You’ve likely seen the term APR when shopping for a car loan or credit card. Short for annual percentage rate, APR gives you an idea of how much it’s going to cost you to borrow money. Knowing how to calculate APR will help you quickly compare credit card or loan products so you can decide which offer is best for you.
- What Is APR?
- What Is the Difference Between APR and Interest Rate?
- Why Do Credit Cards Have Different APRs?
- Why Use APR?
- What Is the Difference Between APR and APY?
- How To Calculate APR by Type
- How You Can Use Spreadsheets to Help Calculate APR
- Calculating APR Can Help You Make Better Financial Decisions
Simply put, APR is the total cost of borrowing money, including upfront fees and costs. Calculated on an annual basis, APR applies to credit cards and loan products such as student loans, home loans and auto loans. APR is written as a percentage — the lower the APR, the cheaper the cost of borrowing.
The Federal Reserve enacted the Truth In Lending Act, or TILA, in 1968, making it mandatory for lenders to disclose costs and fees in a way where “consumers can compare credit terms more readily and knowledgeably.” Depending on the type of loan product, fees usually included in the APR include:
- Home appraisal and credit report fees initiated by a mortgage lender
- Mortgage loan origination fees or points
- Mortgage broker fees
- Processing fees for preparing TILA disclosures
- Charges imposed on a creditor for purchasing a loan
- Transaction fees
The difference between APR vs. interest rate is that APR includes interest plus other loan or credit card fees. As noted above, there’s more to a loan than the interest rate. The APR factors in those costs to show you what borrowing will cost you over a year. That’s why you’ll notice that the APR is usually higher than the interest rate percentage.
You might notice that your credit card has an APR range that shows more than one APR in the fee disclosures or your credit card statement. Credit card companies often charge a variable APR, according to the type of transaction.
The most common credit card APR categories apply to:
- Balance transfers — usually at a lower fixed rate for a limited time
- Cash advances — often higher and more expensive than the standard APR
- Introductory — usually available for a limited time after sign-up
- Penalty or late payment — often more expensive than the standard APR
- Standard purchases — the main APR for store and online purchases
APR gives you an easy way to compare the real cost of borrowing. Here’s why you shouldn’t just rely on picking the best interest rate. Comparing two loans with interest rates of 4% and 4.50%, it might seem like the loan with the 4% percent interest rate is the best deal. But what if it comes with $3,500 in closing costs vs. $1,000 on the 4.50% percent interest rate loan? That’s where using APR comes in handy — those fees would have been factored into the APR.
But there’s more. You can use APR to compare apples to oranges. Maybe you’re considering a payday loan vs. a credit card for a $300 loan. Say you qualify for a credit card with a 24% APR. It might sound high compared to a payday loan that charges a $15 fee for every $100 you borrow. Although the payday loan sounds cheaper, it equates to an APR of almost 400 percent. In this case, however, it’s clear that a credit card is cheaper than a payday loan over the long term.
Annual percentage rate and annual percentage yield, or APY, sound similar. The difference is simple — APR shows what borrowing costs you based on the principal plus simple interest on the principal, as well as fees. APY does this and also factors in compounding interest that add to your balance month to month.
Say, for example, a 12% APR credit card charges you 1% interest per month on a $1,000 you charged on the card. That 1% of $1,000 x 12 months = 12% APR — $10 per month, or $120 per year. Your APY is higher than 12% because it also includes interest on the interest that accumulates each month — $10 after the first month ($1,000 x .01 = $10), $10.10 after the second month (1,010 x .01 = $10.1), and so on.
More on This Topic: The Difference Between APR and APY
Calculating the APR on a standard loan is simple — but gets trickier as you get into more complex loan products like mortgages. For all loans, you’ll need three numbers:
- The principal, which is the amount borrowed
- Fees, additional costs and amount of interest
- The term, or length, of the loan in days
Here’s how to calculate the APR on a loan by type.
Once you’ve got your numbers, here is how to calculate APR on a personal loan:
- Add up all interest charges and divide by the amount you borrowed or currently owe.
- Multiply by 365
- Divide by the number of days left in the loan
For example: Finding the APR of a short-term loan of $500 with $60 in total fees and interest and a 14-day term:
- $60 ÷ $500 = 0.12
- 0.12 x 365 = 43.8
- 43.8 ÷ 14 = 3.1286% APR
Calculating APR on credit card is different than the method for other loan products. Credit card APRs change as the interest rates and prime rate set by the banks change. A bank or credit card issuer isn’t legally obligated to notify you, so it’s important to monitor for changes.
To find a credit card’s APR, add the current U.S. bank prime loan rate and the interest rate the credit card issuer charges. For example, the U.S. prime rate is currently 5%. If the card provider’s credit card interest rate is 4%, the consumer credit card rate will be 9% APR — 5% prime rate + 4% card interest rate = 9% APR.
Find Out: What Is a Good APR for a Credit Card?
Here’s how to calculate APR for a car loan in four steps:
- Get the total payment amount by multiplying the monthly payment by the term of the loan in months.
- Subtract the amount borrowed from the total payment amount to find the loan’s total interest payments.
- Divide the total interest charges by the number of years on the loan to find the yearly interest amount.
- Divide the yearly interest amount by the total payments to calculate APR.
For example: To calculate APR on a $16,000 vehicle loan for five years (60 months) with a $400 per month payment:
- $400 x 60 = $24,000 (total payment amount)
- $24,000 – $16,000 = $8,000 (interest fees)
- $8,000 ÷ 5 = $1,600 (yearly interest amount)
- $1,600 ÷ $24,000 = 0.0667% APR
Manually calculating the APR on a mortgage loan is tricky. Luckily, mortgage lenders are required by law to provide an APR to borrowers, so you can skip the hard work. Alternatively, keep reading to learn how to calculate APR on a mortgage using a spreadsheet.
Calculating the APR on loans like a mortgage is a bit more complex because of all the variables, like costs, financing charges, interest and term length. Using a spreadsheet to calculate APR can help you with the calculations.
- In cell A1, enter the total period of the loan in months.
- In cell A2, enter the following formula to get your monthly payment amount, using your actual numbers: =PMT(interest rate/months, total months, loan amount plus fees).
- In cell A3, enter the total amount of the loan.
- In cell A4, enter 0, for the zero balance you’ll have when the loan is paid in full.
- In cell A5, use the following formula: =RATE(A1,A2,A3,A4)*12.
- Right-click cell A5, select “Format Cells…” and then select “Percentage,” then select two decimal places to display the number as a percentage.
Test your formula for a $100,000 loan at 8 percent interest for 15 years (180 months) with closing fees of $1000:
- In cell A1, enter 180, the total period of loan in months.
- In cell A2, enter this formula to get the monthly payment: =PMT(0.08/12,180,101000) for a result of -965.21.
- In cell A3, enter 100,000, the total amount of loan financed.
- In cell A4, enter 0, for the zero balance that will occur when the loan is paid in full.
- In cell A5, enter this formula to get the APR: =RATE(A1,A2,A3,A4)*12 for a result of 0.081651165.
- Right-click cell A5, select “Format Cells…” and then select “Percentage,” and select two decimal places to display the number as a percentage for an APR of 8.17%.
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Learning how to calculate APR on credit cards and loans is a useful skill for when you want to compare the best loan offers. Comparing interest rates doesn’t provide the whole picture. Because the APR accounts for interest rate and other costs of borrowing money, you’ll be able to make a wiser decision on what a loan will truly cost you.
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