What is Balance Transfer?
A Balance Transfer is when you move debt from one credit card to another. Typically, this is done to take advantage of lower interest rates available on the new card, usually offered as an introductory promo. These promotional rates can be as low as 0% for a fixed period—often six to eighteen months. This strategy allows consumers to pay down their debt faster, without accruing additional interest.
Consumers usually encounter balance transfers when they have high-interest credit card debt. If you're paying 18% interest on your current card and a new card offers 0% for 12 months, transferring your balance can save you a lot of money. However, these offers often come with balance transfer fees, typically around 3-5% of the amount being transferred.
How Balance Transfer works
Consider you have a credit card debt of $5,000 with an 18% annual interest rate. You find a card offering a 0% interest balance transfer for 12 months, but with a 3% transfer fee.
Example: Balance Transfer Scenario
| Scenario | Without Transfer | With Transfer |
|---|---|---|
| Starting Balance | $5,000 | $5,000 |
| Interest Rate | 18% | 0% for 12 months |
| Transfer Fee | - | $150 (3% of $5,000) |
| Interest Accrued (12 mo) | $900 | $0 |
| Total Cost | $5,900 | $5,150 |
In this example, moving your balance could save you $750 over the first year despite the fee. Minimizing interest payments allows more of your monthly payment to go toward reducing the principal.
Why Balance Transfer matters for your money
For those juggling high-interest credit card debt, a balance transfer can be a financial game changer. If you have a savings account at 4.5% APY, but are paying 18% on credit card debt, transferring can help to quickly reduce how much you owe, preserving more of your income.
Paying off debt with high interest rates should typically be a priority for financial health. The lower rate from a balance transfer gives you breathing room to attack the principal without the continuous strain of accumulating interest.
However, be aware of any potential changes in financial circumstances. If a consumer fails to pay off the balance before the promotional period ends, they could end up paying higher interest than before if the standard card rate is high.
Common mistakes
- Ignoring the balance transfer fee: Failing to calculate whether the fee justifies the transfer cost.
- Not paying off before the promotion expires: Missing out on the benefits by carrying a balance into higher interest periods.
- Overusing new credit: Accumulating additional debt on the new card thanks to its newly freed credit limits.
Related concepts
- APR (Annual Percentage Rate): The yearly interest rate charged on credit card debt.
- Introductory Rate: A temporary, lower interest rate offered to new card users.
- Credit Utilization Ratio: A measure of credit used compared to the credit limit, affecting credit scores.
- Debt Snowball: A debt repayment strategy that uses emotional wins by paying off small balances first.