Mortgagerateslocal.com – If you are planning to buy a home, you might have come across the term APR, or annual percentage rate. APR includes not only the interest rate, but also other fees and charges that you have to pay to get the loan, such as origination fees, discount points, closing costs, and mortgage insurance.
APR gives you a more accurate picture of how much you will pay over the life of the loan. Interest rate, on the other hand determines your monthly mortgage payment, which is calculated by multiplying the interest rate by the loan principal and dividing by 12.
Why is it important to compare APRs when shopping for a mortgage? Because different lenders may offer different interest rates and fees for the same loan amount and term.
By comparing APRs, you can see which lender offers the best deal for your situation. A lower APR means a lower total cost of borrowing, which can save you thousands of dollars over the life of the loan.
What is APR in Mortgage Rates?
APR stands for annual percentage rate, and it is a measure of the total cost of borrowing money for a mortgage. APR includes not only the interest rate that you pay on your loan, but also any fees and charges that the lender adds to your loan, such as origination fees, discount points, closing costs, and mortgage insurance.
To calculate the APR, the lender adds up all the fees and charges that you have to pay over the life of the loan, and then divides them by the loan amount. Then, the lender converts this amount into a percentage and adds it to the interest rate. The result is the APR, which represents the true cost of your loan per year.
For example, let’s say you want to borrow $200,000 for a 30-year fixed-rate mortgage at an interest rate of 3%. The lender charges you an origination fee of $2,000, a discount point of $2,000, and closing costs of $3,000. The lender also requires you to pay mortgage insurance of $100 per month. To calculate the APR, the lender would do the following:
- Add up all the fees and charges: $2,000 + $2,000 + $3,000 + ($100 x 12 x 30) = $45,000
- Divide by the loan amount: $45,000 / $200,000 = 0.225
- Convert to a percentage: 0.225 x 100 = 22.5%
- Add to the interest rate: 3% + 22.5% = 25.5%
Therefore, the APR for this loan would be 25.5%, which is much higher than the interest rate of 3%.
What is the difference between APR and interest rate?
The interest rate is the percentage of the loan amount that the lender charges you for lending you money. The interest rate determines how much interest you have to pay on your loan every month. The lower the interest rate, the lower your monthly payments.
The APR is the percentage of the loan amount that the lender charges you for lending you money, plus any fees and charges that the lender adds to your loan. The APR determines how much you have to pay for your loan over the entire term. The higher the APR, the more expensive your loan.
The interest rate and the APR are not the same thing, and they can differ significantly depending on the fees and charges that the lender adds to your loan. For example, two loans with the same interest rate can have different APRs if one loan has higher fees and charges than the other. Similarly, two loans with the same APR can have different interest rates if one loan has lower fees and charges than the other.
The interest rate and the APR are both important factors to consider when choosing a mortgage, but they are not the only ones. You should also look at the loan term, the loan type, the monthly payments, the total amount of interest you will pay, and the total amount of principal you will pay.
Why is APR important for home buyers?
APR is important for home buyers because it helps you compare the true cost of different mortgage options. By looking at the APR, you can see how much you will pay for your loan over the entire term, not just the monthly payments. This can help you choose the best mortgage for your budget and your financial goals.
For example, let’s say you have two mortgage options:
- Option A: A 15-year fixed-rate mortgage at an interest rate of 2.5% and an APR of 2.7%
- Option B: A 30-year fixed-rate mortgage at an interest rate of 3% and an APR of 3.2%
At first glance, option B might seem more attractive because it has a lower monthly payment of $843, compared to option A’s monthly payment of $1,334. However, if you look at the APR, you will see that option B is more expensive in the long run, because it has a higher APR of 3.2%, compared to option A’s APR of 2.7%. This means that option B will cost you more in fees and charges over the life of the loan.
If you calculate the total amount of interest you will pay for each option, you will see the difference:
- Option A: $200,000 x 2.7% x 15 = $81,000
- Option B: $200,000 x 3.2% x 30 = $172,800
Option B will cost you $91,800 more in interest than option A, which is more than the original loan amount. Therefore, option A is a better choice if you can afford the higher monthly payments and want to save money on interest.
How can you compare APRs from different lenders?
One of the best ways to compare APRs from different lenders is to use a mortgage calculator. A mortgage calculator is a tool that allows you to enter the loan amount, the interest rate, the loan term, and the fees and charges for each mortgage option, and then calculates the APR, the monthly payments, and the total cost of the loan for you.
You can use a mortgage calculator to compare different mortgage options side by side and see which one offers you the best deal. You can also compare APRs from different lenders by requesting a loan estimate from each lender.
A loan estimate is a document that the lender is required to provide you within three days of receiving your loan application. A loan estimate shows you the interest rate, the APR, the monthly payments, and the closing costs for the loan that the lender is offering you. You can use the loan estimate to compare the APR and other details of the loan with other lenders and see which one has the lowest APR and the best terms.
How can you lower your APR and save money on your mortgage?
There are several ways that you can lower your APR and save money on your mortgage, such as:
- Shop around for the best mortgage rates and fees. Different lenders have different criteria and offers for mortgage loans, so it pays to shop around and compare multiple options. You can use online tools, such as mortgage comparison websites, to find and compare the best mortgage rates and fees from different lenders. You can also negotiate with the lenders and ask them to match or beat the rates and fees of their competitors.
- Improve your credit score. Your credit score is one of the main factors that lenders use to determine your interest rate and your eligibility for a mortgage loan. The higher your credit score, the lower your interest rate and the lower your APR. Therefore, you should try to improve your credit score before applying for a mortgage loan. You can improve your credit score by paying your bills on time, keeping your credit card balances low, avoiding new debt, and checking your credit report for errors and disputing them if you find any.
- Save for a larger down payment. Your down payment is the amount of money that you pay upfront for the home that you want to buy. The larger your down payment, the smaller your loan amount and the lower your APR. Therefore, you should try to save as much as you can for a down payment and aim for at least 20% of the home price. This will also help you avoid paying for private mortgage insurance (PMI), which is an extra fee that lenders charge you if you put less than 20% down.
- Pay points to lower your interest rate. Points are fees that you pay to the lender upfront to lower your interest rate and your APR. One point is equal to 1% of the loan amount. For example, if you pay one point on a $200,000 loan, you will pay $2,000 to the lender and reduce your interest rate by 0.25%.
- Refinance your mortgage. Refinancing your mortgage means replacing your existing loan with a new one that has a lower interest rate and a lower APR. Refinancing can help you save money on your monthly payments and your total interest cost. However, refinancing also involves paying fees and charges, such as appraisal fees, title fees, and origination fees. Therefore, you should only refinance your mortgage if the savings from the lower interest rate and APR outweigh the costs of refinancing. You should also consider how long you plan to stay in your home and how much time you have left on your current loan.
Conclusion
APR is a key factor to consider when shopping for a mortgage, as it reflects the true cost of borrowing money for a home. APR includes not only the interest rate, but also any fees and charges that the lender adds to your loan.
By comparing APRs from different lenders, you can find the best mortgage deal for your budget and your financial goals. You can also lower your APR and save money on your mortgage by improving your credit score, saving for a larger down payment, paying points to lower your interest rate, and refinancing your mortgage.
