What is Annual Percentage Rate?
Annual Percentage Rate refers to the rate or amount of interest for money that is borrowed. When a particular person decides to make a loan, he/she usually looks on the APR for a particular loan. The lower the APR, the less expensive is the interest.
Computations for APR is quite complex for many people. In the past, many were confused on how a particular bank or money lending company came up with the computation of interest rates. Because of this, the US government intervened and helped people in need of loans to better understand the whole loan and interest computation process, through the Truth in Lending Act. This particular law required money lending organizations to give a quote of their own interest rates computed on an annual basis so people would understand and compare which loans they can avail or not.
Annual Percentage Rate may be computed as nominal or effective rates. Nominal APRs are straightforward computations on the interest rate on an annual basis. If a particular 10,000 dollar loan has 10% APR, it simply means that the interest is 1,000 dollars with no additional fees and charges. Effective APRs meanwhile are not so straightforward when it comes to computation, as it may include various other fees such as processing and/or insurance fees.
APRs may also be classified as fixed and variable. Fixed APRs refer to interest rates that remain the same during the whole term or duration of the loan. Variable APRs on the other hand refer to interest rates that may change over the course of the loan term. Money lenders for example may give out loans that have a certain APR fixed for the first half of the loan term and re-computed on the remaining half of the loan term depending on current bank interest rates.
Credit card companies are also bound by the Truth in Lending Act, but they are also allowed to market their cards and services with “monthly” interest rates. But APRs should still be clearly and given to members and cardholders to avoid confusion in terms of computations. So if a particular credit card company declares a 2% monthly interest rate for purchases, one can simply compute the APR by multiplying 2% by 12 months.