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Is your credit card debt getting out of hand? You’re not alone – more than one in six Australians are struggling with their own credit card debt, according to ASIC research in 2018.
Credit card debt can make you feel like fleeing the country to live in the Andes, but a more sensible option to take might be to use a balance transfer to provide you with some interest-free clear air to help you pay off your debt.
What is a balance transfer?
Balance transfers are offered by some credit cards to allow new credit card customers to transfer existing credit card debt from an old card. With a balance transfer offer, the transferred amount is charged minimal interest rates as low as 0% for a limited period of time, known as the honeymoon or promotional period.
Depending on the offer, the honeymoon period can last anywhere between three months to 26 months. The rationale behind using a balance transfer is they afford consumers with the breathing space they need to gradually repay their credit card debt. So, if you had a 0% interest balance transfer for 24 months, then that’s two years you’ve got to pay off that debt without being charged interest!
Example: Lorne balance transfers his debts
Lorne Mower has over $3,000 worth of credit card debt and he’s struggling to pay it off. His current card has an interest rate of 17%, and at his current rate of repayments ($150 a month), it’ll take him two years to pay off this debt, during which he’ll accrue nearly $500 in interest charges.
He can’t quite afford to pay off more than this yet, but he finds a balance transfer card that’s offering 0% interest for 24 months – the length of time it’ll take him to pay off his debts. He opens this card and fully pays his debt off within the honeymoon period. He thus avoids paying a single cent in interest.
How to actually use a balance transfer
If you’ve decided that you want to use a balance transfer, it’s actually a pretty straightforward process, but you do need to take a bit of time and care to make sure you get the best one for you.
- Evaluate your situation: work out how much you currently owe and how much you can afford to pay each month.
- Compare balance transfer deals: look into balance transfer rate, length of the period, fees charged and credit limits on the different cards available to see which one suits you (the credit limit is important because you might not be able to transfer your whole debt if the credit limit is too low).
- Apply: go online and submit an application detailing your current debts, how much you want to transfer and everything else about your current credit card.
- Activate your card: this needs to be done before the balance transfer can be processed.
- Close your old card: this isn’t always necessary, but it can prevent you from spending on it or being charged fees.
Before getting a balance transfer though, it can pay to be aware of the potential pitfalls of using one.
The cost of a balance transfer
Even though you might see a 0% balance transfer offer, you can still be charged a balance transfer fee, which is usually between 1-3% of the balance. If you were to transfer $5,000 and your card had a 2% balance transfer fee, that’s $100 charged to your account right off the bat.
Balance transfer cards might also come with an annual fee too, but you can find cards that charge $0 for both.
The revert rate
Again, that 0% offer might seem tempting, but it’s only for a limited period of time. After that, it swaps to what is known as the revert rate, which can be as high as 24%!
If you don’t fully pay off your transferred debt by the end of the honeymoon period, then you’ll be charged the revert interest rate on any remaining amount left.
Don’t make purchases with it!
Credit cards with a balance-transferred debt often have zero interest-free days on purchases. This means any purchases made on the card could be charged interest at the card’s standard interest rate immediately. Balance transfers are meant to eliminate debt, not create more!
According to ASIC’s research in 2018, one in three balance transfer users actually increase their debts by 10% or more.
Balance transfers can be an effective way of dealing with short-term debts, as long as you pay it all off within the honeymoon period and don’t make any purchases with that card.
But they’re only really a short-term solution. Ultimately, you need to look at how you got into so much debt and think about what you can do to prevent it from happening again. It might be that you have an unsuitable credit card for your spend level or have an interest rate that’s too high. Or maybe you just spend much more than you should. If that’s the case, let old habits die hard!
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