Fun with balance transfers?

Tim and I just performed some mathematical circus acts. We made the numbers sit, stay, roll over and even jump through a (flaming) hoop. Maybe we'll take it on the road.


And as all the most financially savvy folks do, we started this conversation late at night.


Okay, so this is generally a big no-no, but we were both feeling alert. And there's been a looming threat for the last couple of months.


Prologue


Like most Americans, we got a nice little letter in the mail about our credit cards. They weren't cutting our limit. (In fact, our MyPoints card keeps upping the ceiling.) The company was, however, informing us of potential rate hikes. The cap was 31%.


Now, so far, nothing has happened. But given that both the cards we're carrying balances on have APRs of 15%, we decided to go ahead and play the balance transfer game. Here's where things get fun.



The players


We have three credit cards right now:

• Citi, which I've been paying off monthly, so our new charges don't earn any interest.

• MyPoints, which has a current balance of just about $5300. (Slightly rounded)

• Chase, with a current balance of $3300 (slightly rounded). We've been concentrating on it, since the rate could go up at any moment.

The offers


Ideally, MyPoints would offer us a balance transfer, so we could clear out Chase's balance and close the damn thing. (Mom and I each opened one to earn free airline tickets for my and Tim's honeymoon.)


Alas, no such luck. But the other two cards have some good offers:

• Citi -- 0% until August 2009 or 6.99% until May 2010.
  

• Chase -- 0% until September 2009, or 4.99% until January 2011.

Both have a 3% balance transfer fee.



Mapping it out


So I picked up the white board and some handy-dandy markers my mom got me for Christmas ("Same debt -- but now in color!" she wrote). I wrote all three names down. Underneath I wrote balances. Under that balance transfer offers. Under that, end dates for the promotional

Citi	MyPoints	Chase
$0	$5,300	$3,300
N/A	15.00%	15% (31%?)
6.99%		4.99%
5/1/2010		1/1/2011

Then I started drawing arrows from one card to another, to represent our options for balance transfers. (It quickly started looking like a football coach's playbook.) Then, we just had to go through the steps to evaluate our choices.




1. Short-term vs. long-term


Most balance transfer offers will give you two choices: 0% for a short time (usually 6 months or less) and a low-interest rate for a longer period. Your choice will depend on what your overall goals are, your salary/job, and how you are faring in the world of personal finance.


If you are on track to be out of debt in a short time, 0% may work for you. If you are secure in your job, which I suppose is rare these days, you may feel okay going for a short-term 0%, which allows you to throw everything you have at the principal.


If, however, you're not sure about your job, you may want to choose long-term stability. If you're still in the early to middle stages of debt reduction -- in for the long haul -- you may want to choose the low interest rate.


The main deciding factor, in other words, is just how certain you are that you'll be able to pay it all off before the APR goes back to normal. If you choose 0% and then have a ton of unexpected expenses, you will have to deal with the rate jumping back to a normal level. It can be jarring, not to mention disheartening, to have your rate jump 10-15% and still have a balance.


This may lead to yet another balance transfer offer. Besides the fee, you should also know that your credit score can take a hit from habitual balance transfers.


As for us, we're well aware that our future is uncertain. Tim will get unemployment through April or May. And he is working with the Dept of Vocational Rehabilitation, but they're still in the assessment phase. So he doesn't know what sort of career he wants to have. That means we have no idea if he'll need schooling or whether his potential job market is saturated.


Given how much of our future is a toss-up, we decided a longer-term, low rate was better than a shorter-term 0% rate.



2. What's the effect of a lower rate?


So, the obvious choice would be to take the $5300 from MyPoints and shoot it over to Chase at 4.99%, right?


Wrong.


As I explained to Tim, credit cards like to use little tricks. One of the best ones, of course, is double-cycle billing. But another dastardly one involves balance transfers.


Since our Chase card already has a balance ($3300 at 15%), the new balance transfer offer ($5300 at 4.99%) would actually make it harder for us to pay down debt.


When there is more than one APR on a card, the company applies payments to the balance with the lowest APR. So if, right after the balance transfer completed, we got a windfall and threw $5,000 at the card, our new total would be $300 at 4.99% and $3300 at 15%


Why do they do this? Well, it's simple: They make more money this way. By applying the payments to the lowest-APR balance first, they get to keep more of your balance at the higher interest rate. That means more finance charges for them, which means more debt for you.


