Can’t pay off your credit card dues this month? We have all been guilty of credit card debt. No matter how careful we are and how many resolutions we make, sometimes it is just inevitable. Debts from credit cards and other unsecured loans can be tricky to overcome, especially when the interest keeps piling on. But if you’re serious about paying off your debt, a balance transfer can be your way out.
A balance transfer shifts your existing loan on one credit card, to an interest-free credit card. This will give you enough time to settle outstanding debts without incurring interest. Now, we won’t bore you with the technical talk about balance transfer, but we will make sure that you know everything that you need to know about balance transfer and how to use it to your advantage!
How will balance transfers affect my credit score?
What many might not know is that a balance transfer has quite an effect on one’s credit score! Balance transfers can lower and raise your credit scores. Confused about the relation? Let us explain.
Your credit score will fall temporarily
When you apply for a new credit card to transfer the balance from your old card, your credit score will definitely witness a drop as you opted for a new credit account. But this is just temporary. Balance transfers can actually have a positive effect on your credit score in the long run.
But it can eventually help your credit score go up
How they help your credit score is through your credit utilisation ratio. The credit utilisation ratio is simply the amount of credit you have used vs the amount available to you. The ideal figure to keep this at is 30%, which is to say, don’t use more than 30% of all the credit available to you.
If you transfer a balance to a credit card with a lower credit limit than the previous card, your credit utilization will go up. The same ratio can be brought down if you transfer the balance onto a card with a higher credit limit. Let’s look at a practical example.
If you transfer a balance of S$750 from a card with a limit of S$1,000 to a card with a limit of S$3,000, your credit utilisation ratio will come down drastically. This is so because you were using 75% of your old cards limit but after transferring you are using only 25% of the credit limit. This 25% utilisation is lower than the recommended 30%, which works in favour of raising your credit score.
Things you need to know before using balance transfers
Now that you know how they affect you, here are some things you need to know before you use it.
1. It reduces debt
When you transfer a debt from one of your credit cards to another, you are reducing the amount you have to pay back (if the card you transfer to has a lower rate of interest). But to ensure that you get rid of that debt completely, it is very important to pay off the debt on your new credit card on time.
2. Take note of the transfer fees
What you need to remember here is that a transfer fee is different from an interest rate. So, if your credit card issuer is offering you a balance transfer facility at 0% interest, it does not mean that you’re paying nada for this facility. You will be charged a “balance transfer fee” which is your issuer’s way of telling you that you’re paying to use their facility. Usually, this fee is charged in the form of a percentage of the amount that you are transferring to your balance transfer credit card. For example, if you are transferring S$5,000 to your card and the issuer charges a fee of 3%, then you are paying S$150 to use the balance transfer facility.
3. 0% balance transfer
Some credit cards offer a 0% balance transfer fee when you transfer to their credit cards. This 0% introductory offer is usually valid only for a couple of months but it will help you save quite a bit of money as you will not be paying interest for those months.
Balance VS Transfer Personal loan – What affects your credit score?
One of the major components to compute your credit score is credit utilization. Say you have applied for balance transfer on one of your credit cards, the utilization of that card will invariably go up. If you throw into the mix your continued use of the same card, your debt-to-credit ratio will skyrocket, throwing your credit score out the window.
With a personal loan, the interest rates are more favorable than a credit card. But, you don’t get to enjoy interest-free payments like in balance transfer. With a personal loan, you know exactly how much you need to borrow and come up with a plan for repayment. Personal loans have fixed repayments and balance transfers have flexible repayments.
However, what they both have in common is that they will adversely impact your credit score if you miss payments. But as balance transfers don’t have fixed payments, you can get away with just paying the minimum due, although it’s not recommended.
Bottom line – Your behavior with respect to the loan will determine how your credit score will be affected. In the end, balance transfer not only helps you pay your debt but can also help you build your credit score, but only if you use it wisely. Use balance transfer to your advantage and bring your credit score up.
Keep reading the BankBazaar blog for more ways to be a personal finance expert, and tips to get the most out of your credit cards.