When you apply for a mortgage, the lender is required to tell you the interest rate and the annual percentage rate, or APR.
But what exactly is the APR?
The APR is designed to help you shop for loans by making them more comparable.
“It’s the one common denominator by which you can compare loans side by side, comparing apples to apples to apples,” says David Newton, an economics professor at Westmont College in Santa Barbara, Calif.
How to rate a mortgage
APR measures the net effective cost of borrowing — “the actual present value of those funds over the length of the contract.” In other words, APR answers the question: “Is it worth it to pay more upfront to get a lower rate?”
The federal government requires lenders to quote APR because loans frequently are offered on different terms. To extend the inevitable fruit analogy, differing loan terms from different lenders can make it hard to figure out which offer is a sour persimmon and which is a real peach. APR helps you identify the peaches.
The APR doesn’t have to be perfectly accurate. The lender can round up or down to the nearest 1/8 of a percentage point.