Definition
The term annual percentage rate of charge, corresponding sometimes to a nominal APR and sometimes to an effective APR, is the interest rate for a whole year, rather than just a monthly fee/rate, as applied on a loan, mortgage loan, credit card, etc. It is a finance charge expressed as an annual rate. Those terms have formal, legal definitions in some countries or legal jurisdictions, but in general…
Annual Percentage Rate
The Annual Percentage Rate, also known as APR, can be defined as the rate that is implied or charged for borrowing loans or credit cards. This rate is charged on an annual basis. It is the representation of the actual annual cost of the funds over the loan term. It is inclusive of the fee or any kind of additional cost that may be associated with your transaction.
By law, all banking/financial institutions and credit card issuers must inform the customers about the annual percentage rate so that they know and are well-aware of the actual/real cost of the loan. In simple words, the annual percentage rate provides the borrower with a bottom line number which helps in comparing the rates on different loans accurately.
APR vs. the Interest Rate – What is the Difference?
As a loan borrower, you must understand the difference between the interest rate and the annual percentage rate because they are not the same.
The big difference between the two is that the interest rate is exclusive of all other fees that are charged on the loan, such as:
- Closing cost
- Origination fee
- Insurance cost
Therefore, simply shopping for a loan on the basis of the interest rate won’t give you, the borrower, an accurate comparison of the loan’s actual/true cost.
To evaluate the actual cost of the loans with the same interest rates, it’s advisable to view the APR of each loan separately. As the annual percentage rate is inclusive of all fees, it will give you a clear picture of the actual rates that may be applicable to the contract/agreement that you’re planning to sign and abide by. It gives a more accurate estimate of the cost/year of a loan, helping you make a well-informed decision with sheer confidence.
Further Reading
- Comparing fixed-rate mortgage loans via the annual percentage rate: Cautions and caveats – search.proquest.com [PDF]
- The financial and economic crisis of 2008: A systemic crisis of neoliberal capitalism – journals.sagepub.com [PDF]
- Financial literacy and retirement preparedness: Evidence and implications for financial education – link.springer.com [PDF]
- Helping consumers to evaluate annual percentage rates (APR) on credit cards. – psycnet.apa.org [PDF]
- Consumer financial protection – www.aeaweb.org [PDF]
- Exchange rate economics: where do we stand? – www.sciencedirect.com [PDF]
- Liquidity, monetary policy, and financial cycles – papers.ssrn.com [PDF]
- Money and Capital or Financial Deepening in Economic Developments? – www.sciencedirect.com [PDF]
- Foreign direct investment, financial development and economic growth – www.tandfonline.com [PDF]
