What Is APR and How Is it Calculated?
APR is the total amount of interest and fees paid to a lender over a year. Collect these costs and make a few calculations to find the APR on your loan or credit card.
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Calculating the APR on your credit card or loan is as easy as collecting all of the fees and interest you pay out to your lender on a yearly basis and making some calculations.
APR is a commonly used term associated with loans and credit cards. While many people are familiar with the term APR, many don't understand exactly how it works. Understanding APR is crucial for you to make educated decisions with your finances, such as knowing when you need to get a
lower APR on a car loan
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What does APR mean?
The APR, or Annual Percentage Rate, is the amount of interest that a lender will charge you yearly for borrowing money, plus other fees.
The difference between APR and your
total interest rate
is that APR measures not just the accrued interest but also the fees associated with borrowing money every year. APR takes fees that you may incur into account, generally making it higher than a regular interest rate. How does APR work?
When it comes to APR and credit cards, there is some good news. The first one is that you don't necessarily have to pay for the APR. Your credit card has a grace period, and if you pay your full balance within that period, there will be no interest applied.
However, if you decide to leave some credit behind and carry it over, the bank will then add the APR rate to your outstanding balance.
The second thing to note is that charges such as annual or late fees won't affect your credit card APR. When it comes to other loans such as mortgages, additional charges such as closing costs will be taken into account for your APR, raising the amount of interest you pay.
Your APR will change depending on your credit score. You may find that if you have a great credit score, you can
get a good APR rate
.How to calculate APR
To calculate the APR rate on your credit card or loan, follow these steps:
- Add all of the fees and interest that you will have to pay during the loan duration.
- Take that amount and divide it by the amount of the loan.
- Take that number and divide it by the number of days in the loan term.
- Now, multiply the resulting number by 365.
- And finally, multiply by 100 to get the percentage rate.
Fixed APR vs. variable APR
Not all APR is the same. If you're dealing with a variable APR, the rate will fluctuate based on an index (most likely the U.S Prime Rate, published by the Wall Street Journal).
On the other hand, if you have a fixed APR, it doesn't follow any index. Changes that occur within a fixed APR will be based on missed payments or changes in the market and must be announced by the lender up to 45 days before they take effect.
One thing to note is that credit cards are based on a variable APR. And in that case, the bank calculates what you owe as follows:
- They first calculate the APR by adding the U.S Prime Rate and to any margins that they might charge.
- Then, they divide that rate by 365 to get a daily rate.
- They multiply the days in the billing period by this daily rate and multiply the result by the outstanding balance.
- The resulting number is the interest that they will be adding to your balance.
Types of APR
For credit cards, the APR you pay will vary widely depending on the type of card that you use.
Purchase APR: This is the most common one. The APR rate will be applied based on credit card purchases.
Cash Advance APR: If you plan on borrowing money from your credit card by asking for checks and cash advances, you can expect a higher APR. There are no grace periods involved in this case.
Penalty APR: This is one of the highest APRs, and it comes into play when the rules are broken. This can mean things like violating conditions or failing to make payments on time.
Introductory APR: Banks may lure customers by offering special APR rates that are much lower than the standard ones. These offers will only apply for a certain amount of time, and once the time is up, the APR rate will increase.
FAQs
What is 0 APR?
You may have heard of 0% APR. This is usually a promotional offer by credit card companies who want to offer you an incentive to use their card. They will offer a period of time, usually anywhere from 9 to 16 months, where you won't have to pay any interest or APR fees when using the credit card.
This promotional period is a good offer, but make sure you understand the APR rate your card will have once the promotional 0% APR period ends. You don't want to end up with a credit card that has a high APR.
What is a good APR for a car?
Your APR mostly depends on your credit score. A good APR for someone with poor credit might be a terrible APR for someone with excellent credit.
The average APR for a new car loan changes based on credit score. Excellent credit scores (750-850) have an average new car loan APR of 4.93%, while Good scores (700-749) have 5.06%, Fair scores (650-699) have 11.30%, Subprime scores (450 - 649) have 17.93%, and lower scores have 25.05% APR, if they can qualify for a loan at all.
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