A mortgage APR (annual percentage rate) analyzes mortgage loans from a slightly different perspective, taking into account interest rate and other loan fees. APR is often considered a better method for comparing several loans, since it can say more about additional costs. Essentially, certain costs like loan origination fees, mortgage insurance, and discount points paid at closing are divided by the length of the loan and considered as interest. The APR is usually higher than the interest rate because it reflects extra costs.
Growing awareness of the mortgage APR partially stems from requirements by governments that lending agencies disclose more information about their fees. When lenders provide an APR, prospective borrowers get a true sense of the loan costs. Many borrowers are too apt to only evaluate the interest rate and forget that they have additional costs they’ll need to meet over the life of the loan, and sometimes lenders charge more upfront costs that are masked by a slightly lower interest rate. If borrowers only compare interest rates, they may not take into account the higher fees that are being charged by a lender, and could choose a more costly loan.
The mortgage APR can come in different forms. An effective APR looks at the simple interest generated in one year. The nominal APR evaluates compound interest in a year’s time and is more accurate. Borrowers should understand whether they’re being shown effective or nominal rates.
There can also be differences in what costs are included in a mortgage APR. Common inclusions are loan origination fees, which the lender charges to process the loan, and private mortgage insurance, which many people must pay until equity reaches a certain percentage. Another charge that’s often included is discount points, which are upfront payments that lower the interest rate. Other charges may or may not be included and a mortgage APR usually doesn’t reflect things like late payment fees, charges for home appraisal, fees for a title, or costs for a lender to obtain a credit report.
One challenge exists when using mortgage APR as the only means of assessment. All fees are calculated over the life of the loan, which means if a loan is repaid early through refinancing or other means, the initial APR figure isn’t accurate. The APR presumes that people keep their loans for their duration, which doesn’t always occur.
It’s also difficult to compare rates of loans that last for different time periods. A shorter loan may have a higher APR because it has fewer total months in which to spread all fees. This doesn’t necessarily mean people will save money with a longer-duration loan with a lower APR.
A mortgage APR can be confusing and not all are completely accurate or reflective of fees. For assistance, potential borrowers can take advantage of the many online loan calculators. The bottom line is any borrower should gain access to information about every fee charged upfront, because this can help generate more accurate figures than what the lender may provide.
