Annual Percentage Rate (APR) - What You Need to Know

The APR, or Annual Percentage Rate, offers home buyers a convenient way to compare the true costs expressed as a yearly rate that various lenders charge for a mortgage. Anytime a lender advertises a rate, that lender is required by the Federal Truth in Lending Act to disclose the APR. Without this protection, lenders could advertise a lower interest rate to bring in business and then surprise unsuspecting applicants with an assortment of other fees and hidden costs that could greatly increase the cost of obtaining a loan.

Although useful, the APR does have its shortcomings. Because calculations are based on the loan term, the APR can produce unreliable information if loans with different terms were compared, for example a 15-year term compared to a 30-year term. Home buyers must take time to confirm that lenders are using similar loan terms when calculating monthly payments.

Something else that is confusing is the many ways lenders can manipulate and calculate the numbers. What lenders are required to factor into the calculation and how they factor it can vary among different lenders. Calculating the APR is a complex process and it’s quite possible that, given the same information, different lenders could quote very different APRs.

APR calculations frequently assume that the market indices to which the mortgage product is tied are static. However they often change which once again can cause a discrepancy among different lenders’ APR calculations.

The bottom line is this: Although tempting, it is never a good idea to choose a lender based solely on that lender’s quoted APR. You also need to discuss with each lender you’re considering things like prepayment penalties, interest rate lock in details, balloon payments and any other fees or costs associated with the mortgage product being offered.