When you apply for a loan or a credit card, you’ll see two different numbers that signal how much it will cost you: the interest rate and the APR (or Annual Percentage Rate). They’re similar concepts with subtle differences in how they’re calculated.
How is your interest rate calculated?
Your interest rate is the interest charged by your lender for the money you’ve borrowed. This is the cost of the debt for you - and the rate of return for your lender.
How is your APR calculated?
“APR” is an acronym for “annual percentage rate.” It’s your annual cost for borrowing money from a financial institution. This includes your interest rate plus certain fees, such as:
- Processing fees: These are fees your bank charges for completing your request for a loan or credit card.
- Underwriting fees: The underwriter reviews your loan or credit card application and decides whether to approve it or not. This fee is for them.
- Document fees: These fees are charged for drawing up contracts and agreements that you’ll sign when accepting a loan or credit card.
- Appraisal fees: For a home loan, this is a fee for a professional to review and place a value on the home you’d like to purchase.
- Origination fees: This is an upfront fee designed to compensate your lender for putting a loan together.
- Dealer prep: Auto dealers often include this fee in their APR, as compensation for preparing a vehicle for sale.
Your APR can vary, depending on the loan type or the credit card issuer. But it’s always important: your APR is the all-inclusive cost of a loan or a credit card - and a more accurate indicator than the interest rate.
5 steps to calculating your APR
Step 1: Add total interest paid throughout the loan to any additional fees
Step 2: Divide by the amount of the loan
Step 3: Divide by the total number of days in the loan term
Step 4: Multiply by 365 to find the annual rate
Step 5: Multiply by 100 to convert the annual rate into a percentage
How your credit score impacts your APR
Your credit score will determine the APR lenders and card issuers can offer you. A healthy credit score will get you a low Annual Percentage Rate. A bad credit score will give you a high APR.
In ads and promotions for credit cards, you might see offers of 13.99% APR to 22.99% APR and higher. But the final number depends on your credit worthiness, calculated based on your credit score and other risk factors. The average APR for U.S. credit cards has ranged between 14% and 21.20% since early 2018.
The different APR's on credit cards.
APRs for credit cards
Different kinds of APRs can be applied to your credit card account. Some are featured in promotions, others are hidden in fine print. Here are some of the important ones to note:
- Introductory APR: This is given to new customers for a set number of months when they initially open their credit card. To broaden its appeal, this rate is lower than the regular APR, often as low as 0%.
- Purchase APR: Whenever you use your card to buy anything, whether it's online or in person, this interest rate will be applied if you don’t pay your balance in full and on time.
- Balance Transfer APR: This is the interest rate you'll pay on balances you transfer to a credit card or debit card from an existing credit card. It’s often lower than your Purchase APR, to encourage your transfers.
- Cash Advance APR: This is the interest rate applied when you borrow cash on your credit card. This is usually always higher than your Purchase APR and typically does not come with a grace period.
- Penalty APR: This is usually the highest APR that can be applied to your account and is applied when a payment is more than 60 days delayed.
The TILA or Truth in Lending ACT passed in 1968 mandates that your lender disclose the APRs they’ll apply to your account before you sign an agreement.
The more you’re aware of the charges attached to loans and credit cards, the more sensibly you can use all that they offer.
How can Bright help?
Your personal Bright Plan can help you pay less in interest fees on your credit cards, automatically.
Once you’re connected to Bright, we’ll analyze all your debt and your spending habits, calculate how much you can afford to pay, and then make payments that save you more.
Month after month, Bright makes your payments for you, so you’re avoiding late fees - and always paying down your balance, lowering the interest you pay.
If you don’t have it yet, download the Bright app, connect your accounts, and with your personalized Bright Plan, start enjoying on-time payments automatically. It’s one of the best ways to boost your credit score, too.