When the Federal Reserve raises interest rates, as it did Dec. 13 by a quarter-percentage point, the first pinch consumers usually feel is higher interest rates on credit cards.
Zero-interest balance transfers can offer respite from higher credit card rates, if used properly. These cards allow a person with debt (and a decent credit score) to move their balance to a new card and have no interest for an introductory period. Today’s offers typically top out at 21 months.
“I would jump on it sooner rather than later,” said Greg McBride, chief financial analyst for Bankrate.com, whose expectation of three more rate hikes by the Fed in 2018 is in line with the Fed’s own projection.
That is because annual percentage rates on credit cards are currently averaging over 16 percent, and outstanding credit card debt is about to hit $1 trillion, said Jill Gonzalez, senior analyst for Wallethub.com, a personal finance site. The average U.S. household has about $8,100 in credit card debt, which can cost a consumer over $1,000 a year in fees and finance charges.
While it sounds like a simple plan, people in debt do not necessarily have all the facts that could help them to make balance transfers happen. Comparecards.com, a division of LendingTree, surveyed 1,000 Americans with credit card debt in September and found that half did not take out balance transfers because they did not understand the process.
If you want to start the new year with some financial breathing room, here are the steps you need to take.
Pick a deal
Most zero-percent cards charge a 3 to 5 percent fee for a balance transfer. But some currently offer this service for no fee — like BankAmericard’s basic card and Chase’s Slate. Both cards feature a zero-percent interest rate for 15 months, said Brian Karimzad, vice president of research for Comparecards.com.
There are online calculators to help you decide which card is right for you, such as the one at NextAdvisor.com.
But in general, the math is generally simple enough to do in your head.
If you are transferring $10,000, for example, and the balance transfer fee is 3 percent, you would pay $300. Your new balance will be $10,300 and you have up to 21 months to pay it down, said Jocelyn Baird, an associate editor at NextAdvisor.
If you wanted to rid yourself of this debt by the end of that term, pay $490 a month.
Keep in mind that if you choose a card with no fee but a shorter term, you may not be able to pay off the entire debt by the end of the zero rate period. And if you do not pay off the balance before the zero-rate period ends, the interest payments could end up exceeding the amount of the transfer fee.
Pick an island
While it is tempting to load up charges on a new card, you should not use the balance transfer card for anything else. The new charges will eat up all your payments, and may end up canceling out your zero percent rate if you do not pay off the new charges in full.
Put it on an “island,” suggested Gonzalez. Direct your day-to-day spending card to another island. Use a third card just for travel that gets great rewards.
Pick a debt plan
Pay down the debt on the balance transfer card above the suggested monthly minimum.
“Even if you don’t clear it at the end of that zero percent, if you’ve made a good effort, you’ll have chipped away at a significant portion of that debt,” says NextAdvisor’s Baird.
The final step is to address the actual problem that caused your debt.
“You have to fix the root issue,” said Bankrate.com’s McBride. “If that was habit of overspending, that’s the fire you have to fight. You have to discipline yourself and hold yourself accountable to a strict budget. Don’t buy things you can’t afford right away.”