The Annual Percentage Rate (APR) is higher than the interest rate because it represents the total annual cost of borrowing, incorporating both the interest rate and additional fees, such as closing costs, origination fees, and mortgage insurance. While the interest rate only covers the cost of the principal, the APR provides a more comprehensive, higher percentage that reflects the true, overall cost of the loan. [1, 2, 3, 4]
Key Reasons for Higher APR:
- Fees and Costs: Lenders include broker fees, origination fees, closing costs, and points in the APR, which are not included in the nominal interest rate.
- Additional Charges: For mortgages, fees like private mortgage insurance (PMI) often increase the APR.
- True Borrowing Cost: The Truth in Lending Act mandates the disclosure of APR, as it allows borrowers to compare the total cost of different loans.
At a Glance Comparison
- Interest Rate: The percentage cost to borrow the principal amount only.
- APR: Interest Rate + Lender Fees + Other Charges = Higher Percentage.
While a lower interest rate is attractive for lower monthly payments, the APR is generally the better number to use when comparing the long-term, total expense of different loan offers.