balance transfer offers if you've weighed the pros and cons and decide that a balance transfer sounds like the right move for you.