credit & debt

Balance-Transfer Cards Can Save Thousands

Lowering your credit card interest rate and boosting your monthly payments can shave thousands of dollars off your bills and eliminate months of repayments.

I read your column last week, Using Balance-Transfer Cards to Pay Holiday Bills. How much money can I save if I switch to a card with a lower interest rate or increase my monthly payments?

The amount you can save by transferring your balance to a lower-rate card -- or convincing your lender to reduce the rate on your current card -- depends on your old and new interest rate and how much you pay each month. But combining the steps of lowering your interest rate and boosting your monthly payments could shave thousands of dollars off your bills and eliminate months -- or even decades -- of repayments.

Let's say you have a $5,000 balance at 18% interest and you make just the minimum payment of 2% of the balance each month. It will take you more than 39 years to pay off your balance, during which time you'll pay more than $13,000 in interest. Credit-card companies must now disclose on your monthly statements how long it will take to pay off your balance if you make only the minimum payment, as well as how much you'll pay in total interest over that time. "It's so long, some people think it's a mathematical error," says John Ulzheimer, president of consumer education for SmartCredit.com.

One reason it takes so long to pay off the balance is that minimum payments are generally based on a percentage of the balance, not a fixed dollar amount. That means the amount you pay every month shrinks as your balance is reduced. In this example, the minimum payment of 2% of the $5,000 balance begins at $100 in the first month, but gradually decreases every month as you start to pay off the balance. After two years, for example, your minimum monthly payment has gradually shrunk to $89, with only $22.28 of the monthly payment going toward the principal -- stretching out the time it takes to pay off the debt and making the interest paid on the debt nearly three times the original amount you charged.

Just boosting your payments to a fixed $200 per month can make a huge difference. You'll retire the balance in about 2.7 years and pay a total of $1,314 in interest -- even if you continue to pay off the debt at the original 18% interest rate. Combining a larger monthly payment with a lower-rate balance transfer can get you out of debt even faster. Lowering the rate to 7% and paying $200 per month, for example, will get you out of debt in 2.3 years, with a total of $420 in interest. At a 0% interest rate, you'll discharge the debt in just over two years and pay no interest at all.

Even if you don't qualify for a 0% interest rate, make the most of any lower rate you can get through a balance-transfer offer or by negotiating with your existing credit card company. And, if possible, increase your monthly payments. If you have a 7% interest rate and make payments of $500 per month, for instance, you'll pay off the $5,000 debt in the example above in less than a year and surrender only $167 in interest.

To run the numbers for your own situation, see the What's the Real Cost of Paying the Minimum calculator.

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