If the Christmas holidays dented your finances, a zero per cent balance transfer credit card might seem like an attractive option to get your money matters back on track. But there are two traps to beware of.
So what is a zero per cent balance transfer, and how does it work?
Let me start by saying any product that claims to levy no interest will usually have a serious sting in the tail.
This is particularly the case with unregulated credit products, like payday loans, which have high fees.
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Some zero per cent balance-transfer offers charge annual fees so you have to be careful that the saving you would make over the interest-free period is worth it.
There is also a so-called ‘balance transfer fee’ to watch out for which is literally a percentage of your transfer.
For example, if the balance transfer charges a 2 per cent fee, it’ll cost you $80 to move across $4,000 of credit card debt.
But, it’s not just the annual fees and balance transfer fees you need to look for. There are other hidden dangers you need to be aware of.
Here are two traps which could see your interest rate reach astronomical levels.
Balance-transfer trap 1: New spending
Balance-transfer credit cards can act as get-out-of-jail-free cards, but some people make the wrong move by spending on the new card.
That’s a wrong move. Instead, your plan should be to put it on ice. You could even put it in physical ice in your freezer if that will help ward off temptation. Why? The interest rate on new spending will be far into double figures, and could even be above 20 per cent.
A crackdown several years ago by the Federal Government means that your repayments now go to the higher interest debt first.
So you’d need to pay off a lump sum each month rather than the 2 per cent minimum repayment in order to mitigate the new spending fees.
Balance-transfer trap 2: Old debt
Balance transfer credit cards are limited offers… after all, how could a provider afford to offer them otherwise.
If you cannot clear the card in the designated interest-free period, the so-called ‘revert rate’ will be eye-watering.
Again, like the new spending interest fees, the revert rate can be well into double figures and possibly above 20 per cent.
See the table of the longest balance-transfer credit cards and their fine-print conditions, below, from Mozo.
So the smartest strategy is, whether you can repay it in the designated time or not, never keep a card beyond the 0 per cent period.
If you still have debt, you could transfer to one more 0 per cent balance-transfer card.
Just bear in mind that every time you apply for a card, it pushes down your credit score.
So, once is preferable, twice is probably okay, but no more than that in a short-term period.
In any case, transfer your outstanding debt out again, or discharge it, when the 0 per cent honeymoon offer finishes.
How to hibernate your debt
If you go to your provider and say that you are struggling with repayments, their mandatory financial hardship department must do something to help.
Your required repayments, as I mentioned earlier, are likely super low.
Chances are, you CAN still afford to pay 2 per cent each month, but if you are being charged an interest rate, your debt will probably grow meaning that you are creating a bigger pay-back problem for yourself in the future.
Here, a 0 per cent balance transfer can also help.
Even if you pay off the minimum, your transferred balance doesn’t grow.
So it’s almost like a way of parking your debt until your finances improve.
But again, be acutely aware that new spend will push you further into debt. And that is certainly not the purpose of a clever credit card strategy.