A balance transfer is a type of debt consolidation loan in which you transfer all or some of your debt onto a new credit card. The new creditor is lending you the money to pay off your existing debt, and usually is willing to offer a low introductory rate to get your business. They obviously are willing to do this for a reason.
In 2004, the credit card industry reportedly took in approximately $43 billion in fee income from late payment, over-limit and balance transfer fees*.)
Creditors would not be offering such a good deal if the terms in the agreement weren’t stacked in their favor. The interest rates on new purchases may be significantly higher than the introductory interest rate applicable to your transferred debt, and the credit card agreements will often contain a provision allowing the creditor to void the introductory APR if you are late on as few as one monthly payment. If your credit isn’t perfect, it’s also possible that the new credit card will charge a steep transaction or annual fee in exchange for letting you transfer your balance.
The major downfall of balance transfers is that they can quickly double the amount of credit that you have. While that may sound good at first, consider the fact that more credit just allows you to borrow more money. If you’re already having financial problems, should you really be trying to obtain more credit? It’s a matter of self discipline. Usually more credit leads to more debt, and people often find themselves using the credit that has become available on their old cards as a result of the balance transfer, ending up with twice as much debt as they had before the transfer. It can happen very quickly to anyone.
For some, it is possible to take full advantage of the low introductory offers creditors make to payoff a large portion or all of the debt in the short amount of time available before the introductory rate increases. Obviously, if you have $20,000 in debt, you would rather pay a 0% introductory interest rate than your current interest rate because all payments you make would go toward payment of the principal balance. If your budget shows that you have excess disposable income each month (not counting credit card expenses), and you have the resolve to destroy all your old credit cards following a balance transfer, then a balance transfer could end up saving you some interest charges in the short-term.
|Low Interest Rates
There are many balance transfer deals offered by the major creditors, and most offer a low introductory rate for a set period of time (typically 9 months). Your payments on the new card balance will reduce the amount of principal you owe for as long as a long as the introductory rate is in place.
|Only One Creditor to Deal With
Transferring all your debts to one credit card can simplify the process of organizing and repaying your debt because there is only one creditor to pay.
You will increase the amount of credit available to you by freeing up available credit on your old credit cards (although this factor may also be a “con”).
|Too Much Credit
The biggest downfall of balance transfers is that people often find themselves using their old credit cards again, ending up with more debt than they had in the first place.
|Still Have To Pay Back 100% Of Debt
You may be able to lower the interest rates on your debt, but if you don’t have the disposable income to make significant payments towards your principal balance, your debt won’t be going anywhere, and you’ll be stuck with a “band-aid” solution.
|You May Not Get Approved
It’s likely that a creditor will require authorization to check your credit report before granting you a balance transfer request. Don’t assume that borrowing more money is the best bankruptcy alternative just because a creditor is willing to approve loaning you the money.
Balance transfer agreements can have steep transaction or annual fees.
|You Can’t Borrow Your Way Out of Debt
A balance transfer is really just another loan, and borrowing money often leads to more debt.