It’s important to understand the distinction between the annual percentage rate (APR) and interest rate when financing your property with a mortgage or taking another kind of loan. Both detail the rates associated with borrowing money, but the terms do differ. APR highlights the overall costs of taking out a loan. The interest rate, however, shows you how much money you’ll spend monthly for financing your purchase. Therefore, the APR vs. interest distinction is the cost each entails.
Though your interest rate will make up your monthly loan costs, APR will show you how much both your interest and all other loan-based fees will cost you per year. So when it comes to planning how you’ll spend and manage your money, the APR will give you a more comprehensive look. Read on as we discuss the difference between APRs and interest rates.
What Is APR?
APR shows the total costs associated with borrowing money. It basically reveals the larger picture of how much debt you’ll build with a particular loan. In a home loan, these costs typically include the interest rate, broker fees and closing fees expressed as a percentage. With APRs, you’ll be able to assess how much of your assets will go to all the fees accompanying your home loan.
The federal Truth in Lending Act mandates that all consumer loan agreements list the APR and nominal interest rate for the home loan that’s being provided. This is important for you, because it allows you to compare rates that different lenders offer. Once you’ve made the APR vs. interest rate comparisons, you’ll be able to choose the right lender for your financial needs.
What Is Interest Rate?
The interest rate shows you what your monthly loan payment will be. After you consult with your lender to take out a home loan, you’ll learn how much your loan will cost you monthly. However, keep in mind that some mortgages and home loans provide home funding with interest rates that aren’t the same per month. For instance, fixed-rate home mortgages offer borrowers monthly interest rates that never change. Adjustable-rate mortgages, on the other hand, change rates after a set period of time.
What’s the Difference Between APR and Interest Rate?
Both APR and interest rate highlight the costs of taking out a loan, but the two do reveal some notable differences. The interest rate only indicates the monthly cost of borrowing money. In other words, it represents the flat cost of borrowing money for a loan. APR, however, reveals not only the cost of borrowing, but the additional fees that come with a loan as well. In the context of a mortgage, the APR provides an annual percentage of all the costs for your home loan. Therefore, you’ll have to determine which value will be better in helping you manage your assets.
How to Calculate APR?
Your lender will typically tell you the APR for your loan. Sometimes you may only receive the interest rate for the loan. But if you’d like to calculate your loan manually, you simply need to know its interest rate, the total amount you’re borrowing, any costs and fees for the loan and the repayment conditions.
But how do lenders calculate your loan’s APR? They determine this through a few different ways. Normally, they’ll assess your credit score and history, the type of loan for which you are applying and how much debt you currently owe, if any. In addition, lenders offer lower APRs to borrowers whose financial profiles are lower-risk. Higher APRs, on the other hand, go to high-risk borrowers so that lenders can make more money in exchange for taking on the added liability.
While both APRs and interest rates show you a lot about a loan and whether it’s a feasible option for you, an APR is a better value to measure when you’re loan shopping. In the context of a mortgage, APR reveals the overall cost of you loan, including interest rate fees, closing costs and origination fees. Interest rates, however, only show you how much your loan will cost you per month. Therefore, if you’re more concerned with effectively managing your finances over the long haul, looking at APR is probably the most effective tactic for you.
Ultimately, you’ve got to ask yourself whether you prefer knowing the overall cost or the monthly interest costs for a home loan.
Tips on Saving for Mortgages
- Financing your home purchase can be both stressful and expensive. While you may not be able to steer clear of monthly costs and fees, there are ways for you to feasibly manage your monthly and yearly mortgage costs. One of the ways to do this is by paying attention to your loan’s APR and interest rate. If you haven’t yet signed an agreement with a mortgage lender, make sure to thoroughly analyze the APRs and interest rates they list for home loans. You can either spend more money than you expected, or save more money than you’d ever imagined.
- Remember that other mortgages and home loan programs exist. The program you choose will largely affect your finances, so you’ll want to choose wisely. Some questions are important to ask during the search process. Do you need downpayment assistance to afford your property’s mortgage? Or is a fixed-rate or adjustable-rate mortgage a better option for you? Remember to keep these things in mind during the home buying process. That way, you’ll be able to effectively save and manage your finances for the duration of the loan.
- Sometimes getting help from an expert can make all the difference. SmartAsset’s financial advisor matching tool can pair you with up to three professionals in your area. Just answer a few questions about your financial situation and goals, and we’ll set you up with financial advisors who can best meet your needs.
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