Annual Percentage Rate (APR)
APR (Annual Percentage Rate) measures the total yearly cost of a loan. Unlike a simple interest rate, APR includes lender fees, giving you the true cost of borrowing.
Definition
Annual Percentage Rate (APR) is the total yearly cost of borrowing money, expressed as a percentage. While an interest rate only tells you the cost of the principal borrowed, the APR provides a more comprehensive picture by including the interest rate plus any mandatory fees, such as origination fees, closing costs, or broker fees.
Why APR Matters
When you take out a loan (like a mortgage, auto loan, or personal loan), lenders are legally required to show you the APR alongside the interest rate. This prevents lenders from hiding the true cost of a loan behind a deceptively low interest rate paired with exorbitant upfront fees.
Because APR includes these fees spread out over the life of the loan, it is the best number to use when comparing loan offers from different lenders.
Practical Example
Imagine you are offered two different mortgages for $200,000:
- Lender A: 5.0% interest rate, with $5,000 in upfront fees. (APR: 5.2%)
- Lender B: 5.1% interest rate, with $0 in upfront fees. (APR: 5.1%)
Even though Lender A has a lower interest rate, Lender B is actually the cheaper loan overall because of the lack of fees, as reflected by the lower APR.
If you want to understand how compound interest affects savings instead of loans, you should look at the APY (Annual Percentage Yield).
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Frequently Asked Questions
Is APR the same as interest rate?
No. The interest rate is the cost of borrowing the principal. The APR includes the interest rate plus any broker fees, discount points, and closing costs.
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