The Difference Between Interest Rate and APR

When you get a mortgage loan, you are charged the annual percentage rate (APR) and interest. It is important to understand the differences between the two and what they mean for you when you are loan shopping. You should become familiar with all of the terminology that is used so that you are as informed as possible when discussing the strengths, weaknesses, pitfalls and rewards of different offerings. Make sure that you read all of the information you can to make good decisions.     Interest Rate This is a charge that comes up once a year. It charges you for the privilege of borrowing money over the life of the loan. The monthly interest rate can be determined by dividing the total interest that is charged followed by the loan amount. Annual Percentage Rate (APR) This is the rate that is charged monthly and is used to calculate your monthly payment. The APR costs include your interest rate along with any pre-paid additional charges, such as your Private Mortgage Insurance. This represents the total cost of credit on a yearly basis after all of the other charges are accounted for. The significant difference between the two is that the interest rate calculates what your actual monthly payment will be, whereas the APR calculates the total cost of the loan. Knowing both of these will enable buyers to make the best types of comparisons when trying to get a mortgage. In the Bankrate article “APR vs Interest Rate - What’s the Difference?” contributor Michael Estrin puts it this way: "For example, a loan with a 4% rate will have a lower monthly payment than a loan with a 6% rate, assuming both are fixed for the same term. Likewise, the total cost of a loan with a 4% APR will be less than one with a 6% APR." Length of Loan Matters For those buyers who intend to stay in their home for a long time, the loan with the lowest APR probably matters most. This means that you will pay the lowest amount for your home. However, if you are in your home for a short-run, then it might make more sense to pay the higher APR with fewer upfront fees. Estrin explains that "time horizon is the most important question borrowers need to ask themselves before looking for a home and the mortgage that best fits their current and projected financial and family situations." Contributed by James Link