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Annual Percentage Rate (APR)
Published: 03/09/2009
When evaluating or comparing consumer loans, lenders are obligated to quote the Annual Percentage Rate or APR. This is often used in a misleading manner to oppose Payday Loans or other consumers short term loan products.
The terms annual percentage rate (APR), nominal APR, and effective APR (EAR) describe the interest rate for a whole year (annualized), rather than just a monthly fee/rate, as applied on a loan, mortgage, 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:
· The nominal APR is the simple-interest rate (for a year).
· The effective APR is the fee+compound interest rate (calculated across a year)
The nominal APR is calculated as: the rate, for a payment period, multiplied by the number of payment periods in a year. However, the exact legal definition of "effective APR", or EAR in short, can vary greatly in each jurisdiction, depending on the type of fees included, such as participation fees, loan origination fees, monthly service charges, or late fees. The effective APR has been called the "mathematically-true" interest rate for each year. The computation for the effective APR, as the fee+compound interest rate, can also vary depending on whether the up-front fees, such as origination or participation fees, are added to the entire amount, or treated as a short-term loan due in the first payment. When start-up fees are paid as first payment(s), the balance due might accrue more interest, as being delayed by the extra payment period(s).
In some areas, the annual percentage rate (APR) is the simplified counterpart to the effective interest rate that the borrower will pay on a loan. When not using the term "effective APR", the use of "APR" is an early term for nominal APR. In many countries and jurisdictions, lenders (such as banks) are required to disclose the "cost" of borrowing in some standardized way as a form of consumer protection. APR is intended to make it easier to compare lenders and loan options. The APR is likely to differ from the "note rate" or "headline rate" advertised by the lender, due to the addition of other fees that may need to be included in the APR. APRs can be found by asking the lender or by reading the appropriate section in the contract.
Lenders are required to disclose the APR before the loan (or credit application) is finalized. Credit card companies can advertise monthly interest rates, but they are required to clearly state the annual percentage rate before an agreement is signed. APR is a term used with regard to deposit accounts as well. However, when dealing with deposit accounts, the annual percentage yield (APY) or annual equivalent rate (AER) is quoted to consumers for comparison purposes.
