Where there’s borrowing, there’s APR. When a company offers a loan, credit card, mortgage or store credit, by law, they’re required to show its APR. But what does APR actually mean, how is it calculated, and how can you use it to get the best deal? Julian McLeod explains.
APR stands for ‘annual percentage rate’. It shows the percentage of interest the borrower would need to pay on top of a loan over the course of one year. The length of different loans can vary. While some (such as mortgages) have a term of many years, others are paid off in a few days or weeks. The idea of APR is to make it easy to compare the cost by requiring all lenders to display a rate based on a 1 year period.
Because of this, people often use APR to compare the affordability of different loan products. They assume that the lower the APR, the better value the loan. But there are plenty of other things also worth thinking about when taking out credit.
APR doesn’t always tell the full story, so it’s worth asking:
Is the advertised APR available to everyone?
Lenders will advertise their lowest interest rate to generate business. This can give the impression that everyone will get that low interest rate. But in the small print, it will often say that the final interest rate offered will depend on a range of criteria. This usually includes credit history, meaning that many people will pay more.
Does the loan I’m applying for fit my needs?
Short term loans tend to have a higher rate of APR. This reflects that the lender will need to cover their overheads in a shorter period of time. On the other hand, longer-term loans will stay on your credit file for a longer period. Because of this, it’s important to consider what you need the funds for, and for how long. Try to find the right balance between total cost and repayment length.
How much will I actually be repaying per month? Does it fit my budget?
APR is a good basis for comparison, but especially with short-term loans, it can skew the picture. For example, an APR of 42.6% may seem high, but over a month, it translates to about 3%. So on a £100 loan over one month, the actual interest to pay would be £3.
Are there any late/early payment penalties, or hidden fees/conditions?
Some lenders advertise attractive rates of APR, but then hide the true cost in extra fees on top. The Government is cracking down on such practices, but you should always look carefully at terms and conditions. Make sure you understand what you are committing to.
For the purposes of advertising, APR is a useful quick reference. But it shouldn’t be the only criteria you use when considering if a loan is right for you. Every person has different circumstances and needs, which means what is good loan for one person may not be as good for others.
Got a question? Ask us below. And if you’re thinking about getting a loan, we have a range of products to suit a range of circumstances. Take a look and apply today.