Are you considering moving high-interest debt from a credit card to a credit card that has a lower interest rate – or even better, a zero percent interest period – by performing a balance transfer? Doing a balance transfer can save you thousands of dollars while also making it much easier to pay down the credit card balance owed.
But you might be asking, “Does balance transfer affect credit score?” Balance transfers won’t directly hurt your credit score but applying for new credit can affect your credit score in both bad and good ways.
There’s one thing that you need to keep in mind before doing a balance transfer: By doing a balance transfer, it won’t be fixing any bad financial habits that led you to a large amount of debt in the first place.
So, before you start applying for a balance transfer, you should make sure that you have a solid plan to pay off your credit card debt to prevent yourself from putting yourself into the same position later on.
A balance transfer can be a smart move as a debt-reduction plan in the long run. So, does balance transfer affect credit score? Here’s what you should know about balance transfers and your credit score and debt consolidation.
Does Balance Transfer Affect Credit Score?
As we mentioned above, a balance transfer can affect your credit score in both bad and good ways. In this section, we will take a closer look at the good and bad of balance transfers.
How Balance Transfers Hurt Your Credit Score
Putting a new credit card in an application to do a balance transfer will put a hard inquiry on your credit report. Initially, a hard inquiry will drop your credit score by a few points, and the inquiry will stay on your credit history for two years.
Opening a new line of credit also impacts the length of your history with credit. A new line of credit reduces the average age of credit, which will also take your credit rating down a few points. If you have multiple credit cards, the bigger impact opening a new line of credit will have on your credit score.
Utilizing a balance transfer to help you pay your debt and using your credit responsibly after a balance transfer should help mitigate or cancel out the short-term dings in the long run.
How Balance Transfers Improve Your Credit Score
Simply performing a balance transfer won’t affect your credit score much, if at all. If you want to change your credit score by doing a balance transfer, the key is to use it to lower your debt – both in the percentage of available credit and dollar amounts. Getting rid of debt helps send the right kind of signals to improve your credit score.
Every dollar you aren’t paying in interest is money that you can instead use to pay off debt. This helps you reduce your debt faster, which is good for your credit. The amount that you owe on your credit cards accounts for around 30 percent of your FICO score.
The dollar amount of the debt you carry is the key factor here. Another thing to consider is your credit utilization ratio, which is the percentage of the available credit you’re currently using.
It’s recommended that you try to keep your credit utilization ratio under 30 percent all the time – both across all the cards you have and on a per-card basis. By adding a new credit card, you’re reducing your credit utilization ratio.
Let’s give an example to help you understand this better. Say that an individual has two lines of credits in the form of credit cards:
- Card 1: $6,000 limit, with a $3,000 balance
- Card 2: $4,000 limit, with a $1,500 balance
This individual has a 50 percent credit utilization ratio on Card 1, a credit utilization ratio of 37.5 percent on Card 2, and an overall credit utilization ratio of 45 percent ($4,500 divided by $10,000). On both cards and overall, this individual’s debt is over that 30 percent ceiling.
Now let’s say that this individual is approved for a balance transfer card (Card 3) with a $7,000 limit and moves all of their debt onto it. This individual now has a credit utilization ratio on Card 1 and 2 of zero percent, 64.3 percent on Card 3, and 26.5 percent overall.
This balance transfer will look better on the individual’s credit report. Additionally, the balance transfer put the individual in a better position to pay the $4,500 of debt quicker due to interest savings.
Are Balance Transfers a Good Idea?
Doing a balance transfer should ultimately save you money. If doing one doesn’t save you money, then there’s no point in doing one.
For example, say that you have a balance of $11,000 on a credit card with an interest rate of 16 percent, and you want to pay it off over the next 12 months. If you leave the debt on that one card while you’re paying it off, you can expect to pay about $975 in interest. But if you move that debt to a card with a 0 percent interest rate for 12 months, then you would pay nothing in interest.
You do have to remember that most credit cards will charge you a fee for doing a balance transfer, typically between three to five percent. In the example above, you would end up paying a balance transfer fee of $330, so you would be saving $645.
Transferring a balance still means paying off the existing debt with the new credit card. However, if you move your debt to a credit card with a much lower interest rate, you’ll end up spending less money maintaining the debt in the future. This means that you’ll end up being able to devote more of your money to pay down on the principle of the debt you have instead of the interest.
When you’re thinking in terms of, “Does balance transfer affect credit score?” It’s important to know what they don’t do:
- It doesn’t reduce the total amount that you owe. For example, if you owe $6,000 on a credit card and transfer that balance to a new credit card, you’ll still have $6,000 to pay off; it’s just on a different card. You’re still responsible for any interest accumulated on the card before you did a balance transfer. It becomes part of what you pay off with the new credit card.
- It doesn’t change the status of anything with the old account. The credit card account that you transferred the debt from will stay on your credit report, even if you end up closing the account. Accounts closed with good standing will stay on your credit report for ten years; accounts closed with bad remarks will stay on the report for seven years. If you missed any payments on the old credit card account, the missed payments would still show up and still play a part in your credit score.
Balance transfers can be good ways to help you pay down debt caused by credit cards. But does balance transfer affect credit score? Several factors play a role in deciding if a balance transfer will hurt or help your credit score.
An individual with a great score (740 or higher) might qualify for the best balance transfer cards available. People with much lower credit scores may still qualify for some good balance transfer cards – but might not be given initial credit lines that are sufficient for transferring large balances. Because of this, people with lower scores might want to ask their existing credit card issuers to think about lowering their interest rate on the balances that they aren’t able to transfer.
So, before doing a balance transfer, there are a few things that you should do:
- Perform research to help you determine if a balance transfer credit card is a good choice for you.
- If you end up deciding that a balance transfer is the right idea, you should shop around the cards available to you to find the one that makes the most sense for your needs.
- If you end up getting approved for the card, begin the balance transfer process.
- Pay down the debt you have aggressively on your new balance transfer card to avoid any of the “gotchas” that these cards can have. Try to avoid adding more debt to the card.
- Try to focus on building your credit with your new credit card using good credit habits. For example, try making more than the minimum payment on the card and always pay your credit card bill on time.