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APR stands for annual percentage rate. It is a numerical value, taken as a percentage of a loan or credit amount, that characterizes the overall cost of a loan product or line of credit.
Several products use an APR. Consumers can look at the APR for mortgage loans, credit cards, and vehicles. Also, many private loans use an APR.
The APR accounts for interest rates and associated lender fees, while interest rates alone only account for the interest on the principal of the loan. By looking at the APR, consumers can tell how much they’ll actually pay for the loan, factoring in origination fees, prepayment penalties, and more.
For example, assume that a consumer takes out a mortgage loan for $200,000, and that loan has a six percent interest rate. The consumer would expect to pay $12,000 in interest each year or $1,000 per month.
However, the consumer also has other fees associated with the mortgage. Those fees total $5,000, bringing the total cost of the loan to $205,000. The APR is 6.15 percent when factoring in these fees. By looking at the APR, the homeowner knows he or she will pay a total of $12,300 in interest per year.
High APR? What it Means for the Consumer
The APR is a good indicator of what the consumer will pay in monthly payments. The higher the APR, the higher the monthly payments. The overall interest paid is higher when the APR is higher, and it is charged on a monthly basis.
Several factors go into determining how high an APR will be. The type of loan impacts the APR. Home loans are typically on the lower end of the spectrum when it comes to an APR. The lender uses the property as collateral, mitigating their risk. This allows the lender to charge a lower APR.
Credit cards typically have a higher APR since credit card debt is unsecured and revolving debt. The lender takes on more risk with these loans and, in turn, charges a higher APR.
Individual creditworthiness impacts APR on a case-by-case basis. Those with subprime or no credit are more likely to receive a higher APR on loan products and credit cards. Conversely, those with better or super prime credit are more likely to receive a lower APR on the same products.
Author: Jeff Gitlen