Transferring your debt to a low-interest card may not be the magic fix it seems.
This article examines the five major traps of these balance transfer offers, and gives some advice on how to avoid them.
Credit cards companies commonly market low interest rates for debts transferred from other cards as a way to attract new customers.
Usually, the interest rate applying to the balance transfer ranges from 0% to 5%, for a period of four months up to as long as it takes you to repay the debt.
Switching to a low-interest balance transfer card can be a good way to get a handle on your debt, or to avoid making repayments for a specified time.
However, for the unsuspecting or undisciplined balance transfer cards can be a disaster. Card companies also use balance transfers to “reel people in” with tempting offers but then catch them out with terms and conditions that can create bigger interest bills than before.
There are five specific traps to transferring a balance to a new credit card.
1. The payment hierarchy con
When you make repayments, they’re firstly applied to the balance transfer amount.
This is the case even if it has a 0% interest rate or some time before the introductory period expires, and even if other purchases and cash advances are accumulating interest at much higher rates.
2. High interest on new transactions
After you transfer your debt to a low-interest card, any new transactions you make usually attract interest immediately at the standard rate, which is invariably much higher than the low introductory rate.
You may have no interest-free period with such transactions.
Here’s an example taken from the fine print of a major bank:
“You will not gain the benefit of the interest free period on credit purchases until the full balance (including any balance transfer and any other promotional amount) is paid by the statement due date each month.”
However not every provider treats new transactions in this way, so it’s worth shopping around.
3. Luring you into a bad deal
The balance transfer might simply be the hook that lures you into a card that’s otherwise poor value in terms of fees and standard interest rates. Many have standard annual interest rates close to 20% or even higher.
4. Handling fees
A fee may apply to transfer the balance. For example, according to one bank’s fine print there’s “a 1% Balance Transfer Handling Fee to a maximum of $50 that applies to each balance transferred”.
5. Double trouble
You might be tempted to keep spending on the old credit card, increasing your debt problems and requiring even bigger debt repayments for two cards and increasing your problems.
Consider cutting up the old card.
Do your research
As always the best way to avoid these traps and to use the balance strategy transfer to your advantage is to do your research.
Look at the various offers at the market and compare them closely. Make sure that you consider the:
- balance transfer rate
- normal interest rate
- balance transfer handling fee
- payment hierarchy rules
- what happens to the interest free period for new transactions whilst the transferred balance remains on the card.
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