By: Joseph Goldy, CFP®, CDFA®
The holiday season will soon pass, and for many, the joy of gift-giving has been overshadowed by a mounting credit card balance. As bills start rolling in, the temptation to explore a credit card balance transfer becomes increasingly attractive. But is this financial strategy a lifeline or a potential trap?
A balance transfer is moving credit card debt from one or more cards to a new credit card, typically offering an introductory 0% or low interest rate for a specified period. While it might seem like a simple solution to holiday spending debt, the strategy requires careful consideration.
Potential Advantages
Interest Savings
The most significant benefit of a balance transfer is the potential for substantial interest savings. Introductory 0% APR periods can last anywhere from 12 to 21 months, providing a critical window to pay down debt without accruing additional interest charges.
For example:
Current credit card debt: $10,000
Current interest rate: 22% APR
Balance transfer card with 0% APR for 18 months
Potential interest savings: Approximately $1,831 over 18 months
The Psychological Benefit of Debt Consolidation
Balance transfers simplify financial management by consolidating multiple credit card balances into a single payment. This can help reduce the complexity of tracking multiple due dates.
Psychologically, this can have the beneficial effect of providing a clear path to debt reduction while lowering your overall monthly payment due to the lower interest cost. A fresh start with a new card and a clear repayment strategy can provide mental relief and motivation to become debt-free.
Potential Drawbacks
Balance Transfer Fees
Most balance transfer cards charge a fee of 3-5% of the transferred amount. This upfront cost can significantly reduce potential savings. Some cards offer a 0% balance transfer fee. However, those offers are often part of a promotion or require you to be a member of a specific credit union.
For example, continuing with the numbers from above, if the balance transfer fee were 5%, you would pay $500 to transfer a $10,000 balance. However, as you saw in the calculation, you’re saving over $1,800 over the 18 months in interest, so despite this fee, it would still potentially be worth doing a balance transfer.
One workaround for the balance transfer fee is to look for credit card promotions that offer a bonus if a certain amount of spending is completed within a specified period. For example, Bank of America recently promoted $300 if $1,000 is spent within the first 90 days of opening the account. That’s a relatively easy bar to hit, and the $300 bonus would offset Bank of America’s 3% balance transfer fee.
The balance transfer and other fees are in the credit card’s Schumer Box. (Yes, named after N.Y. senator Charles Schumer.)
Credit Score Impact
Balance transfers can affect your credit score in several ways. They are a hard inquiry when applying for a new card. If approved, the new card also reduces your overall average credit age, which makes up 15% of your FICO score. And lastly, it could potentially increase your overall credit utilization if you keep spending on the old card after transferring the balance to the new card.
Here is a breakdown of what impacts your FICO score:
Source: myfico.com
Critical Considerations Before Transferring
Before initiating a balance transfer, evaluate your ability to pay off the debt during the introductory period. Create a detailed repayment plan that:
Calculates the monthly payment required
Identifies potential sources of additional funds
Includes a buffer for unexpected expenses
The last thing you want to do is transfer a balance and then continue spending beyond your means and have double the amount of debt as you did before you did the balance transfer.
Make sure to read the fine print of any offer. Nerdwallet and Credit Karma are great sites to compare balance transfer offers side-by-side. When considering balance transfer offers, it’s wise to remember the adage, The Big Print Giveth, and the Fine Print Taketh Away.
Carefully review:
Introductory APR duration
Standard APR after the introductory period
Balance transfer fees
Penalties for late payments
How payments are applied to your transfer balance vs. new purchases
Holiday spending can create financial strain, but strategic planning can transform debt into an opportunity for financial growth. If you feel your holiday gift budget has melted away like Frosty, a balance transfer can be an effective strategy when approached with careful planning, realistic expectations, and a commitment to financial discipline.
Joseph Goldy, CFP®, is a wealth advisor and CERTIFIED FINANCIAL PLANNER™ at Highland Financial Advisors, LLC, a fee-only fiduciary wealth advisory firm based in Wayne, New Jersey.
Joe specializes in working with newly independent women because of divorce or losing a spouse. He understands firsthand the value of having a clear financial picture pre- and post-divorce and a plan to restate goals as a single person. When he is not helping clients, Joe enjoys spending time with his two sons outdoors and volunteering to help raise money for Type 1 diabetes organizations.