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You Are Here: Home > Personal Finance > Banking & Saving > FAQ > Question and answer
What is APR

Why it's important to understand

APR stands for 'Annual Percentage Rate' and it's used to describe the true cost of money borrowed via mortgages, loans or credit cards etc.

The APR calculation takes into account -

  • The interest rate
  • When it's charged (daily, weekly, monthly or yearly)
  • Initial fees (a bank will often charge a fee when a finance deal is signed)
  • Any other costs applicable to the loan
All lenders have to calculate APR the same way which is good news as it enables you to make a direct cost comparison between different lending products.
Why APR is important
Without an APR figure it would be easy for lenders to hide the true costs of their deals. For example:
  • A bank offers a mortgage deal with an interest rate of 4.8% plus an arrangement fee of £1,500
  • Another bank offers a mortgage deal with a rate of 5.2% and arrangement fee of £150
So which deal is cheaper?

It's actually difficult to work out as the first has a cheaper interest rate but high fees and the second a more expensive rate but a far cheaper fee.

It's therefore possible for the mortgage with the higher interest rate to be cheaper than the one with the lower rate because of the arrangement costs.

See how it can all get confusing without an APR figure? If APRs were used the costs would be combined with the interest rate it would be possible to see instantly which deal was better value.

What's not included in the APR figure

Some add-on charges won't always appear in the APR figure. A classic example is PPI insurance (Payment Protection Insurance) which is normally sold alongside personal loans. See - What is PPI Loan Insurance and how to get a cheaper quote.

So take extreme care when looking at borrowing money to ask the lender if there are any other fees payable and in turn if they're included in the APR calculation. Only then will you be able to get the true cost of the loan and find out if the bank is trying to hide any other important charges.

This is an important point to note because if you let your guard down with a bank that wants to lend you money there's a good chance they'll try to take advantage of you.

For more on this point see Secret number 6 - Ask, there are no stupid questions - which is one of this site's 10 Secrets to Good Personal Finance.

Summary

For people that want to borrow money APR is an excellent tool with its main advantage being it allows you to compare like with like, perhaps 2 different mortgage deals from 2 different banks.

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