In the world of credit cards, few things sound better than 0.0% APR. Credit cards, which have no finance charges are among the most sought after things one can have in his or her wallet or purse. However, many people are turned off by balance transfer fees, which can run as high as 5%. Don’t be. Given your current finance charges, that fee can be offset sooner than you may think.
To illustrate how a balance transfer to a 0.0% APR account can be beneficial, let’s use an example account with a modest balance of $1,000 on a relatively civilized 10.0% APR. Then let’s say a credit card issuer offers you a balance transfer of this $1,000 to a 0.0% APR account at a 5% balance transfer fee. If you accept the new credit card charges you 5% of that $1,000, or $50, as a fee to your new account. While this may sound pretty steep at first once you understand how finance charges work, then you see how this can still equate to quite a deal in many instances.
How are finance charges calculated? Monthly finance charges on your statement are determined by multiplying the monthly percentage rate, or MPR, by the account’s average daily balance for the previous billing cycle. On many accounts the average daily balance is calculated by the mean average of the daily balances of the past 30 days. In a real-life situation this can get quite complex, so for the sake of simplicity in our example we’ll assume our $1,000 balance is also our average daily balance. Think of it as making payments and charges of an equal amount during a given month, and you’re fairly close.
To calculate the MPR on most credit cards is a simple matter of dividing the APR by 12 (10.0/12 = 0.833333). Divide this number again by 100 to express the MPR in decimal terms. For our 10% APR example, the result is 0.008333. Then take this number and multiply it with the average daily balance, in our example $1,000. The result is $8.33.
So, given that our hypothetical monthly finance charge on a 10.0% APR card with an average daily balance of $1,000 is $8.33/month, you see this roughly equals the $50 balance transfer fee in 6 months. In other words if you expect to carry a balance of $1000 on your 10.0% APR account for more than 6 months, a balance transfer to a 0.0% APR account is worth it, even with a 5% balance transfer fee.
Let’s look at this example again but at the maximum allowable APR of 29.99%, which many people find themselves stuck with. The MPR on a 29.99% APR card expressed in decimal terms is 0.024992. Given our $1,000 average daily balance, the monthly finance charge is $24.99. In this case the $50 balance transfer fee effectively pays for itself in just 2 months.
Of course before making a decision on any 0% balance transfer offer, run the numbers yourself based on the formula provided to see how it impacts you. Remember to consider the average daily balance instead of your current balance. It’s on your statement, usually near the finance charge detail. Then if it looks good, do it!
-Jennifer Davide
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