You’re sitting in a meeting or talking with friends when suddenly someone throws out an acronym as though everyone above the age of five should know what it means.
But you’re not so sure. More often than not, we nod and smile along, vowing to research it later. The financial world is full of such confusing acronyms. HELOCs? CDs? APR?
But luckily, APR isn’t hard to understand. That’s good news because understanding what an APR is and how it can impact your loans is critical when borrowing any loan, especially a mortgage. Here’s a primer on what elements make up an APR and how you can calculate it.
What Is APR?
APR stands for Annual Percentage Rate and it’s used to measure the cost of borrowing money from lenders for various reasons such as your mortgage loan. While it’s often presented at the same time as your ‘interest rate,’ it isn’t the same thing.
APR is expressed as a percentage and takes into account not only the interest rate, but also many of the costs that are associated with the loan.
When it comes to borrowing a mortgage, these costs can include items such as origination fees, application fees, processing fees, discount points and other types of fees that lenders may charge.
APR provides a more comprehensive picture of the total cost of the mortgage loan since it gives you an overall view of the fees and costs you would have to pay that are included in the finance charge. If you compare just the interest rate, the additional fees and costs aren’t represented, which could give you an incomplete picture when it comes to determining the actual cost of the loan.
Since not all lenders charge the same fees or interest rates, comparing APRs is usually a better way to compare the total cost of your loan from one lender to another.
Why Is APR Important When Taking Out a Mortgage?
Lenders are required to disclose the APR of their loans, thanks to the Truth in Lending Act . APR is supposed to help consumers be more informed while comparison shopping for loan products.
And according to the Truth in Lending Act, lenders are required to disclose all fees and charges associated with a loan. The APR should include all finance charge fees, which can help borrowers as they sort through loan comparisons trying to find the right mortgage.
How to Calculate Your APR
If you want to be extra thorough and calculate the APR yourself, there’s a way to make that happen. Be warned, it’s not necessarily a super fun math project, but hey, where there’s a formula, there’s a way, right?
To get started, you’ll have to know the approximate monthly Principal and Interest (P&I) payment on your loan. Maybe your lender has already told you what it would be, but if not, you could calculate it with an online calculator or by hand. You’ll need to have a loan amount, interest rate and a term in years. And remember, right now, we’re just trying to give an idea of the difference between the interest rate and the APR.
Once you have the monthly P&I payment calculated, you’ll then be able to calculate the APR, which you can do with this handy-dandy calculator . Keep in mind that because we don’t know what your applicable APR loan fees will be, we suggest using a ball park estimate. Let’s say that the loan costs that will impact your APR are 2% of your loan amount. So, if your loan amount is $200,000, your loan costs for calculating the APR will be $4,000.”
Why You Need to be Careful When Using APR to Compare Mortgages
So you’ve got the APRs for all the mortgage offers you’re considering. Your APR is important to consider because it factors in the expense of additional fees over the life of your mortgage. After all, if you’re applying for a 30-year mortgage, those fees are being spread over 30 years.
But do you plan to live in your home for the full 30 years of your mortgage and never refinance your mortgage? If you sell your home after five years, rather than staying for the duration of your 30-year loan, you’ll still have to pay for the loan fees (such as origination fees).
That’s why it’s important to consider and compare APRs when choosing a mortgage. If you plan on living in the home for a limited time, a lender that offers fewer fees might be a better choice than a lender with a low APR but lots of fees. You’ll want to make sure to consult with your financial advisor before making this decision.
When you’re mortgage shopping, you may want to proceed with caution when comparing the APRs of fixed-rate and adjustable-rate mortgages if you are using an on-line calculator. The APR on adjustable-rate loans may not be an accurate representation of the cost of the loan since some calculators cannot anticipate the frequency or amounts of the interest rate changes.
Mortgage Loans with SoFi
If you’re ready to take the next step in your home-buying journey, check out SoFi mortgages. We offer a variety of mortgage loans, so you can select the option that works best for you.
You can be on your way to buying the house of your dreams in just a few minutes as you can start the application online and find out if you’re pre-qualified in just minutes. And with a strong credit history you may be able to qualify for a mortgage with as little as a 10% down payment.
The information and analysis provided through hyperlinks to third party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.
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