Perhaps the most frequently asked question when signing closing documents revolves around the APR. You’re sitting at the closing table expecting to close on a $150,000 loan at 7% interest when suddenly you come across a form that states that the loan amount is $138,000 at 7.69% interest. You sit there wondering what’s going on. You ask about it and someone mumbles something about APR and urges you to keep signing. But you want to know, “What is APR?”
The annual percentage rate, or APR, is the interest rate that represents the total charge for credit and takes into account the added costs of the loan, such as lender’s fees, title fees, loan origination fees; fees that are not included in the actual interest rate. Where the interest rate tells you how much the money you’re borrowing will cost, the APR tells you how much the money and the loan costs. Unlike an interest rate, an APR gives you a bigger picture when shopping for the best deal on a loan. The APR lets you see the total cost of a mortgage, including closing fees and lender points over the first year of a loan - not just the interest due. The form that shows the APR is called a Reg Z (also known as a Truth-in-Lending or TIL) named after the federal regulation that requires it’s use.
What good is the APR?
Years ago, before the APR was required to be disclosed, unscrupulous lenders would promise really low interest rates in order to get consumers in the door. Then, later in the loan process, the consumer would find out that their closing costs were much higher than normal. The APR was the federal government’s answer to this problem. It was intended as a way to enable consumers to be able to shop for a mortgage by comparing the total cost of the loan, rather than just the interest rate.
Word of Warning
Even though lenders are required by law to show a loan's APR, they don't all use the same fees in their calculation, skewing the comparison. As a result there are still many lenders out there promising the moon and charging you the world for it. So always check to make sure that the APR's you are comparing include similar fees.
