If you haven’t had an interest rate increase lately, you’re likely in the minority. For the past six months, but particularly in the past two months, credit card companies have been increasing interest rates at an alarming rate. The victims: people with good credit who pay on time. The perpetrators: just about every credit card company… and the new credit card laws.
Now, I’ll save a discussion of the causes and effects underlying interest rate increases for a different article. Here, I want to address the top two questions posed by the honest, credit-worthy people who have contacted Smart Balance Transfers recently wondering what they should do when they learn that their interest rate has been increased by 50%, 100% or more.
1.) Should I opt out of my credit card to keep a lower interest rate? This is one of the most common questions we receive and its not as clear cut as it may seem. Closing a credit card account can negatively impact your credit score. For some, this can be minor. For others, it can be major.
One major problem that can be caused by closing a credit card account is a decrease in your credit score caused by an increase in your credit utilization ratio. Credit utilization ratios account for about one third of your credit score. Put simply, this is the amount of credit card debt you have expressed as a percentage of your total available credit. Thus, a person with $1,000 in debt and a $10,000 limit has a 10% credit utilization ration. This is a positive for credit scores, as this person appears far from maxed out.
If you have credit card debt and you close a credit card account, your credit utilization ratio is likely to rise, often dramatically, as your debt level remains the same and your available credit decreases. Getting a new credit card, which will add more credit, can help with this.
Ultimately, however, unless you will need to have a great credit score in the near future to obtain a low interest home, car, or student loan, you may want to focus on your wallet, instead of your credit score. Sure, its nice to have a good credit score. But if your interest rate increase will cost you a few hundred dollars a year, you’re better off opting out of your credit card account and working to improve your credit score, rather than paying a fortune to maintain it.
2.) Should I do a balance transfer? Yes, yes, and yes-if you can. Unfortunately, credit card companies are making it harder for consumers to get 0% balance transfers and shortening the length of these offers. However, if you have good credit, a balance transfer can help you in multiple ways. First, it will save you money on interest. Just how much you save will vary based on your debt, but a person with a 14% interest rate can expect to save about $100 a year for every $1,000 transferred.
A second reason to do a balance transfer ties in to your credit utilization ratio. If you are able to get a new line of credit AND keep your old credit card open, you will decrease the amount of available credit you are using. This can positively effect your credit score and allow you to pay down your debt at a lower interest rate. Additionally, this can also provide you an opportunity to take your business to a credit card company that has not wronged you.
(For balance transfer application tips or to compare balance transfer credit cards, please visit the main section of this website.)
Ultimately, an interest rate ultimatum from a credit card company that provides an opt out opportunity doesn’t have to cost you a fortune or ruin your credit score (and, unfortunately, getting an opt out opportunity is much better than getting hit with a rate increase you can’t control). The key to managing a credit tsunami such as this is to carefully weigh your options and do what’s best for your wallet. In many cases, this will require opening a new credit card and taking advantage of a balance transfer. Fortunately, this may help you to save money on interest and protect your credit score. Let’s just hope credit card companies don’t take balance transfers away.
