Is Consolidating Credit Card Debt a Good Idea?

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This post comes from John Ulzheimer at partner site Mint.

This week I’m answering a question about the potential downside to consolidating existing credit card balances.

Question: “Does consolidating credit through balance transfers hurt your credit score? As far as overall debt, the number is the same, but your utilization on one card vs. multiple cards goes way up.”

The Minter’s question is specific to the downside of transferring balances from multiple credit cards to one newly opened card after the consumer received and took advantage of a balance transfer offer.

Balance transfer offers have become very attractive over the past 18 months. Many credit card issuers will allow you to transfer balances to a newly opened card without a balance transfer fee, without any interest on the new debt, and without any interest on new purchases.

The grace period for the zero percent rate on new purchases and balance transfers is running from about six months to a little over a year.

Interest-free debt

The balance transfer strategy is clearly a financial play. You’re converting interest-accumulating debt to interest-free debt. Given the average interest rate on credit cards is around 15 percent, you could save big bucks, but only if you play your cards right.

If you use the interest-free grace period to aggressively attack the existing debt with the intention of paying it off, then your head is in the right place.

If you are moving the debt and continue to increase the balance by falling in love with the “zero percent on new purchases” component of your card, then you’re headed for disaster.

How balance transfers affect your credit

The issue of score impact is one with many moving parts, which is common to credit scoring questions. It’s never as easy as yes or no.

When you opened the new balance transfer credit card you had to fill out an application. That means the credit card issuer pulled one of your credit reports. And that means a new credit card inquiry.

Of course, we’re talking about one inquiry on one of your three credit reports. I wouldn’t lose sleep over this.

When the account was opened it was eventually reported to the credit reporting agencies. That means you have a fairly new account on your credit reports, causing the average age of your accounts to be lower than it was before you opened the new account.

And because the credit card is likely on all three of your credit reports, this isn’t isolated to one of your credit reports, like the inquiry. Still, I wouldn’t lose sleep over this either.

When you moved balances from multiple cards to the newly opened card the net effect is fewer cards with a balance. That’s a plus for your credit score because one of the measurements is the number of accounts with a balance greater than $0.

Even though you still have the same amount of credit card debt, your revolving utilization percentage just went down. You added a new credit limit to your stable of credit cards and didn’t add any new debt.

That means the relationship between your aggregate balances and aggregate limits has to go down. That’s great for your score.

Yes, you have likely added a new credit card that’s heavily utilized (balance to limit ratio) and that’s not good. Still, there are so many important score measurements that are squarely in the “plus” column that the net will likely be a higher score.

The bottom line

Finally, I appreciate the concern about the credit score impact, but the bigger issue is getting out of the debt so you don’t have to worry about your score or interest rates.

Leave the existing cards open and even use them from time to time on extremely modest purchases (socks, tank of gas, dry cleaning) and then pay them off immediately.

This will keep the issuer happy because of the swipe fee income paid by the merchant and they’ll be much less likely to close your card if it’s still getting some usage.

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