Knocking Out Interest Charges With a Balance Transfer
Credit card debt is on the rise.
According to NerdWallet’s 2015 credit card debt study, American households with debt park an astounding average of $15,675 on credit cards. That’s up from ten years ago, when American households with credit card debt kept their balances under $2,200.
So what happened? Why do we have so much debt, and what can we do about it?
NerdWallet’s study gets right to the heart of the matter – average debt is increasing because the cost of living is growing faster than the average income. Since 2003, income has grown by 26%, but the cost of living – driven by price hikes in medical care, food, and housing – has increased by 29%. During that same period, inflation-adjusted household debt rose by 15%.
We’re spending more money on education – tuition and fees have been rising 3% faster than inflation, and the average cost of room and board at colleges has risen 18% faster than inflation consistently for the past decade. We’re also spending more money on health care – according to the Centers for Medicare and Medicaid Services, average annual costs rose from $7,700 in 2007 to $9,596 in 2014. To make things worse, median income dropped from $55,347 in 1975 (in 2015 dollars) to $51,759 in 2015, and the Bureau of Labor Statistics reports that the 2012 graduating class faced a 13.3% rate of unemployment.
The upshot of all this? Millennials are living with their parents for longer, putting off marriage and kids, buying fewer homes, and paying through the nose on interest for their car and business loans. And while that’s all happening, they’re racking up credit card debts that dwarf all historical precedents.
Fortunately, for any of us with credit card debt, there’s a great way to minimize interest payments and get out of debt sooner rather than later.
Stay calm and carry a big balance transfer
Debt consolidation sounds great… at first. What’s not to love about merging multiple debts and making smaller payments with reduced interest? It turns out that some debt consolidation companies can hold onto your money and intentionally let your debts become delinquent in order to help them negotiate a lower eventual repayment. In other words, they collect interest on your money while your credit score nose dives.
Forget relying on a company – consolidate your own debt using a balance transfer card. Many credit card companies offer such cards with 0% or low APR, and with the average American consumer paying $2,630 in credit card interest, it makes sense to transfer balances even if it costs you some money to do so. Balance transfer fees average 3-5% of the total amount (though some cards don’t charge a transfer fee). Check out these recommendations for cards with the lowest transfer fees and longest 0% APR periods.
Is it worth your while to apply for a balance transfer card? Let’s take an example – let’s say you have $10,000 sitting on a credit card with an 18% APR (not so great, but not the worst), and you want to pay it off in three years.
If you keep your balance on that card…
- In the first 15 months, you’ll pay $1,894.19 towards interest.
- You’ll make monthly payments of $361.52 for three full years.
- At the end of three years, you’ll have paid $3,014.89 in interest.
But if you transfer that $10,000 balance to a balance transfer card like Chase Slate (0% APR for 15 months followed by 13.24%-23.24% variable APR, $0 transfer fee, $0 annual fee, and accessible at average credit levels)…
- In the first 15 months, you’ll pay $0 towards interest, so all of your monthly payments will go towards the actual debt.
- If you make the same monthly payments as above ($361.52) during the 0% APR period of fifteen months, you’ll have paid off $5,422.80 – more than half the total debt. For the remainder of the three years, you’d make monthly payments of only $267.36 – and that’s consistently assuming the highest possible value of the variable APR.
- At the end of three years, you’ll have paid $1,037.26 in interest.
In other words, moving your credit card debt to a balance transfer card would save you $1,977.63 in interest payments and reduce the monthly payment you’d otherwise be paying by $94.16 for 21 of the 36 months. If we increase the debt amount to $50,000 and maintain the other variables, you’ll save $9,888.02 in interest payments and reduce the monthly payment you’d otherwise be paying by $470.86 for 21 of the 36 months.
There’s a few more things to keep in mind about balance transfer cards.
- You can transfer balances from more than one credit card. Keep in mind that carrying a balance of over 30% of a credit card’s limit can negatively impact your credit, but the benefits of speeding up your debt repayment probably trump that concern.
- Don’t close out the cards you transfer from right away. Having a card for a long time indicates stability and helps your credit score, especially if you’ve paid your monthly minimum payments on a consistent basis.
- Make a plan to cut or limit your spending habits. Don’t fall into the trap of refilling the balances of the credit cards you’ve just emptied. It’ll be a lot harder to make this trick work the second time around if you double your debt!
Some other options to check out
- Call your lenders to get a lower interest rate. It sounds nuts, but it can work. Make a list of your lenders, along with the balance amount, interest rate, minimum payment, and phone number for each. Armed with that information, start making calls. When you speak with a representative, let them know that you love the card, but you’ve noticed that the interest rate seems pretty high, and that you’re considering a balance transfer card. They may offer to decrease your interest rate. If they don’t, don’t be discouraged, just call the next lender and repeat. Every percentage point you can take off your APR is worth it. For example, on a two-year repayment of a $10,000 debt, lowering the APR from 18% to 15% will save you $344.96 in interest.
- The debt-snowball method. If you haven’t come across this one before, you can find some great tips here, but the idea is simple. List all your debts, credit card and otherwise, from the smallest to the largest. Make minimum monthly payments on everything except the smallest one, and pay as much towards that smallest debt as you can reasonably afford. Since it’s the smallest one, you’ll be able to pay it off relatively quickly. Won’t that feel nice? Once that smallest debt is paid off, transfer everything you were paying towards it to the next smallest debt. Repeat until that largest debt is in the rear view mirror.
- The debt management plan (DMP). A DMP arranged through a nonprofit credit counseling organization is the same as debt consolidation without the risk to your credit score. You can still get debt consolidation benefits like a single payment, late fee waivers, and reduced payments and interest rates, but you won’t be selling your debt to a company in exchange for a new loan with new terms. Instead, the credit counseling organization distributes portions of your monthly payment to each of your debtors.
Are there any worthwhile credit debt-busting techniques I’ve failed to mention? Leave your story or some helpful tips in the comments below.