Thursday, November 21, 2024

0% forever transfer deal--is it for real?
by Scott Bilker
Scott Bilker is the author of the best-selling books, Talk Your Way Out of Credit Card Debt, Credit Card and Debt Management, and How to be more Credit Card and Debt Smart. He's also the founder of DebtSmart.com. More about and DebtSmart can be found in the online media kit.

Scott Bilker

Scott:
I've been a faithful reader of your newsletter for about 6 months now and you have a lot of great information packed into it. My question is this. I received an offer from Discover for a no fee, balance transfer with 0% APR for life of the unpaid balance, as long as I make a purchase each month after July 2005. I'm tempted to take up this offer to get some of my other cards that are at a higher rate moved to this. I've talked to them previously and they said the purchase could be as small as a pack of gum. Is there a catch here, (other than I see you need to never be late with a payment)? If you've written about this before could you tell me where I can see this info. Thanks for all your help. 
Sincerely,
Mark

Mark,

I recently received this very same offer! Additionally, I was interviewed by SmartMoney.com's Aleksandra Todorova for a feature story that talked about it as well titled, Free Cash!

This is certainly one of the most creative transfer offers I've seen of late. The idea of 0% APR forever, the life of the loan, is almost too good to be true. And of course, as you have guessed, it is too good to be true. However, it still may be very good depending on how you can use this offer.

We all know that there isn't any bank on this planet that is going to propose a deal that will not make them money. Yes, they're making money on this, and it's okay, the question is just how much and is it worth it for us to use the offer.

This offer presents a very interesting math problem. As always, you need to know the question before you can get the answer. So the question is simply this, "What is the true interest rate (true cost) if I take advantage of the 0% forever transfer offer, when all the fees and terms are taken into consideration?"

I've posted the actual letter that I received about the offer. All the deals are contained in here.

To figure out if the offer is worth it we must first take a look at all the terms:

1) 0% forever with conditions 
2) Must make $50 in purchases starting with billing period that ends in June 2005. Since I received the offer in January that means about 6 months without having to make any purchases if I took advantage of this offer right away.
3) Balance transfer fees of 3% of the amount transferred with a $5 minimum and $50 maximum.

That information is still not sufficient to determine the true cost of this deal. You still need to know the purchase rate for the card, current balance, maximum available credit, how much you want to use for the 0% deal, and how much you're going to pay per month.

Keep in mind that payments will be applied to the balance in a manner that makes the most money for Discover. That manner is to apply those payments to the 0% deal first and thereby, effectively, locking in all other balances, and future purchases, at the high purchase rate. See my article, How banks use low rate offers to lock in high rates for more on that.

Here are the numbers, from my account, for these other details: 

1) Purchase rate 19.99%
2) Purchase balance $0 
3) Maximum $11,500
4) For three examples I want to use $10,000, $2,000, and $1,000 for as long as I can at the 0% forever rate. Therefore, I will make minimum payments of 2% of my balance (not lower than $10) until the 0% portion of the balance has expired, at that time, I'll pay off the entire balance.

Tip: Be sure that your balance is zero before taking advantage of the offer. Do this by transferring that balance to another card first. Then, write the transfer check to yourself and pay off that card.

Math details for the below examples are here.

Example #1: 
1) Purchase rate is 19.99%
2) $10,000 is cash advanced at 0% for life ($50 cash advance fee) 
3) Charges build at $50 per month 
4) Minimum payments are made on the account, which are equal to 2% of the account balance. At that rate, the 0% balance is repaid in 72 payments.
5) At that time, the entire balance is paid off since the "0% for life" is over. Life in this case was 72 months.
6) The true cost for the money is 6.07% APR. Still very good but certainly not 0% because of the purchases being locked in at 19.99%.

 

Example #2: 
1) Purchase rate is 19.99% 
2) $2,000 is cash advanced at 0% for life ($50 cash advance fee) 
3) Charges build at $50 per month 
4) Minimum payments are made on the account, which are equal to 2% of the account balance. At that rate, the 0% balance is repaid in 45 payments. 
5) At that time, the entire balance is paid off since the "0% for life" is over. Life in this case was 45 months.
6) The true cost for the money is 9.79% APR. This makes sense because I'm using less money at 0% as a proportion to the balance that being charged 19.99%

 

Example #3: 
1) Purchase rate is 19.99% 
2) $1,000 is cash advanced at 0% for life ($30 cash advance fee) 
3) Charges build at $50 per month 
4) Minimum payments are made on the account, which are equal to 2% of the account balance. At that rate, the 0% balance is repaid in 36 payments. 
5) At that time, the entire balance is paid off since the "0% for life" is over. Life in this case was 36 months.
6) The true cost for the money is 11.35% APR. Again, this makes sense because I'm not using as much of the 0% money.

 

Conclusion: 
1) It's not really "0% forever." 
2) The math has shown, in my examples, that the best rate was 6.07%, a far cry from zero.
3) The more money you can use in the offer the better the true APR. 
4) Forever, even at minimum payments, is only a few years because it's measured by how long at least some of the balance stays at 0%. 
5) Be sure that you know the true rate for your situation before taking advantage of the offer. You don't want to think that the rate is 0% and payoff a 9.99% card when the true APR is really 11.35%!

Note: Calculation of true APR. The True APR, or rate of return on investment, or any periodic-rate for any period, can be determined using a Present Value analysis on the Cash Flow. In other words, the sum of the present values of the cash flow for all periods must be equal to 0. The rate of return that makes that sum equal to 0 is the true APR (periodic rate).

The present value for any discrete period is A*(1+apr/12)^-n where A is the periodic cash flow, and n is the period number. In my analysis, I use the convention that positive money is received and negative money is spent (goes away from me). For example, spending $50 on the credit card is +50 because I received $50 from the bank (money to me), conversely if I make a $125 payment it's -125 because that is money leaving my hands. Therefore, the cash flow for that example period would be -75 (50-125).

How's that for a long-winded answer to your question, Mark?

Best, 
Scott

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