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Making Life Hard One Card at a Time

Credit card arbitrage is when you use a low promotional balance transfer or deposit rate from a credit card and use the money to earn income at a higher rate. This sounds good in theory, but in my opinion for most people the limited returns don’t compensate enough for the added risk and extra time and effort. In today’s low interest rate environment it is difficult to find the higher rates needed to make it worth your time. Let’s take a look at a live example.

Right now (April 12, 2104) in Canada Rate Supermarket is offering a $100 promo when you sign up for either a MBNA cash back card, or a MBNA platinum card that offers a 0% balance transfer for 12 months.

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Initially the 0% offer sounds great, but there are a few caveats.

  1. While there is no annual fee, MBNA will charge you a 1% balance transfer fee (min charge $7.50) when you make the request, so the 0% offer is really 1%.
  2. The second thing to consider is that you have to make the minimum payments each month otherwise they’ll up the interest rate to around 20%. The minimum payment is 1% of the balance outstanding. If you borrowed $10,000 you’d have to remember to pay roughly $100 per month. The simplest solution to this is to call them up and request that they take the minimum payment from your bank account via a direct deposit. This way you won’t forget the payment and won’t be penalized with the 20% interest rate.
  3. You have to remember to pay off the entire balance at the end of the 12 months. Figuring out the deadline for the final payment can be confusing, so the simplest solution is to call MBNA and mark it in your calendar. If you miss the payment the interest rate spikes up to around 20%.
  4. You won’t be able to use the card for anything else. For instance say you use the card to buy $50 of gas. You would think that by simply making an extra $50 payment there would be no issue, but this isn’t the case. The extra $50 payment would lower the 0% balance transfer amount, and you would still owe $50 for the gas plus interest if you miss the due date. This means that if you use the card for regular purchases you will have to pay off the entire balance to avoid extra interest. If you plan to use credit card arbitrage then don’t use the card for regular purchases, use it only for the balance transfer.
  5. They are sneaky with the credit limit. Say you get authorized with a credit limit of $10,000, you shouldn’t request a $10,000 balance transfer because of the 1% balance transfer fee they charge upfront. If you do request the full $10,000 they will charge you a $100 fee on top of the $10,000 putting you above you credit limit. Now because you went over the credit limit they will charge you another fee! So if you have a credit limit of $10,000 you should only request $9,900.99 ($10,000 /1.01). If you request $9,900.99 the 1% balance transfer fee will be $99.01 putting the total at $10,000.
  6. Requesting the full amount from a credit card will negatively effect your credit score. When your credit score is calculated one of the things that is analysed is how much of your available credit is used. If you have a $10,000 limit on your card and you use the whole thing then you are using 100% of your available credit for that card. If you need a good credit score in the short term, say you are applying for a mortgage soon, then you may not want to use this strategy, or consider requesting a lower amount.

As you can see there are a lot of different factors to consider. Credit card companies offer these 0% promos in the hopes that you will slip up and have to pay a much higher interest rate on a large balance. With a little research and planning these can be avoided, but at the end of the day it is only worth it if the benefits are significant. You’ll see from the below examples that credit card arbitrage is probably not worth it with a savings account, but used with a line of credit or other debt it may be worth it.

Using a $10,000 balance transfer with a savings account. 

In this example I’m assuming I’ve applied for the MBNA platinum card and was approved for $10,000. In my regular savings account I can get 1.8% in interest, but it looks like there are a few promotional offers out there at 2.0%. I’ll use 2% in this example. Because of the 1% balance transfer fee I’ll only be able to request $9,900.99 of the $10,000 with the remaining $99.01 as the fee.

Annual Interest Earned $9,900.99 x 2% $198.02
Rate Supermarket Sign-up Promo Gift Cards $100.00
Subtotal $298.02
Balance Transfer Fee -$99.01
Net Gain $199.01
Net Gain as a % of $10,000 1.99%

As you can see you end up with an extra $199.01 in your pocket. If there is no rate supermarket promo then you end up with an extra $99.01. For the hassle it takes to make sure everything is setup properly I don’t think it’s worth it for an extra $100 to $200 per year. If interest rates were significantly higher then it would be worth it, but in today’s low interest rate environment I don’t think it will be worth it for some time.

Using a $10,000 balance transfer with a line of credit or other debt.

