APR vs Interest Rate
Compare APR and interest rate on loans and mortgages. Learn why a 6.5% rate becomes 6.8% APR and which number matters more when comparing lenders.
Interest Rate
Pros
- ✓Determines your actual monthly payment amount
- ✓Simpler number to understand
- ✓Directly used in payment calculations
- ✓Stays fixed on fixed-rate loans
- ✓The base cost of borrowing money
Cons
- ✗Does not include fees and closing costs
- ✗Can be misleading when comparing lenders
- ✗A lower rate with high fees may cost more overall
- ✗Does not reflect the true cost of the loan
- ✗Lenders may advertise low rates with hidden fees
Best For
Calculating your monthly payment, understanding the base cost of borrowing, and comparing loans that have identical fees and terms.
APR (Annual Percentage Rate)
Pros
- ✓Includes interest rate plus fees and closing costs
- ✓Reflects the true annual cost of borrowing
- ✓Required by law for standardized comparison (TILA)
- ✓Best number for comparing loan offers from different lenders
- ✓Accounts for origination fees, points, and mortgage insurance
Cons
- ✗Assumes you keep the loan for its full term
- ✗Does not determine your monthly payment
- ✗Can be confusing alongside the interest rate
- ✗Less accurate if you refinance or sell early
- ✗Different lenders may calculate APR slightly differently
Best For
Comparing loan offers from multiple lenders, understanding total borrowing costs, and identifying loans with hidden fees behind low advertised rates.
Key Differences at a Glance
| Factor | Interest Rate | APR (Annual Percentage Rate) |
|---|---|---|
| What It Includes | Only the cost of borrowing principal | Interest + fees, points, and closing costs |
| Example ($300K Mortgage) | 6.5% rate = $1,896/month payment | 6.8% APR (includes $4,500 in fees) |
| Which Is Higher | Always lower (or equal if no fees) | Always higher (or equal if no fees) |
| Determines | Your monthly payment amount | True annual cost of borrowing |
| Use For Comparing Lenders | Unreliable — ignores fee differences | Reliable — standardized by federal law |
| Legal Requirement | Must be disclosed | Must be disclosed (Truth in Lending Act) |
The Bottom Line
The interest rate tells you your monthly payment, while the APR tells you the true cost of the loan including fees. When comparing offers from different lenders, always compare APR — a lender with a 6.5% rate and high fees could cost more than one with a 6.75% rate and low fees. However, if you plan to sell or refinance within a few years, a lower rate with higher fees might still be preferable since you will not pay fees over the full loan term.
Frequently Asked Questions
Why is APR always higher than the interest rate?
APR includes the interest rate plus additional costs like origination fees, discount points, mortgage insurance, and certain closing costs, spread over the loan term. These extra costs increase the effective annual rate. The only time APR equals the interest rate is when there are zero additional fees, which is rare.
What fees are included in APR?
APR typically includes origination fees, discount points, mortgage broker fees, and certain closing costs. It generally does not include appraisal fees, title insurance, home inspection, or attorney fees. Since not all fees are included, APR is a better comparison tool than interest rate alone but still does not capture every cost.
Should I choose the loan with the lowest APR?
Not always. APR assumes you keep the loan for its full term. If you plan to sell or refinance within 5-7 years, a loan with a lower interest rate but higher upfront fees (higher APR) might cost more than a loan with a slightly higher rate and lower fees (lower APR). Consider your expected time in the loan.
How much difference does 0.3% in APR make?
On a $300,000 30-year mortgage, a 0.3% difference in APR means roughly $18,000 more in total cost over the life of the loan, or about $50 more per month. Over shorter periods, the difference is smaller. This is why comparing APR carefully between lenders can save significant money.
What is the difference between APR and APY?
APR (Annual Percentage Rate) is used for loans and does not account for compounding — it is a simple annual rate. APY (Annual Percentage Yield) is used for savings and investments and does include compound interest. APY is always higher than the equivalent APR because it reflects interest earned on interest.
Do credit cards have different APR and interest rates?
For credit cards, the APR and interest rate are effectively the same because credit cards typically have no origination fees or closing costs. The credit card APR is the interest rate applied to your balance. However, credit cards may have multiple APRs: purchase APR, balance transfer APR, cash advance APR, and penalty APR.
Can APR change on a fixed-rate loan?
No, if you have a fixed-rate loan, your APR is locked in at closing and does not change. On adjustable-rate mortgages (ARMs), the APR reflects the initial rate period and projected adjustments. The initial APR on an ARM may be lower but can increase significantly after the fixed period ends.
How do mortgage points affect APR?
Discount points are prepaid interest that lower your rate. Paying points increases your upfront costs but decreases your interest rate, and the net effect on APR depends on the tradeoff. One point (1% of loan amount) typically reduces the rate by 0.25%. If the rate reduction is large enough, APR may still decrease despite the upfront cost.