When shopping for a loan, a credit card, or a savings account, you will constantly encounter two acronyms: APR and APY. While they look similar and both describe interest rates, they measure slightly different things. Knowing the difference can save—or make—you money.
Disclaimer: This guide is for educational purposes only and does not constitute financial advice.
What is APR? (Annual Percentage Rate)
APR stands for Annual Percentage Rate. It is the annualized cost of borrowing money. APR includes the interest rate on the loan, plus any upfront fees or costs associated with getting the loan (like origination fees or closing costs).
Crucially, APR does not account for the compounding of interest within that year. It assumes simple interest. You will most often see APR advertised when you are borrowing money, such as for mortgages, auto loans, or credit cards.
What is APY? (Annual Percentage Yield)
APY stands for Annual Percentage Yield. It represents the real rate of return earned on an investment, taking into account the effect of compounding interest.
Because APY factors in how often interest is calculated and added to the balance (compounding), it gives you a much more accurate picture of how much money you will actually earn over a year. You will most often see APY advertised when you are saving or investing money, such as with high-yield savings accounts or CDs.
See Compounding in Action
Use our compound interest calculator to see how different compounding frequencies affect your APY.
Compound Interest CalculatorThe Key Difference
The fundamental difference is compounding.
- APR ignores compounding.
- APY includes compounding.
If interest compounds more than once a year (e.g., monthly or daily), the APY will always be higher than the APR.
Why Banks Advertise Both
Banks are legally required to be transparent, but they also use these numbers for marketing:
- When you borrow money (Credit Cards, Loans): Banks advertise the APR because it looks lower and more attractive. However, your actual cost over a year (if you carry a balance) is closer to the APY.
- When you save money (Savings Accounts): Banks advertise the APY because it looks higher and more attractive, making you think you are earning more.
Summary
Always compare apples to apples. If you are comparing two loans, look at the APR. If you are comparing two savings accounts, look at the APY. And remember that the frequency of compounding makes a significant difference over time.