Credit card arbitrage may not be worth it when used with a savings account, but when used to pay down other high interest debt in a self-controlled manner then it can be worth it. For instance say you have a line of credit or a loan that you are paying off then you can save a bunch in interest by using the balance transfer to pay down other debt. Line of credits and personal loans usually range from 3.0% to 10% so using the 0% balance transfer with a 1% transfer fee on $10,000 could save you anywhere from $200 to $900 per year plus the $100 in gift cards.

For me personally I plan to use these types of 0% balance transfer deals in conjunction with my line of credit. I recently opened an unsecured line of credit with National Bank of Canada which will charge me 3.75% (prime + 0.75%) in interest. They offer good interest rates to various professionals. Because I’m an accountant I was able to get 3.75% without having to negotiate, which was nice. I’ve found that even with good credit, the best other banks will offer is 5% or 6% for an unsecured line of credit. You can get lower if you are a good negotiator, but it is difficult. For a secured line of credit you should be able to get around 3%. Because I don’t own a house I was limited to the unsecured line of credit. Contact me if you are a professional in BC and interested in setting up a line of credit. I can give you the name of the National Bank of Canada guy I dealt with.

So my plan is to use this line of credit to invest with. For most people I would not recommend borrowing to invest as it is very risky. It’s not something you should consider unless you have at least 2 years of experience investing in the stock market (More is better). I’ve thought about this for a long time and discussed it with the spouse. We are comfortable with the added risk.

Markets are high right now, so I haven’t been buying any stocks as I’m waiting for prices to drop so I can invest in strong dividend growth companies at a cheap price. When prices do eventually drop and I buy shares with my line of credit funds I plan to use these 0% MBNA offers in conjunction with the line of credit. First I will use the 0% MBNA balance transfer money to buy shares. When the year is up and I have to pay the full MBNA balance off I will use the line of credit money. After I’ve paid off the MBNA balance with my line of credit I will see if there is another 0% offer out there and repeat the process. MBNA seems to run these promos in perpetuity which is good news. One important point is that I am not relying of these 0% promos. If they stop the deal I am comfortable using the line of credit from that point on.

Using the 0% balance transfer promo instead of the line of credit will save me about $275 per year for every $10,000 at current rates. Between my spouse and I our credit limit on these cards is much higher so our savings should be much higher than $275 which is what makes it worth the time and effort for us.

I’ve been aware of these 0% promos for a number of years now and was always tempted to use the deal to invest. The problem is that you have to pay back the balance in a year, which is too short of an investing time line. My ideal investment would mean that I never have to sell the stock. Borrowing for a year in the hopes that the stock will go up in price is too risky a plan. I’d use these promos only if you have a plan in place to pay off the balance in a year. In my case I’ll use the line of credit. Other suggestions for effective use of credit card arbitrage are an extra lump sum payment on your mortgage or lump sum payments on other loans (personal, car, etc). Figure out what you will be able to save in a year and then use the 0% balance transfer to pay down debt now. As the year progresses keep saving and then at the end of the year pay off the 0% balance transfer portion.

One final word of caution. If you plan to utilize a credit card arbitrage strategy then you should be comfortable with debt and make sure not to over extend yourself. Things come up in life without warning so it’s important to give yourself a buffer. For instance I have an emergency fund that should cover our basic expenses for 3 months.

 

Photo credit: Josh Kenzer / Foter / Creative Commons Attribution-NonCommercial-ShareAlike 2.0 Generic (CC BY-NC-SA 2.0)

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3 Comments

  1. I haven’t tried credit card arbitrage yet for two reasons: One is that I’ve been worried about sneaky fees that might come up if I screw up the mechanics of the process (but you’ve explained that nicely here). Second is that the spread between the balance transfer rate and the interest rate on savings accounts seems too low to make it worthwhile.

    But the truth is I’ve gone to a lot more trouble to put $200 in my pocket, so it might be worth a shot!

  2. I’ve always been hesitant to try and leverage balance transfers and opening multiple cards to take advantage of “free money.” While it can be a good idea in theory to try and take advantage of rewards that come for opening a new credit card, what you end up with is a whole lot of cards to keep track of and if you close those cards it hurts your credit score. I plan on staying away from Credit Card Arbitrage.

  3. You explained some points that used to bring me confusion pretty well. 🙂 I have heard about credit card arbitrage but didn’t gave it a try thinking that it will only bring problems in the long rub.

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