The ABCs Of Loan APRs
Feeling confused about rates on loan offers? Here are key things to know about APRs.
If you’ve ever applied for a loan or credit card, you’ve likely encountered the term APR, or Annual Percentage Rate, but understanding what it means can be confusing. Let’s break down what you need to know about APRs – how they work, how they’re calculated, what affects your APR, and why they matter.
What Are APRs?
APRs are annualized rates that represent the total cost of borrowing. This includes other charges and fees associated with borrowing, such as service and origination fees. Personal factors like credit score, debt-to-income ratio, and payment history affect your APR, but down payments and loan terms can also influence it. When comparing loan estimates, you may notice that the APR is higher than the interest rate – this is because it takes into consideration all these other potential charges, fees, and personal factors.
Another thing to note is that some loans offer different options, like variable or fixed APRs. With a variable APR, the interest rate is subject to change during the term of the loan, meaning your payment would change as well. With a fixed APR, the interest rate remains the same for the life of the loan.
How Are APRs Calculated?
If you’re comparing loans, knowing how APRs are calculated will help you choose the best option available. To calculate an APR, you’ll need three numbers: the amount borrowed, the total finance charge, and the loan term.
The equation for calculating is:
With “n” being the total days in the loan term.
Suppose you took out a $1,500 loan and have to repay it in 180 days. You’ll pay $140 in interest and are charged $30 in lender fees. To calculate APR, first calculate the sum of interest and fees, $170. Divide that by the loan amount, $1,500, to get 0.1133. Next, divide that number by the 180-day term to get .000629. Lastly, multiply that by 365 then by 100. The APR in this example is 22.98%.
While there are many benefits to knowing how to calculate APR on your own, it can get a bit complex. You can use an online calculator to determine your APR in seconds.
Why Does APR Matter?
Understanding APRs are important for a multitude of reasons, the main one being that it can save you money. Since lenders are required to disclose APRs, it’s a great way to compare options before finalizing your decisions. Because APRs are a better reflection of overall costs, it can also help you determine whether or not to proceed with a purchase.
There are many factors to consider when shopping for a loan, and the APR is one that deserves your full attention. Having a firm understanding can make comparing offers easier and will help ensure you don’t overextend your budget.
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