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“There’s no such thing as a free lunch,” or so the saying goes. More often than not, this adage proves itself to be true. Whenever we try to get something for nothing, it seems like there’s always a catch that turns a deal into a rip-off.
It turns out that many consumers who choose to transfer their credit card balances to 0% APR interest cards find themselves swallowing this bitter pill. In fact, a new study from the UK finds that that more than 30% of people who take advantage of a balance transfer offer don’t repay their balances within the 0% period – and often wind up paying more in interest than they otherwise would have.
But are balance transfers always a bad idea? Take a look at the information below to decide for yourself.
What does it mean to transfer a credit card balance?
In theory, balance transfer offers are a great deal for people staring down a mountain of high-interest credit card debt. This is because “transferring a balance” literally means that a credit card customer is moving the charges from one credit card onto another. The point of doing this is to switch from a high interest card to a low or no interest card, which could save the customer hundreds or even thousands of dollars in interest while she’s trying to pay the card off.
For example, let's say Jane has a $5,000 balance on a credit card that’s charging her 15% interest and has $250 to put toward interest payments each month. After 18 months, she'll have paid $741 in interest and will have over $1,200 left to pay.
But let's say she gets a balance transfer credit card that gives her 0% interest for those 18 months and 15% after that. She doesn't have to pay interest for the introductory period, so she can take her extra money and apply it to her balance. After those 18 months, she'll of course have paid no interest, and will only have $500 remaining. At this rate, she'll be debt-free in just three months and will have paid just $9.57 in interest. That's a savings of over $700, right? Not so fast.
Obviously, balance transfers can save consumers big bucks, and credit card companies are ready to cash in on our desire to become debt free. Transferring a balance to a 0% card isn’t free – it usually costs about 3% of the total amount being moved to the new card. In our example, Jane would pay a balance transfer fee of $150, and would save a little under $600, rather than over $700.
In her case, transferring the balance still makes sense. But if you pay off your debt in a relatively short amount of time, the fee might outweigh the interest payment savings. It's also important to keep this in mind when you're comparing a no balance transfer fee card with a card that has a longer 0% period but charges a fee. You might be better off with the first one.
Solving one problem, holding onto another
Another catch that comes with balance transfer deals is that the interest-free period doesn’t last forever. Usually, credit card companies offer a 12-18 month 0% window, after which interest charges start to accrue. Many people assume that they’ll easily be able to repay their credit card debt within the interest-free time period – but new data suggest that this isn’t the case. 33% of UK balance transfer customers don’t pay off their cards before interest starts building up, which causes them to end up in the same situation they started in: dealing in high-interest debt.
Many financial experts are wary of balance transfers because they feel that these deals lull debtors into a false sense of security about the state of their money – without the pressure that high interest payments exert, many people don’t feel motivated to pay off their credit cards as fast as they can. This means that bad money habits aren’t dealt with, and the customer continues to overspend.
That said, a 0% APR period can be a helpful tool to keep your finances in check and get you on the road to payoff. Just be careful to stay on track!
How to make a balance transfer work for you
Balance transfers can be tricky, but that doesn’t mean you definitely shouldn’t do one if you’re dealing with credit card debt. The key is to follow a few simple guidelines to make sure that a balance transfer deal doesn’t go sour:
After you transfer your balance to the 0% card, don’t spend on it. Put it aside and pay on it monthly, but don’t add any new charges.
Figure out exactly how much you need to pay each month in order to get the balance to $0 by the end of the interest-free period, then stay committed to your payment schedule.
Set up automatic payments from your checking account so that you don't have to think about paying your bill.
If possible, change your bill payment due date to just after a payday. That way, you won't have spent down your money when it comes time to pay.
Do not make late payments – at the very least, make the minimum.
Shop around to find the right balance transfer card for your needs; if you're not sure where to start, check out this tool.
The takeaway: failing to pay off a balance transfer before the interest-free period is up is tempting, but don’t fall into the trap. If you choose to transfer a balance to a 0% card, make a commitment to pay it off fast – otherwise you’ll end up paying interest unnecessarily, and no one wants that!