Balance Transfer Guide

Transcription

1 Balance Transfer Guide 1

2 Balance Transfer Guide Having been established for over 50 years, the UK enjoys one of the most established and competitive credit card markets in the world. Numerous businesses, from large high street banks to specialist card issuers, vie for our custom through a range of innovative and diverse products. Nevertheless, despite this diversity of choice, year on year one credit card category remains far and away the most popular with the UK consumer, the ever popular balance transfer card (also commonly referred to as 0% cards, transfer cards, interest free cards and zero interest cards). What are Balance Transfer Credit Cards? Although balance transfer products have been with us for many years, they are still a relatively new addition to the credit card lexicon, first appearing in the UK in the early 1990's. Before balance transfer products became ubiquitous, credit cards were principally intended to more simply facilitate transactions. Consumers would use their cards to make purchases, they would then enjoy up to 56 days interest free (and the enhanced consumer protection afforded by credit cards in the UK) before they either cleared their balance in full or started accruing interest on the remaining balance at their given rate. For those who did start accruing interest, the rates charged often reached well into double digits (considerably more than might be charged for a personal loan of a similar amount) and rates would apply until the balance was cleared. Often consumers were trapped in a spiral of debt (exacerbated by antiquated payment hierarchies which saw cheaper debt cleared first, whilst higher rate debt continued to accrue considerable interest) with little hope of escape. The arrival of balance transfer cards in the UK market marked a radical shift in the balance of power between issuer and customer. For the first time consumers could transfer their balance (debt) from one card issuer to another at a lower rate of interest (often now 0%) for an introductory period, rather than being effectively tethered to a specific issuer who had little incentive to offer competitive interest rates. By making debt portable between different competing card institutions and offering consumers the opportunity to shop around, the balance transfer proposition arguably transformed credit cards from purely a high interest product into a potential vehicle for low cost personal debt. 2

3 The History of Balance Transfers Although balance transfer products are now synonymous with the UK credit card market (and UK consumers enjoy 'teaser', or introductory, periods amongst the best in the world), it was in the United States that the concept of balance transfers first appeared. The first balance transfer card was launched by Signet Bank (Virginia) in 1992, on the recommendation of two consultants brought in to manage their credit card business, Richard Fairbank and Nigel Morris. Fairbank and Morris were quick to realise and harness the power of increasing sophisticated information technology for segmenting credit card prospects (customers), based on characters garnered from credit bureaus and lifestyle data. This enabled them to better target credit card propositions to customers based on their specific risk profile. This new approach opened the door to credit cards with no annual fee (annual fees until this point had been used partly to mitigate the risk associated with lending to largely untargeted customers), and the development of credit card propositions specifically designed to appeal to certain types of consumers (e.g. balance transfer deals for more affluent customers). Initially the approach, ground breaking as it was at the time, met with stiff opposition from senior executives trained in more traditional banking methods, but when Fairbank and Morris used it to fuel their outbound marketing strategy, combining enhanced customer segmentation with compelling product propositions, it quickly proved its worth. In 1994 Signet Bank spun off its credit card business as 'Capital One', but it soon outgrew its parent. In 1995, when Signet was bought by First Union Corporation, Capital One remained independent, going on to become a powerful US bank in its own right; it also operates significantly in the UK from offices in Nottingham and London. From its roots in the United States, the balance transfer concept quickly crossed the Atlantic as Capital One and other new credit card issuers (mostly from the US), hungry for market share, entered the UK market in the early to mid 1990's. How do Balance Transfers Work? Balance transfer credit cards allow holders to transfer a balance (debt) held on an existing credit card to a new credit card. The specific rates the balance can be transferred at are unique to each deal, and may even vary between customers (as only 51% of accepted applicants have to be offered the rate advertised), but they can be as low as 0% for a specific introductory (or 'teaser') period. 3

4 Although they are commonly known as '0% deals', there are some costs associated with transferring a balance, with the 'balance transfer fee' being the most common. Balance transfer fees are the amount payable by the card holder to the new issuing bank for them to process the agreed transfer (nothing is payable to the institution the transfer is being made from). They have a linear relationship with the total amount transferred as they tend to be a fixed percentage of the total (often with a minimum, to discourage very low balance transfers). Typically they are not payable up front and, assuming the credit limit permits, can be added to the total balance, enjoying the same 0% rate as the balance itself. In recent years, a number of issuers have started to discount their balance transfer fees to make their offers appear more compelling in a highly competitive market. Typically this means that customers are charged a higher fee when they initially transfer, which is then refunded back to the account, assuming they meet their obligations to the card issuer. How to Transfer a Balance Assuming enough credit is available within a credit limit, transferring a balance can be as simple as completing a few additional fields on an application form, or offering some details (card number, issuer, card holder, amount to transfer etc) to the customer service representative of the new card issuer when a call is made to activate the card. Once a transfer is processed, the funds typically clear in around 5 working days, after which point the transferred balance will stop accruing interest with the original issuer. Although transferring a balance is a relatively straightforward process, there are things that savvy consumers should be aware of: Often terms stipulate that transfers cannot be made to the total value of a given credit limit. Often issuers withdraw the introductory balance transfer rate after a given period. After this time, balances transferred tend to attract a higher interest rate (if they are permitted at all). The total amount each customer can transfer is directly linked to the credit limit they are offered by the card issuer. Customers aren't always offered all the credit they need to clear an entire balance, meaning higher interest is still payable on their remaining un-cleared balance held on the original card. Transfers within the same financial group tend not to be permitted (i.e. transfers from one card with Bank A cannot be made to another card with Bank A). This can cause some confusion as the actual card issuer may not always be who the customer perceives it to be. 4

5 Often transfers are only permitted for new customers. In the eyes of many issuers, a customer is new if they have not had a card with them for around 2 years. With this in mind, it is best practice to cancel all credit cards not being used as quickly as possible (this can also result in higher credit limits being offered as the issuer will not have to make assumptions about additional liabilities an individual might incur). Failure to make minimum payments in full and on time often results in the withdrawal of the teaser rate from the consumer. In fact, industry data shows that around 30% of consumers lose their 0% deal through issuer repricing. 1 Credit card issuers are only legally obliged to offer the advertised rate to 51% of accepted applicants. This means that almost half the accepted applicants could get a different deal to the one they applied for. Some credit card issuers detail in their terms what rate a customer will be offered if they do not meet the criteria for the advertised rate, so it is worth reading these thoroughly, as these down sell rates can be considerably less attractive, and multiple credit applications can harm one's credit score (limiting the opportunity to apply for multiple products). Balance transfer cards are unlikely to be suitable for individuals who are intending to make purchases on their credit card, which they cannot pay off in full immediately. Although changes imposed on the credit card industry with the introduction of the Consumer Credit Directive (2011) which forced issuers to amend their payment hierarchies so that the most expensive debt is cleared first, debt on purchases still typically attracts a higher rate of interest than the transfer teaser rate. Therefore customers might be better served by products specifically designed to offer low interest rates on new purchases. Every card issuer uses their own methodology for calculating the monthly minimum payment. This can mean the monthly minimum payment a customer incurs actually increases when switching to a 0% deal. 1 Brian Cole, Capital One UK 5