Annual Percentage Rate-APR

Calculated by using a standard formula, the APR shows the cost of a loan; expressed as a yearly interest rate, it includes the interest, points, mortgage insurance, and other fees associated with the loan.

The APR is found on the Truth In Lending, a disclosure form that is required by law to be given to potential borrowers. Because the APR takes into considerations all the bank fees a lender charges, it is a good tool to compare different loan offers. For instance, one bank offers a borrower a mortgage loan with an interest rate of 6.25% with 1 discount point (meaning the borrower pays the bank 1% of the loan amount at closing in order to get the 6.25% interest rate), and another offers a loan with 6.5% interest rate and 0 point, how would the borrower know which to choose? Without consideration to the borrower's financial situation such as his cash reserves and how long he intends to live at the property, the loan with the lower APR is the better choice.

However, if a borrower does not intend to keep the mortgage for the duration of loan term, the loan with the lower APR is not necessarily a better loan.

For an adjustable-rate loan, the APR assumes the loan's index doesn't change from its initial value.

The Annual Percentage Rate, which must be reported by lenders under Truth in Lending regulations. It is a comprehensive measure of credit cost to the borrower that takes account of the interest rate, points, and flat dollar charges. It is also adjusted for the time value of money, so that dollars paid by the borrower up-front carry a heavier weight than dollars paid ten years down the road.

The APR is a single comprehensive measure of the cost of credit to the borrower. As such, it must add the points and other fees that a borrower pays upfront to the interest rate that is paid monthly. To do this requires an assumption about how long the mortgage will last. In calculating the APR the assumption is made that the loan runs to term. A 30-year loan will run for the full 30 years, a 15-year loan runs for 15 years, and so on. This minimizes the extent to which upfront fees add to the borrower's cost, since the fees are "stretched out" to the maximum extent possible.

The APR does NOT affect the monthly payments. The monthly loan payments are a function of the interest rate and the length of the loan. Monthly payments are always calculated with the interest rate quoted by the loan officer. APR is only used to express the total cost of the mortgage loan, expressed in terms of interest rate.