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What is APR? How Does it Affect Loans and Interest Rates?


Annual Percentage Rate (APR) isn’t a technical finance term. Still, there are aspects that might confuse you if you're not a personal finance expert. Let's get through some of the important basics to help you understand more.



APR Definition 

APR stands for "Annual Percentage Rate," which is the amount of interest that will apply on top of the amount you owe on a year-to-year basis.

So, if you have an APR of 30 percent, that means you will have to pay a total of $30 in interest on a loan of $100, if you leave the debt running for 12 months.

As another reference: If it were $10 in interest, that would mean the APR is 10 percent. 

See How Your APR Is Calculated 

Your APR rate depends on your creditworthiness, the type of credit you're applying for, and the current borrowing rates.

It's a proprietary calculation made by your credit card issuer or lender. If you are card shopping, you also should look at the purchase APR and balance transfer APR.

Once you apply, you might qualify for the card at a fixed interest rate. There could even be a no-interest period. However, some cards include a range of rates (usually three) and your creditworthiness determines which one applies to you.

Credit Card APR Rates

Remember, there are many types of APR that apply for credit cards, such as: 

  • Cash advance APR
  • Purchase APR
  • Balance transfer APR
  • Introductory offer APR

Calculating Your Credit Card APR 

Your credit card's monthly interest cost is determined by dividing your annual APR by 12. If you pay in different installment periods, just use the number of payments divided by 12 to determine your APR.

If your APR is 27.99 percent, then 2.3 percent is applied each month. So, a $1,000 loan would have a charge of $23 monthly, equating to $276 a year in interest.

Because the annual (nominal) APR isn't effective for calculating your realized interest costs, many people find APR confusing.

Now it gets even more confusing when you factor in the effective APR calculations. Your effective APR rate is the figure determined by your compound interest. This rolls in the interest that was applied to your card in previous months.

As a result, a high APR rate can make the amount you owe in interest inflate very fast.

The Difference Between APR and APY

APR is your Annual Percentage Rate, while APY is your Annual Percentage Yield. The latter is more effective when looking at a certificate of deposit. It shows the person that's saving their money what they can expect to yield in a year's time.

The more often you get paid in a year, the more you stand to receive. A monthly disbursement would equate to an APY of 5.12 percent instead of the 5 percent you might have expected.

The APY figure is required by law, as per the FDICIA Act of 1991. Banks must disclose what your APY will be before you sign up for a savings account.

Understanding an APR in Your Mortgage

This is the easiest thing to grasp. If you look at a home loan, the monthly payments are always the same. It's not like with a credit card, where you have purchase APR as well, so you can determine how much you will spend in interest ahead of time. This way, any set APR will be easy to understand in terms of realized costs for the consumer.

Credit APR Laws

There are some situations where a company cannot exceed a certain APR amount. For example, it was deemed that payday loan companies are charging their customers way too much.

When you're getting a credit card or a loan, the APR rate must be discussed with you upfront. This law is a part of the Truth in Lending Act

Ready to apply for a loan or credit card? Get started.