The difference between interest rate and annual percentage rate, or APR

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When you’re taking out a mortgage, there are two numbers that reflect its costs: the interest rate and the annual percentage rate, or APR. Although they both describe how much you’ll pay, they’re not the same thing.

APR vs. interest rate

  • The interest rate is the cost of borrowing the principal loan amount. The rate can be variable or fixed, but it’s always expressed as a percentage.
  • APR is a broader measure of the cost of a mortgage. It includes the interest rate plus other costs such as broker fees, discount points and some closing costs, expressed as a percentage.

Both the APR and the interest rate are ways for consumers to comparison shop as well as determine the affordability of the loan. The interest rate is determined by prevailing rates and the borrower’s credit score. For instance, the higher your credit score, the lower your interest rate will be. Your monthly payment is based on the interest rate and principal balance, not the APR.

The APR, conversely, is determined by the lender, since it’s composed of lender fees and other costs that vary from lender to lender. The Truth in Lending Act (TILA) requires that lenders disclose the APR in every consumer loan agreement. It’s important to note, however, that lenders might not include all fees in the APR. For example, they’re not required to include certain costs such as credit reporting, appraisal and inspection fees.

Be sure to ask your lender what is and what isn’t included in the APR when you comparison shop so you have an accurate understanding of how much each loan will cost.

Overall, you can think of the interest rate as a way to gauge your monthly costs, whereas the APR gives you a big-picture estimate of the cost of the loan.

When looking for a mortgage, the APR and interest rate are two of the most important numbers to consider, because even a seemingly small variance in rates can have a significant impact on your total costs.

Case in point: The average borrower could have saved $9,000 over a 30-year term, or more than $300 per year, if they found the lowest rate at the time they got their loan, according to a Consumer Financial Protection Bureau study

Why the length of your loan matters

If you plan to stay in your home for decades, it makes sense to take out a loan that has the lowest APR because you’ll end up paying the least to finance your house. If you don’t plan to stay in the house that long, it may make sense to pay fewer upfront fees and get a higher rate — and a higher APR — because the total cost will be less over the first few years.

“Because APR spreads the fees over the course of the entire loan, its value is optimized only if a borrower plans to stay in the home throughout the entire mortgage,” says Gloria Shulman, founder of CenTek Capital Group in Beverly Hills, California.

$200,000 mortgage with different rates, APRs
Interest rate 4.5% 4.25% 4%
Discount points 0 1.5 3
Points and fees $2,800 $5,800 $8,800
APR 4.619% 4.492% 4.36%
Monthly payment $1,013 $984 $955
All costs, 3 years $39,281 $41,220 $43,174
All costs, 10 years $124,404 $123,866 $123,380
All costs, 30 years $367,613 $354,197 $343,739

If you’re planning to stay in your home for a shorter period and want to purchase discount points to lower your rate, you need to do the math to determine your break-even point. Bankrate’s mortgage points calculator will help.

For example, if you chose a 0.25 percent lower rate for an additional 1.5 points because of the lower APR, but you moved in five years, you paid more than you had to. Your break-even on the points was seven years.

Unfortunately, those calculations are often confusing to homeowners, which is why it’s important to weigh your options carefully or get some expert advice before paying points.

How to compare mortgage offers

The APR and interest rate are the best places to start when comparing mortgages. Bankrate has the latest mortgage rates from multiple lenders, broken out by APR and interest rate and including the costs and estimated monthly payment.

It’s also important to compare mortgage offers overall, including lender requirements like credit score, down payment and reserve minimums. Keep in mind that your credit score has an outsized effect on the interest rate you qualify for, so if you have work to do to improve your standing, do your best to address that before applying for a loan.

When your credit is in shape, you can (and should) get loan estimates from several lenders, but try to do so within a relatively short window — about 45 days, the CFPB recommends.

This is because when a lender pulls your credit report, the credit check is added to your credit history, which affects your score. Getting quotes from multiple lenders within a few weeks of each other will only be counted as one inquiry, however, to minimize the hit, so you’re free to compare as many offers as you’re comfortable with.

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