By: Cheryl MacCluskey
Fall is upon us, stepping out in the morning you’re hit with cool weather with the aroma of fall in the air, It is getting colder and darker; leaves are falling from the trees. There is a chill in the air overnight, frost on the ground in the morning, mist and fog in the air. Dry, dead leaves crunch beneath your feet and clouds appear when you breathe out. A different fall from last year, but still taking a hike or a drive in the countryside and for a moment you think our world is back to normal. Opps, Interest rate vs. APR
In the last couple of months I have been asked the questions from Clients, “what is APR” and what does it stand for? APR is referred to as Annual Percentage Rate.
When you’re refinancing or taking out a mortgage, keep in mind that an advertised interest rate isn’t the same as your loan’s annual percentage rate (APR). What’s the difference?
Interest rate refers to the annual cost of a loan to a borrower and is expressed as a percentage
APR is the annual cost of a loan to a borrower — including fees. Like an interest rate, the APR is expressed as a percentage. Unlike an interest rate, however, it includes other charges or fees such as mortgage insurance, most closing costs, discount points and loan origination fees.
Why the difference? The APR is intended to give you more information about what you’re really paying. The Federal Truth in Lending Act requires that every consumer loan agreement disclose the APR. Since all lenders must follow the same rules to ensure the accuracy of the APR, borrowers can use the APR as a good basis for comparing certain costs of loans. (Remember, though: Your monthly payment is not based on APR, it’s based on the interest rate on your promissory note.)
So evaluate carefully when you look at the rates lenders offer you. Compare one loan’s APR against another loan’s APR to get a fair comparison of total cost — and be sure to compare actual interest rates, too.
Interest rate vs. APR
The interest rate is the percentage that the lender charges for lending you money. The APR reflects the interest rate plus the fees that you pay directly to the lender for fees such as origination charges, discount points and any other costs. These fees are added to the cost of the loan, and APR takes them into account. This is why APR is higher than the interest rate. But, remember the rate that you get locked in with your lender, is the rate that your monthly payment is based on.
Should you compare mortgage rate or APR?
I would say that when comparing both interest rate and APR, the mortgage with the lowest interest rate is usually the best deal. APR is used as a tool for comparing mortgage offers with different combinations of interest rates, fees, discount points. The APR calculations assumes the borrower will keep the loan for its entire term. For a 30 year loan, the entire term is 30 years. Very few people today keep their mortgages for the entire term. Usually they either refinance, pay off the mortgage before it’s paid off or they just sell the home.
After you do submit a mortgage application, your lender has to provide a three-page document called the Loan Estimate. On page 3 of the Loan Estimate it will show you a “comparisons” section that will list not only the APR but also how much the loan will cost you in the first five years. This will include the all the loan costs, pulse 60 months of the principal, interest and any mortgage insurance.
I tell my clients that the “Comparisons” sections of the Loan Estimate are useful in side-by-side comparisons if getting several mortgage offers. I feel that the interest rate is what most people concentrate on when applying for a mortgage. I hope this helped in explaining the difference between Interest Rate versus APR.
