A Quick, Easy Guide to Understanding APRs

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The annual percentage rate, or APR, is the interest rate charged on the money borrowed. It reflects the annual cost of borrowing money. The APR makes it easier to compare the cost of loans and credit cards, because you can easily see which loan/credit card would be cheaper just by comparing rates. For example, a loan with a 10% interest rate is less expensive than a loan with a 15% interest rate (assuming other things are equal).

Nominal APR vs. Effective APR

There are several classifications of APRs. The nominal APR is the interest rate that's stated on a loan. The effective APR includes fees that have been added to your balance. The effective APR on a credit card or loan might be higher than the nominal APR since the effective APR includes any fees that apply.

When you're comparing APRs among debt products, make sure you're comparing the same types of interest rates.

Fixed APR vs. Variable APR

An APR might be fixed or variable. A fixed APR generally remains the same throughout the life of the loan. However, in the case of credit cards a fixed APR can change if the card issuer notifies you 45 days in advance of the rate increase. A variable APR can change without notice and is based on another interest rate, like the prime rate. Credit card interest rates can also change as a penalty for delinquent payments, as outlined in your credit card agreement.

Credit Card APRs

A credit card could have several APRs for each type of balance. One for purchases, one for balance transfers, and one for cash advances. The APR for cash advances tends to be higher than the APR for purchases and balance transfers. Some credit card issuers offer introductory APRs for purchases and balance transfers.

The introductory rate is lower than the normal interest rate and last for the first few months of opening the credit card.

The default or penalty APR is the highest APR charged by a credit card and usually goes into effect if you default on your credit card terms. This happens when you make a late payment, exceed your credit limit, or the check used to pay your credit card bill is returned.

If you trigger the default APR, your credit card issuer is required to review your account activity after six months and lower your APR if you've made your payments on time.

What's Your APR?

Lenders are required to disclose the APR to you before you agree to a credit card or loan. This way you can be informed of the cost of borrowing and make the decision as to whether you want to accept this cost.

For your existing credit cards and loans, refer to a recent copy of your billing statement to find out your APR. A call to your creditor or lender can also confirm your APR if you can't find any documents that contain the number.

When Your APR is Too High

A high loan APR increases the amount of your monthly payment. If you want a lower rate on an existing loan, you'll have to apply for a loan refinance. Refinancing essentially gets you into a new loan with, hopefully, a lower interest rate.

Your credit card issuer can give you a lower APR without you having to apply for a new credit card. But, not all credit card issuers will agree to lower an existing interest rate, especially if your account isn't in good standing. If you qualify, you can transfer your balance to another credit card with a better APR.

APRs are based, partly, on your credit history. Having a good credit score can help you qualify for a lower rate.