So, if we simply transfer the $5300 over to Chase, our current balance will be untouched and grow larger each month. After 9 months, the $3300 will be over $3700. At 12 months, it will be nearly $3900.


Not a good option. Instead, we agreed to send Chase's balance over to Citi at 6.99%.



3. Make sure the math works out in your favor

One of the most important things about a balance transfer, of course, is about saving money. By cutting your interest rate down (or eliminating it) you can put all your funds against the principal. That can mean big savings.


But balance transfers always come with fees. In the best scenarios, there is a cap on the fee. In the past, I have had ones that topped out at $75. Unfortunately, those seem to be increasingly rare. Nowadays most are just a straight 3% of the transferred amount.


So it's important that you do the math. You want the balance transfer to be negated by the interest you save. Personally, I prefer for the equilibrium (fee paid vs interest saved) to come by the third month. But it can be difficult to calculate interest, since your payments may vary paycheck to paycheck, and double-billing cycles can make it hard to accurately predict interest accrual. In the end, you have to find your own comfort zone, and remember that many of these numbers won't be exact.


For us, the Chase-to-Citi transfer would cost just under $100. But on the Chase card, there'd be over $100 in interest by the third month. It made mathematical sense to shift Chase's balance over to Citi.


Frankly, I was all for transferring the MyPoints balance to Citi, as well. That would allow us to close the Chase card once and for all. Tim frowned and studied the white board for a moment. (He's a visual fellow.) He then very gently explained that my idea didn't make good financial sense. After all, 4.99% until 2011 is pretty obviously better than 6.99% until May 2010.


Talk about feeling dumb. Here I was, the financial head of the household, and my knee-jerk reactions were about to cost us money. It was fear pure and simple.


I hate uncertainty, and that's the threat that Chase presented. We don't know if/when the APR will go up. That makes me nervous, which makes me want to just jettison whatever is causing the stress and uncertainty.


Logically, though, my reaction didn't make any sense. Even if the APR did change, we wouldn't be affected, since we would have balances with promotional rates.


In fact, the only way we'd be affected is if the APR changed and if we were late with a payment. I make payments every time Tim or I get paid, so the latter is unlikely -- and it would still depend on the APR having skyrocketed, which still isn't certain.


Once I thought about it more rationally, it seemed like a pretty silly fear. But it was an excellent reminder at how easily our feelings can get in the way of financial decision-making.


With that in mind, we devised a new plan: Transfer the MyPoints balance ($5300) to Chase, where it will be at 4.99%, and then send Chase's balance ($3300) over to Citi, where it will be at 6.99%.


I once again checked the balance-transfer math: It would be around $150 to transfer MyPoints' balance to Chase. But the 10.01% difference in interest rates will make that up in under 6 months. The first month alone we'll save over $40.


We also discussed doing one more transfer, from Citi to Chase, so that everything was at 4.99%. That would save us 2%. But it would also incur another $100 balance transfer fee. And since there will only be $3300 on the Citi card, the 2% is negligible. It would save perhaps $5 a months, if that, and so it would take nearly two years to just make up for the balance transfer fee.


That's a good reminder to always do the math. Sometimes it's more than worth it. Other times, you're just costing yourself money -- money that could be going to debt.



4. Balance transfer timing

Whenever you do a balance transfer, you have to watch the account very closely. If it's close to a statement due date, you'll want to make at least the minimum payment. Otherwise, if the transfer doesn't complete in time, you'll owe a late fee.


As I already mentioned, we currently make payments just about every week. So there's no worries about missing a due date. However, there was another concern about timing.


I was paranoid about doing the transfers simultaneously. Different companies complete them at different speeds. I was worried that the MyPoints-to-Chase transfer would complete first. Then, when Citi completed its transfer, it would ask Chase for $3332. But would Chase give it $3332 from the original balance -- which was my goal -- or would it give up some of the money at the lower, promotional rate?


I decided not to take the chance.


Instead, we're going to simply complete the Chase-to-Citi transfer first. Then we will initiate the MyPoints-to-Chase balance transfer.


Then I can wipe our white board clean and get some pretty colors to represent our new lower-interest balances. After these mental and mathematical gymnastics, it should be a welcome exercise.


What experiences have you had with balance transfers? Did you pay off the balance before the APR reverted? Did your credit score suffer? Would you do another one?