Credit Wisdom

Know-how Annual Percentage Rate (APR) works?

Category: Home Loan

Loans or credit agreements can vary in terms of interest-rate structure, transaction fees, late penalties and other factors. A standardized computation such as the APR provides borrowers with a bottom-line number they can easily compare to rates charged by other potential lenders. The annual percentage rate, or APR, is the cost per year of borrowing. By law, all financial institutions must show customers the APR of a loan or credit card, which clearly indicates the real cost of the loan.

Annual percentage rate versus Interest rate
APR is not the same as the interest rate on a loan. Loans charge an interest rate, but usually also charge other fees, such as closing costs, origination fees or insurance costs, which are typically wrapped into the loan. Credit card companies are allowed to advertise interest rates on a monthly basis, but are also required to clearly state the APR to customers before any agreement is signed.

If two loans have the same interest rate, but one has much higher fees than the other, simply shopping by interest rates won’t give an accurate comparison of the loans’ true costs. That’s why there is the APR. By factoring in other fees, APR gives a more accurate estimate of the cost per year of a loan. For this reason, the APR is generally higher than the interest rate.

Unfavourably, not all financial institutions include the same fees in their APR calculation, so APRs are not always a perfect comparison tool. When comparing personal loan, home loan or credit card APRs, ask which fees are included, so your comparison is accurate.

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