When first-time homebuyers are ready to apply for a mortgage they usually check out the interest rates. However, there is another number that goes unnoticed and that is the APR (Annual Percentage Rate). Understanding what these two terms mean and effectively comparing them to evaluate the cost of a mortgage can help you make a smart financial decision.
Let us take a look at the important points of difference between the mortgage interest rate and APR.
DIFFERENCES BETWEEN MORTGAGE INTEREST RATE AND APR
The Mortgage Interest Rate is the amount you are charged on the loan issued by the lender to finance your property. Mortgage interest rates can be fixed or adjustable depending on the type of mortgage you opt for.
The APR or annual percentage rate is the yearly total cost of the mortgage that comprises the total interest rate and additional fees that you have to pay to get the mortgage. These include the lender’s fees, appraisal fee, settlement fees, discount points, and some closing points.
2. WHAT THEY ARE?
The Mortgage interest rate is the fee that is charged on the amount that you borrow to purchase your home.
APR is the broader measure of costs and is a good basis to make comparisons between different loans.
The mortgage interest rate is paid monthly whereas the annual percentage rate (APR) is paid yearly.
Initially, both are calculated in yearly terms. However, your yearly mortgage rate is divided by 12 to get your monthly installment.
The Mortgage Interest rate is used to determine your monthly household expenses. But, an APR on the other hand is useful to effectively compare the costs of different loans as it gives you a big picture estimate of the cost of the loan incurred in a year.
The mortgage rate is typically lower than the APR. This is because the mortgage rate is just one component of the APR whereas the APR includes all other costs of the mortgage amount.
When an individual sells or refinances the annual percentage rate (APR) will change as different processes incur different costs, whereas the mortgage interest rates remain the same if it is a fixed type loan. Interest rates are adjusted only after a stipulated period if it is an ARM (adjustable-rate mortgage).
7. MEASUREMENT UNIT
The annual percentage rate (APR) is always expressed as a percentage. The mortgage interest rate is also measured in percentages.
COMPARING MORTGAGE RATES AMONG LENDERS
The best way to get the best mortgage rate is by taking a look at the Loan Estimate document provided by the lenders as it is a standard that all lenders should follow. On page 1 you can find the interest rates under the “loan terms section”. On page 3, under the section “Comparisons” you will find out how much the loan will cost you in total over the first five years.
You must always compare interest rates of one loan with interest rates of another loan and an APR of one loan with the APR of another. Never compare APRs to interest rates.
Comparing the interest rate of a mortgage is important because a big part of your monthly payments goes towards interest. If you get a lower interest rate then you can save thousands of dollars over the life of a loan.
Comparing APRs is also important as the interest rate is not the only thing that you will pay for your mortgage. In some cases, the interest rates may seem appealing but when you look at the associated APR it may not seem to be so.
However, APRs do not always reveal the full picture as it might not capture some other costs like title insurance, or property surveys. So, if you are close between two lenders you should make sure that your loan estimates match-up perfectly and you can see where you are being charged more.
According to the Consumer Financial Protection Bureau, comparing APRs of fixed-rate loans are more useful than comparing APRs of variable rate loans. This is because variable rate loans are based on assumptions about the future rate adjustments and so will not reflect the highest possible interest rate.
When shopping for a home loan you should read the information you receive from the lender to understand not only the interest rate and APR but also other costs that are not included in the APR. Selecting the right mortgage is critical as it can help you save huge chunks of money.