How a Balance Transfer Impacts Your Credit
A balance transfer can help you pay down credit card debt and save on interest. Before you pull the trigger, though, consider how it might impact your credit.
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Balance transfer credit cards offer a special opportunity to pay down existing credit card debt and pay a super-low interest rate or no interest at all for a period. With the right card and mindset, users could save hundreds of dollars on interest charges as they eliminate their debt.
But balance transfers can also impact your FICO® Scores in both positive and negative ways, and it's important to understand those impacts before you apply for one. Here are four ways a balance transfer could affect your credit.
1. Applying for the Card
You don't always need to apply for a new credit card to take advantage of a balance transfer offer. In some cases, credit card companies will send offers to their existing customers — you may even receive balance transfer checks in the mail that are ready to use.
But if you're planning to apply for a new credit card, the application process typically includes a hard credit check. In most cases, one additional hard inquiry will decrease your FICO® Scores by fewer than five points
However, if your application is declined and you apply for other cards to get approved, several hard inquiries over a short period can have a compounding negative effect on your FICO Scores.
As a result, it's crucial that you check your FICO Scores before you apply for a new credit account. Most balance transfer cards require at least "good" credit, which means having a FICO Score of 670 or higher. Even then, card issuers typically have their own criteria for determining eligibility, so the better your credit, the easier it will be to get approved.
2. Opening the Account
If you open a new credit card account to take advantage of a balance transfer feature, the new account will reduce your average age of accounts. This influences your length of credit history, which makes up roughly 15% of your FICO® Score.
For example, let's say you have two credit accounts, one that's seven years old and another that's five years old. Between the two, your average age of accounts is six years. Add in a third, and your average will drop to four years.
Of course, your average age of accounts will go back up over time (assuming you don't open any additional new accounts), and the potential impact on your FICO Scores won't usually be huge. But again, opening multiple credit accounts in quick succession could be more impactful on your credit scores.
3. Making the Transfer
Your credit utilization ratio is a crucial component of your FICO® Scores, influencing your amounts owed which accounts for 30% of its makeup. The ratio is calculated by dividing a card's balance by its credit limit, as well as your total card balances divided by your total available credit.
In other words, if you have a card with a $4,000 balance and a $6,000 limit, your utilization ratio on that account is roughly 67%.
A high utilization ratio is generally associated with lower credit scores because it signifies that you may be struggling to manage your debts. While some experts recommend keeping your ratio below 30%, there's no hard-and-fast rule — the lower it is, the better.
So if you transfer that $4,000 balance to a balance transfer card with a $5,000 limit, your utilization ratio on the new card will be 80%, which could negatively impact your score. However, if you get a $10,000 limit on the new card, your new ratio will be 40%, which could impact your FICO Scores positively.
Of course, as you work to pay down your credit card balance, your utilization ratio will decrease naturally as long as you don't add more debt to your plate.
Unfortunately, you won't know what your credit limit will be on a new card until you've applied and been approved. But understanding the potential impact can help you determine whether to transfer all the debt or just a portion.
4. Making Your Payments
On-time payments are the most important way to build your FICO® Scores, so it's crucial that you make your payments on the old card until the transfer has been completed, as well as on the new card until you've paid down the debt.
Over time, that positive payment history can help increase your score.
If you miss a payment, make sure you get caught up quickly — even if you get slapped with a late fee, it will hurt your FICO Scores only if it's been late for 30 days or more and reported to the credit bureau. If your account is delinquent for 30 days or longer it can hurt your score significantly, and the longer the account goes unpaid the more damage it can do.
It may also be a good idea to calculate your payments in a way to pay off the debt before the promotional period expires.
For example, if you transfer $4,000 to a card with a 3% balance transfer fee, your new balance would be $4,120. If your balance transfer period is 15 months before you start to get charged interest, plan to pay roughly $275 per month to eliminate the debt before the card starts charging interest.
The Bottom Line
Balance transfer credit cards can be a way to reduce credit card debt while avoiding interest charges. Even if you don't pay off the balance in full by the end of the promotional period, you could still save hundreds of dollars on interest that you would've paid if you had kept the debt on the original card.
Before you apply for a balance transfer credit card, though, it's important to consider how it might impact your credit.
Also, make sure you check your FICO® Scores before you apply for a new credit card. Knowing your FICO Scores can help you determine your odds of approval and decide whether to apply or wait and build your credit before you take that step.
Ben Luthi has been writing about money and travel for seven years. He specializes in consumer credit and has written for several major publications and industry leaders, including U.S. News and World Report, Fox Business, Wirecutter, Experian, and Credit Karma.