What’s the Difference between Interest Rate and APR?

What’s the Difference between Interest Rate and APR?

Thinking of taking out a mortgage? There are several factors that determine how expensive or affordable your mortgage will be over the long term. Knowing all the numbers and exercising good judgment will help you get the most for your buck and save hundreds or thousands in home purchase loan repayment costs.

Two of the most important numbers to know when it comes to loans are interest rates and annual payment rates (APRs). Read on to know why California mortgage brokers believe these two numbers are absolutely important.

Interest Rate Versus APR

Simply put, an interest rate is the cost of borrowing money from a lender; it is the cost of capital. It is usually expressed as a percentage and is the additional money the bank wants repaid on top of the principal. For example, if you were to borrow $100,000 from a bank at an interest rate of 5%, you would be paying an annual interest rate of $5,000, which translates to about $416 in monthly interest payments.

The APR is much more comprehensive. In essence, interest rates are not the only costs associated with taking a loan. Others include loan origination fees, mortgage insurance, closing costs and other charges. All these factor into the overall cost of the loan. Therefore, the APR is a reflection of the overall cost of the loan including the interest rate and these other charges. It is also expressed as a percentage.

For example, if you borrow a $100,000 loan at a 5% interest rate and additional fees total $5,000, to calculate the APR, you will add the $5,000 fees to the $100,000 principal to get a new principal of $105,000. Applying a 5% interest rate on the new principal will result in annual interest payments of $5,250. The loan’s APR will be $5,250 divided by the original principal of $100,000 to get 5.25%.

APR is usually higher than the interest rate.

How Do Interest Rates and APRs Affect Loan Costs

You know what interest rates and APRs are. But why are they so important in choosing between loan packages? Because they can help consumers make comparisons when shopping for loans.

You can use the two to make apples-to-apples comparisons of loan rates. For example, a $200,000 loan with an interest rate of 5% will have lower interest payments than the same loan with a 6% interest payment spread out over the same period. Similarly, a $200,000 loan with an APR of 4% will be more affordable over the long term compared to a similar loan with a 5% APR.

You can even use the two together to compare different loan packages. For example, you can compare three loans of similar amounts and interest rates but different APRs to determine which is more cost effective over the long run. Typically, higher APRs usually mean the loan has higher upfront fees.

Comparing loan packages can be a difficult undertaking. Besides interest rates and APRs, additional factors such as the type of interest rate (fixed or variable) and the loan term will play into the overall cost of the loan. Consult an experienced California mortgage broker to help you make the best decision for you and your family. For personalized advice, call today to schedule your personal consultation with California Community Mortgage.

Posted in: Loan Programs