When you’re comparing mortgage terms and looking for the best deal, you will come across two figures: the interest rate and the APR. It’s important to understand the difference so you can avoid overpaying for a home loan.
What is the Interest Rate?
The interest rate is the amount the lender will charge in exchange for loaning you the principal amount. The interest rate is expressed as a percentage and is based on market rates when you take out a mortgage, as well as your credit score. Your monthly mortgage payments will be based on the amount you borrow and the interest rate.
What is the APR?
The annual percentage rate (APR) is a better reflection of the overall cost of a mortgage than the interest rate. The APR is also expressed as a percentage and is almost always higher than the interest rate.
The APR includes the interest rate, as well as other costs, such as loan origination fees, closing costs, mortgage insurance and discount points. Lenders decide which fees and costs to include in the APR. Before you compare loan offers, make sure you know what each lender includes in its APR.
How to Figure Out Which Mortgage Would be the Best Deal
The interest rate can help you figure out how much you would pay each month, while the APR can give you an idea of how much you would pay over the life of the mortgage. The APR is calculated assuming you will keep the loan for the full term. If you plan to stay in your new home for decades, look for a mortgage with a low APR, since it would have a lower cost over the entire loan term. If you plan to sell the house before you pay off the mortgage, you may be better off choosing a mortgage with a higher interest rate and lower upfront fees.
An online mortgage calculator can help you compare loan offers and figure out when you would break even so you can decide which loan would be the best option for you. The break-even point depends on the amount borrowed, the interest rate and all associated fees.
You may choose a home loan with a fixed or adjustable interest rate. If you select a mortgage with a fixed interest rate, comparing loan offers can be fairly straightforward. If you are considering an adjustable-rate mortgage, however, the APR cannot accurately convey the overall cost of the loan since there is no way to predict what the interest rate would be in the future. If you decided to refinance, you could have to pay thousands of dollars in closing costs, which could add to the total cost of the mortgage.
Get Professional Advice
Choosing the right mortgage can be confusing, especially since lenders offer loans with a variety of terms. A mortgage broker can explain your options and help you find a loan with competitive terms.