What is the Difference Between a Mortgage Interest Rate and the APR?

What is the Difference Between a Mortgage Interest Rate and the APR?

As you start applying for a mortgage loan, you will probably hear the terms “APR” and “mortgage interest rate” a lot from lenders. What do these mean, what is the difference between them, and how do they affect your home loan?

Mortgage Interest Rate

When you borrow money for a home purchase or refinance loan, it doesn’t come for free. To make it worth their while to originate the loan, lenders charge a fee or interest rate for their services. The mortgage interest rate is simply how much additional money you will be charged on top of your loan principal. For example, if you borrow $200,000 at a 6% interest rate over 30 years, you will not only pay back the $200,000 but you will also end up paying an extra $230,000 in interest charges, bringing your total mortgage cost to just over $430,000.

Interest rates can be fixed, meaning you pay a consistent percentage over the course of the loan, or they can be variable, meaning they can adjust up or down based on market trends at certain intervals. Your lender can help you determine which type of rate is best for your situation. 

Annual Percentage Rate (APR)

While the mortgage interest rate is a simple percentage of the loan that you will be charged, the annual percentage rate or APR is a more sophisticated calculation that takes into account all the costs of a mortgage, not just the interest. The APR will factor in things like discount points, private mortgage insurance premiums, and closing costs. These total fees get added to your mortgage balance and interest and then averaged over the space of a year. This rate gives you a more accurate, total picture of the true cost of your home loan.

How To Use APR and Interest Rates to Find the Right Mortgage

When you search for the right mortgage loan, it might seem like the loan with the lowest interest rate is the best deal. However, there may be extra costs associated with that loan, like more required mortgage points, that actually push the true price of the loan higher than one with a higher interest rate. A better way to compare mortgage loans is to look at the APRs of each. This will tell you what each one costs, after all associated fees are considered. 

Once you fill out a mortgage application, your lender is required to provide you with a Loan Estimate according to the Truth in Lending Act rules. That document will indicate both your interest rate and your APR for easy comparison.

How to Lower Your APR and Interest Rate

Your personal borrowing history is the most important factor in the interest rate you will be offered. If you want to get the best interest rate possible, you might want to consider taking some time to improve your credit score if it is not already excellent. Contributing a larger down payment can also make you a lower risk to lenders and bring down your rate. Lowering the APR is trickier because it depends not only on your interest rate but on all the other costs that are fixed by the lender. Overall, the best way to get the lowest cost mortgage is to have a strong credit history and a stable financial outlook.

APR and interest rate terms can be confusing at first, but once you understand the difference they can help you accurately compare mortgage offers and costs.

Give us a call today to get Pre-approved for your next mortgage loan.

These materials are not from HUD or FHA and were not approved by HUD or a government agency