Balance transfers are a popular strategy among Australians looking to manage credit card debt, but their effect on your credit utilisation ratio, and ultimately your credit score, is often misunderstood. Here’s what every Australian consumer should know.
What Is a Credit Utilisation Ratio?
Your credit utilisation ratio is a percentage of your available credit that you’re currently using. For example, if you have a total credit limit of $10,000 across all your cards and you owe $2,000, your utilisation ratio is 20%. A lower credit utilisation ratio is generally seen as a positive indicator of financial health can improve your credit score.
How Balance Transfers Affect Credit Utilisation
Increase Your Available Credit
When you open a new credit card for a balance transfer, your total available credit increases, assuming you keep your old card open. If you transfer a $5,000 balance from Card A to a new Card B (with a $5,000 limit), your total credit becomes $10,000, but your total debt remains $5,000. This immediately reduces your credit utilisation ratio, which can have a positive effect on your credit score.
Closing Old Cards Can Hurt Your Ratio
Many Australians consider closing their old credit card after transferring the amount. While this might seem like a good way to avoid further debt, it reduces your total available credit, which can increase your credit utilisation ratio. For instance, if you close Card A after transferring the amount, your available credit drops back to $5,000, and your utilisation ratio jumps to 100% if you still owe $5,000 on Card B. This can impact your credit score and shorten your credit history.
- Consider keeping the old credit card account open, even if you do not use it anymore. This helps keep your credit utilisation ratio healthy. It also keeps the length of your credit history intact, which is good for your credit score.
Multiple Balance Transfers and Applications
Applying for several balance transfer cards in a short period can also impact your credit score. Each application results in a credit enquiry on your file, and too many in a short time can be viewed negatively by lenders.
Best Practices for Using Balance Transfers
- Keep Old Cards Open (IF you can control the spending): This helps maintain a lower credit utilisation ratio and preserves your credit history.
- Avoid New Debt: Don’t use your old card for new purchases after transferring the balance, as this can quickly increase your overall debt and utilisation ratio
- Pay Off the Amount Owed Within the Promotional Period: Most balance transfer offers are interest-free for 6-24 months. Failing to pay off the balance in this period can result in high revert interest rates.
- Limit Applications: Avoid applying for multiple balance transfer cards within a short timeframe to protect your credit score.
Key Takeaways
- Balance transfers can lower your credit utilisation ratio if you keep your old card open and avoid new debt.
- Closing your old card may increase your utilisation ratio and reduce your credit score.
- Responsible use of balance transfers, including timely repayments and minimal new applications, can support your credit health and debt reduction goals.
Understanding these impacts can help you make informed decisions and use balance transfers as a strategic tool for managing debt and improving your credit profile.
