When it comes to paying off debt, focusing on ridding yourself of the highest interest balance first. This is often called the Debt Avalanche Method and will save you the most money in the long run. Most credit cards have interest rates of 20%, so carrying even a small balance can be extremely expensive. The crusade against consumer debt is always at the forefront of personal finance advice, because of these high-interest rates.
But what if you could lower your interest rate to something that doesn’t make you feel like your face is on fire every time you open your credit card bill?
You have no reason to be paying double-digit interest rates on your debt
The truth is, you don’t have to (and shouldn’t) be carrying a balance at 20%. Heck, if you have good credit, even 10% is too high. Why? Because if you have a high credit score, you can take advantage of low promotional interest rates on new credit cards or balance transfers. You’re also more likely to be eligible for personal loans that will let you consolidate your credit card debt at a lower rate.
Realistically you can probably find a way to pay only 5% (or less) in interest on your credit card debt, which takes one of the most toxic forms of debt consumers find themselves caught up in, and transforms it into something almost on par with less agonizing debts like student loans or car loans.
Paying less interest on your debt will help you pay it off faster
If you owe $5,000 in credit card debt, you might be spending as much as $1,000 in interest per year lugging it around. You’ll need to be making payments of at least $83 per month, and not be adding at all to the balance, simply to break even.
If you’re cool with paying $83/mo to get absolutely nowhere then, by all means, stop reading. But if you’re tired of seeing that your debt balance hasn’t budged for months or years, it’s time to develop a new payoff strategy, and one of the best ways to start that off with a bang is to make sure $83/mo isn’t going up in smoke.
A lower interest rate will reduce both the overall cost of your debt AND the total time you spend in debt.
For example, let’s say you owe $5,000 on a credit card and you make payments of $100 per month.
At 20% interest, in one year you’ll have made $1,200 of payments, but $980.61 went to the interest which means your ending balance is only $4,780.61. At 5% interest, you’ll have made those same $1,200 in payments, but only $227.92 went to the interest which means your ending balance is $4,027.92.
After 5 years, you’re still over $3,300 in debt in the first scenario. In the second, you’ve already been debt-free for 4 months.
How do I get an interest rate less than 10% on my credit card debt?
There are two ways:
- Opening a new credit card with a lower interest rate
- Taking advantage of a promotional balance transfer offer on an existing credit card
Both strategies require that you have good credit. If you don’t, you need to keep making regular payments on your existing debts until you do. I realize that it seems unfair that people who are struggling with debt will not have as many opportunities to make their debt more manageable as people who don’t even need those opportunities in the first place, but that’s how the credit card industry works: the less you need it, the more you’ll be rewarded. Luckily for all of us, it’s pretty easy to get a credit card.
There are a few select low-interest credit cards available, but usually, even the best interest rates are 8% to 13%. To get a single-digit interest rate, your best bet is to find a promotional balance transfer offer.
How to take advantage of a promotional balance transfer rate
A new credit card or an existing credit card that you don’t really use is likely to offer you a promotional interest rate on balance transfers, for anywhere from 6 to 12 months. These rates are typically from 0% to 3% interest, plus a balance transfer fee.
If your credit card debt will take you 3 months or longer to pay off, it is almost always cheaper to take advantage of a promotional balance transfer rate, even if it includes extra fees.
You should do the math first, though!
For small balances that you can pay off quickly, it’s typically not worth the hassle or fees to chase low-interest rates. However, if you owe more than $3,000 and you need 6 months or longer to whittle it down to zero, a balance transfer can make a huge difference. To determine whether or not the opportunity is worth it for you, calculate how much interest you’ll pay leaving your balance exactly where it is. Then calculate how much you’ll pay if you transfer it to a lower-rate card, including any associated transfer fees and costs. Compare the two. If the difference is more than $200 in savings, it’s probably worth the hassle to take advantage of the lower rate.
THERE IS ONE RISK THOUGH! Typically if you don’t manage to pay off the balance by the time the promotional term runs out, the amount owing will begin accruing interest at the cash advance interest rate, which is usually much higher than your average 20% credit card interest rate. Depending on how far you’ve fallen behind on your debt repayment plan, this can rapidly undo all the savings of transferring the balance in the first place.
You have to stay out of debt
The main danger of taking advantage of a promotional balance transfer or a new credit card, is once you move your balance over, you ring it up all over again and find yourself now with two debts instead of one.
If you got yourself into credit card debt, you cannot use credit cards until it’s paid off.
Once you make the balance transfer to the low-fee card, you need to tuck away (or better yet, cut up) all of your credit cards and switch to an all-cash diet until you can get your finances organized again. Going 6 months or a year without credit cards might seem massively inconvenient (because it is), but spending that on a debt treadmill is even worse!
The transfer strategy is a good way to manage debt, but is very risky for the wrong personality type. I’ve seen some people be very good with their finances for a few years then transfer their balance and seemingly in their head, that debt disappeared for the next few months. They racked up more debt and are in a worse off position.
Honestly, I think a 20% interest rate should be criminal. That’s outrageous! I agree; take advantage of a balance transfer offer if you can and transfer the debt to a lower-interest card.
I wish this was something that was regulated or there was a cap on what can be charged. 20% is absurd and just plain mean. Though I don’t think anyone should make purchases on credit cards if they can’t actually afford to pay cash.
I always thought I had a good deal on my credit card, until I actually went through my contract. My interest rate wasn’t far off 20%, which absolutely shocked me. I found a balance transfer card, and transferred my remaining balance to it. I then left my card high up, out of sight, so that if there is some sort of emergency, I’m covered. I’ve been paying off the balance transfer card, and it is much more manageable. Although, I agree that it’s very easy to transfer the balance off one card and think of it as paid, leaving the card free to be used. I left mine somewhere that is so awkward to get it back, that it would actually need to be an emergency.