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Interest Rate vs Annual Percentage Rate: Are They Different?

When you apply for loans, you may have come across the terms “interest rate” and “annual percentage rate” or APR. While some people may use these terms interchangeably, they are different concepts. How they are calculated and what they are for are different.


Interest Rates


Interest rates are the concept that more people are familiar with. For example, if you take out a one-year loan of $400,000 with a 5% interest rate, you will be paying off $420,000 in total. The 5% interest rate is taken from the principal loan and added to the final total.


The interest rate is calculated based on the economic status of the country and the Federal Reserve or the Fed. If there is a recession, the interest rate will often be lower because it would encourage people to take out loans and spend money. By spending money, the economy will be strengthened and eventually stabilize.


If there is significant economic growth, then the interest rate is higher. This encourages savings and helps balance out the cash flow. This will ensure that the economy does not tip over with its continuous growth and strengthening.


Annual Percentage Rate (APR)


Unlike most people think, the annual percentage rate or APR is not similar to the interest rate. The interest rate is only one thing that is a part of the APR calculation. For the APR, all of the fees are included.


Let’s say you apply for a loan of $400,000 with a 5% interest rate. You did not know that there are other fees that you need to pay for such as the service fee and the disbursement fee. Overall, the additional fees total to another $3000.


The APR is calculated here using $403,000 and the 5% rate. Unlike the total above of $420,000, for the APR, the borrower will be paying off $420,150. This is because, in the 5% rate, the additional $3000 was taken into account.


Do All Loans Have Interest Rates and APRs?


Now, you may want to look back and think about the loans you have had, especially mortgage loans. You may remember one or the other, or both used interchangeably. However, remember, the interest rate and the APR is always different. The APR is always higher and usually tells of the final payment you need to make.


If you are applying for a loan, you may ask for the interest rate and APR. Some lenders may use these interchangeably to hide additional fees from you. Asking them about it will allow them to disclose it to you with complete transparency. Make sure to also ask about the additional costs included to make your APR the way it is.


The Bottom Line


Interest rates and APR are entirely different things. While they may be used interchangeably and may seem similar or related, they are of different totals. You need to be aware of both to ensure that you get a fair deal. You also need to know how they are calculated, so you can calculate them yourself to make sure that you are given the right amount. Just remember, they are always both present in a loan, and you should always ask for the total of both.


If you are looking for installment loans in Murfreesboro, TN, Hometown Finance will help you. We understand that everyone has their financial circumstances and may need a little help, so we offer personal installment loans to help you out. Get in touch with us today for more information.


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