What is a balance transfer?
Is it good to do a 0% balance transfer? Pros and Cons
When you’re paying interest on your debt, you may find that you don’t seem to be reducing the balance at all, or if you are, it’s by very little. It may seem that you’ll be paying this debt for the rest of your life. If only you didn’t have all this interest to pay, you could get rid of the debt over the next couple of years or so.
You get an email or letter from your bank offering you a credit card with the option of a 0% balance transfer.
What’s it all about?
Not in the mood to read? We got you covered. Listen to the rest with the YouTube link at the bottom of the page.
What is a balance transfer?
A balance transfer moves debt or debts from one credit facility to another (the other is usually a credit card). It is typically done to reduce the monthly payment amount and interest rate on existing borrowings.
Transferring your debt to a 0% credit facility like a credit card will mean that you won’t be paying interest on it for a period of time. Typical time periods are six to 12 months.
What are the pros of a balance transfer?
- You will be paying no interest for a period, which means you can reduce your debt and clear it quickly.
- Your monthly payment amount may be reduced.
- You can consolidate all your outstanding debts into one, meaning you only have to make one monthly payment. It’s almost like having all your mess in that one room in your home rather than scattered around the house.
What are the cons of a balance transfer?
- You may have to pay a fee to transfer your debts.
- You may only be able to transfer some of your debts if the 0% credit limit is not high enough. This means that you may still have to pay some monthly debts outside your balance transfer.
- After the interest-free period finishes, you may end up with a high interest rate, which means that you may be back in a situation where you are not really reducing your debt.
- The 0% offer may be cancelled if you miss a payment. That means you'll be paying interest on your debt once again.
We have some deeper concerns about this if it is not handled correctly, which is best explained by introducing Diane…
Diane’s story...
Diane had £10,000 worth of credit card debt. She struggled to pay enough towards the debt to impact the capital (the amount borrowed without the interest) because the interest rate was so high. There seemed to be no light at the end of the tunnel.
Diane is a self-confessed shopaholic. When she’s feeling low, this is her outlet. She grabs her credit card and goes shopping; that’s why she was in this situation in the first place.
One night, between Love Island and Made in Chelsea, Diane sees someone talking about 0% credit card balance transfers and how your monthly payments will be reduced by going down this route. She’s immediately interested, so she jumps onto the internet and onto a site that compares different offers. She finds one offered by her bank. Even though she spends a lot, she manages to make all her payments on time, so her credit rating is very high.
She makes an application online and gets accepted for a £12,000 credit card with 0% APR for 12 months. She is very happy. She can now transfer all of her debts over to this card and pay a lower amount each month and no interest.
She intends to clear the debt over the 12 months before the interest kicks in.
12 months later...
Twelve months pass; let’s see how Diane is doing... she’s not doing very well.
Her 0% card had a £12,000 credit limit. Her transfer took up just over £10,000 with a fee, so she still had some credit left on the card.
The 0% offer also covered spending on the card during those 12 months, so she decided to take advantage of that and maxed the card out.
She broke up with her boyfriend, which hit her hard. Her typical therapy for when she’s feeling down is to spend, but with no more credit left on the 0% credit card, what did she do?
Reigniting old flames...
Diane still had the old credit cards on which she racked up £10,000 worth of debt. They were all cleared with the balance transfer. She promised herself she wouldn’t use them, but right now, fraught with emotional grief, she didn’t care! She went straight to Leicester Square, the next day Westfield, then to Bluewater, some nights out and a couple of girly holidays, and the cards were back up to £8,000!
Diane had a total of £20,000 in credit card debt. That was part one of the problem. The other was that the 0% credit card interest-free period had expired.
When she took out the card, Diane didn’t pay attention to the interest rate after the 0% period expired. After all, she planned to have the debt cleared before that. Her interest rate was now three times the rate she had on her old cards. She was in trouble, big trouble.
Very little in life is free...
When a lender gives you a 0% interest balance transfer offer, they do it in the hope that you will pay interest later. They will often make far more than they would typically have made. The offer is designed to win your business with the hope they will be able to retain it long-term.
A temporary fix
Our concern with transferring your debts to a 0% credit card lies with the cards that remain; they now have credit available.
If you have not addressed the issues that have led you to your debt situation, you may find that the 0% balance transfer is only a temporary fix, and you’ll be even worse off a short while down the line, just like Diane.
0% transfers can be great if you are disciplined and have a clear plan to clear the debt within the 0% period. If you are not disciplined when it comes to spending, having credit cards with available credit may be a temptation too hard to resist. If you don’t have a clear plan that you stick to, you may end up in a worse position than before. Diane is a testament to that.
Don't forget to read The Real Debt Guy's final thoughts below!
The Real Debt Guy is a qualified financial adviser and a UK debt expert. The information in this article is considered to be true and correct at the publication date.
