Balance Transfer Pitfalls

May 7th 2016

Imagine a world without credit card interest. Sounds like a good deal, right?

If you've got a fair-to-middling credit rating, you probably see offers for interest-free (zero percent) balance transfers regularly. Used carefully, these cards can help you save some money while you pay off your credit card debt. Unfortunately, many people don't realize the pitfalls associated with zero-balance transfer-fee credit cards: annual fees, late-payment penalties and higher interest rates in the long run.

Identifying Pitfalls

Start with one key fact: credit card companies don’t make zero-percent offers out of the goodness of their hearts. They want your business, but they’re also hoping you’ll make a late payment that will trigger penalty fees and higher rates, which helps them make a profit. They also hope you’ll continue making payments at a high annual percentage rate (APR) when the zero-percent period expires. To identify some of the potential pitfalls of making balance transfers, make sure you understand the terms of the offer.

  • Does the card charge a fee for making transfers? Many offers that include “free” interest also charge 2 to 3 percent for transferring funds. This practice actually adds to your debt before you can begin paying it down.
  • Does the card contain high penalties for late payments, including cancellation of the zero-balance period? 
  • Does the offer allow you to transfer all of your existing debt? If the new card has a lower balance limit than your existing card(s), and you can't transfer the whole amount, you’ll wind up with more credit cards and more chances to miss payments, incur late fees and still pay some higher interest.
  • Will the offer apply to new purchases or just balance transfers? Zero-balance transfer cards may have a similar offer for new purchases, or they may charge higher APR immediately. If you’ve transferred debt that places you close to your credit limit on the card, you could trigger a penalty fee if the interest pushes your debt over the limit.
  • Can you realistically pay off all or most of the debt before interest charges begin? If not, you could wind up paying higher rates than you do on an existing card. Be clear on how long you have to pay down the debt, and what you will pay after the zero-percent period ends.
  • When you receive your card, does it reflect the offer you expected? No matter what the advertising material states, you're not really approved for a card until you apply. Pre-approval just means the credit card issuer has found your name on a list of people who meet certain minimum standards. Even if you get an offer for a zero-balance card, the issuer reserves the right to change the terms based on your application. You could wind up with a card that has a shorter zero-balance period and a much higher APR after that. Make sure the card you are issued matches the offer you accepted. 

Avoiding Transfer Pitfalls

Once you’re satisfied with the terms, go ahead and apply for your zero-percent card. When you receive it, keep these steps in mind to pay down your debt instead of increasing it.

Understand the terms

  • Are there fees for transferring existing credit card balances, and if so, how much?  
  • Do you have to make a minimum payment each month to maintain the zero-percent rate?  
  • How long do you have until the zero percent rate expires? 
  • How much will the APR cost you each month after the special rate ends? 
  • When is the payment due each month? Learn this to avoid making a late payment that cancels the existing offer and initiates a penalty APR.

Close your old cards. Some experts advise you to keep old cards open to improve your credit score. However, if the card represents a temptation to spend, you could wind up paying high interest rates on the card's new balance. So if it's a temptation, close the card. 

Pay with purpose. Use zero-balance offers to pay down your debt, not for new purchases. You have a limited window to pay down your debt without interest fees, so make the most of it.

Avoid the balance transfer carousel. You might think you can keep your debts parked in zero percent accounts and transfer to new cards when the current special offer expires. Problems arise if you can't transfer the whole balance or if your new cards have shorter interest-free periods. You could wind up with several accounts, increasing your risk for a late payment. You also might find some or all of your debt stuck in high-APR accounts if the zero percent offers dry up.

If a zero-balance transfer-fee credit card can help you reduce your debt, take advantage of the offer. However, do so with the understanding that you must be vigilant to avoid the potentially costly pitfalls.

File:Credit card-first 4 digits.jpg

Image Courtesy of Mattes via Wikimedia Commons

Sources:

http://articles.chicagotribune.com/2013-09-13/business/sc-cons-0912-started-20130913_1_credit-card-cardratings-com-credit-score

http://www.consumerfinance.gov/blog/how-do-i-shop-for-a-credit-card/

http://business.time.com/2013/09/06/0-balance-transfers-are-tempting-but-beware-the-risks/

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