Balance transfers are a debt consolidation strategy that can be used to help you pay off high-interest credit card debts. If you do the right thing, you can save money by getting a new balance credit card that lowers your interest rates temporarily.
If you are considering using a balance transfer as a way to consolidate credit card debts, there is another thing you need to consider. Consider how a balance transfer could affect your credit score.
As with most questions related to credit scores, there are many ways a balance transfer can affect your credit score. Transferring debt has the potential to enhance your credit score in many situations. Neglecting to manage your balance transfer process could bring you back.
What is a Balance Transfer?
Balance transfer is the act of moving existing debt from credit cards or loans into another credit card account. Many people transfer their balances to a new credit card. You may be able transfer balances to a credit card that you already have.
For a short time, balance transfer offers often offer lower annual percentage rates (APRs), sometimes for up to a year. One example is that a credit card company may offer balance transfers for new cardholders with 0% APR for up to 18 months. You might be able to transfer your balances at a limited-time rate with a credit card company you already have business relationships.
You can save a lot of money by taking advantage of the 0% or low APR balance transfer offer. You may also be able reduce or pay down your debt quicker, as interest rates are either lowered or put on hold with most balance transfers.
A Balance Transfer might improve your credit score
The balance transfer will not increase your credit score by itself. It could make your credit report more balanced, which may be a benefit to you. Here are two examples of how a transfer of balances might result in a higher credit score.
1. Lower Credit Utilization
When it comes to credit scores, your credit utilization ratio (the relationship between your credit cards limits and credit card balances) is an important factor. One side effect of opening a credit card account is a lower credit utilization rate.
Your overall credit utilization rate (or aggregate) would be 50% in the above scenario. This is the amount of credit cards you have available that you are using. Here’s how to calculate credit utilization if you are interested in math.
- $5,000 (Total Credit Card Balances) / $10,000 (Total Credit Card Limits) = 0.50 x 100 = 50% Credit Utilization Rate
Imagine you apply for a third card with a 0% balance transfer deal. You are eligible for a credit line with a $10,000 limit. The credit card allows you to transfer $5,000 of credit card debt to the new account.
Your overall credit utilization rate will drop to 25% thanks to your new credit card account.
- $5,000 (Total Credit Card Balances) / $20,000 (Total Credit Card Limits) = 0.25 x 100 = 25% Credit Utilization Rate
A 25% utilization rate is better for credit scores than a 50% utilization rate. Your credit utilization rate will drop as you reduce your credit card debt. Your credit score will improve in this situation thanks to the balance transfer.
2. There are fewer accounts with balances
Your credit score can also be affected by how many accounts have balances on your credit report. It’s better to have less accounts with balances than too.
The number of credit accounts that have balances on your credit reports is reduced by transferring balances from multiple loans or credit cards and combining them into one account. This can lead to a possible increase in your credit score.
A Balance Transfer Can Hurt Your Credit Score
A balance transfer can help your credit score if you do it responsibly. There are situations when a balance transfer could lead to a lower credit score than a higher one. Here are three examples.
1. New Hard Credit Inquiry
Applying for a new creditcard with a balance transfer deal might have a slight impact on your credit score. A hard credit inquiry is when a lender reviews your credit report. Credit inquiries are when someone accesses your credit report. A “hard” inquiry can damage your credit score.
Credit inquiries are often less important than other credit information over the long-term. Keep these details in mind when deciding whether to apply for a balance transfer credit card.
- Only 10% of your credit score is affected by credit inquiries
- Some inquiries are not enough to cause a credit score decrease.
- Hard inquiries will no longer affect your credit score after 12 months.
It is important to be selective when applying for credit. You don’t need to be afraid to apply for financing (such as balance transfer credit cards) when it is possible to benefit you.
2. Credit history length changes
Your credit score is also affected by your length of credit history. Your credit score is determined by 15% according to FICO scoring models.
Here are some of the factors that can play a part:
- Your credit report will show the age of your oldest account
- Your credit report will show the age of your most recent account
- The average age of all accounts on your credit report
Credit scores are best if you have an older account. A new credit card might cause a slight drop in your credit score.
However, your credit score is not affected by your credit history. Other factors, such as payment history and credit usage, are more important. These more important factors can offset any credit score decline that might be caused by a decrease in your credit utilization and timely payments.
3. More debt can lead to problems
If you manage the process properly, a balance transfer will work in your favor. You could end up with serious financial problems if you open a new card account, transfer your existing debt to it, and then continue taking on new credit cards each month. This behavior can also harm your credit score.
Credit card debt can make it more difficult to pay your bills in the future. Late payments can cause credit score damage as 35% of your FICO(r). Score is based on your payment history. Credit card default can also lead to account closure and late fees.
Credit utilization levels can increase if you continue to accumulate credit card debt. A higher credit utilization ratio is not good for your credit score.
Balance transfers may be a good option
No matter how appealing the offer, balance transfers may not be right for everyone. A balance transfer card may work for you in certain circumstances.
- A balance transfer offers you a way to save money and consolidate your debt. Before you apply for a balance credit card, it’s important to analyze the financial implications, including any balance transfer fees.
- You have an effective debt elimination plan. Balance transfers should be used in a responsible manner. These should not be a way to make you fall deeper into debt.
- You have a good credit score and are eligible for a balance transfer credit credit card. Some credit card companies offer balance transfer offers for fair credit. It is worth looking into.
- You shouldn’t transfer debt from one credit card to another. Some allow you to withdraw cash from your checking account and use it to pay your bills.
You might consider credit counseling, or bankruptcy options if you are struggling with credit card debt. However, you might be negatively impacted. The worst thing that you can do is ignore the fact that you have a debt problem and default on it.