Annual Percentage Rate (APR) explained

APR stands for annual percentage rate and it’s a figure that you can use to calculate how much you’ll ultimately pay back when you borrow money. Lenders have a legal duty to tell borrowers what the APR is before lending them money, and it’s useful to know how to calculate APR if you’re thinking of taking out a loan or using a product like a credit card.

Is APR the same as the interest rate?

APR is different from the interest rate on a loan. The interest rate deals with just the interest to be paid on the loan, while the APR includes other charges the lender has in place. You can quickly use the quoted APR to compare products such as credit cards and unsecured loans, as it is given as a simple percentage of the amount being borrowed. In most cases a lower APR means a cheaper loan, but you should always check the rest of the terms and conditions to make sure. 

What is included in the APR?

The APR covers many of the fees and charges associated with borrowing money but not necessarily all of them. Broadly speaking, it covers charges but not optional extras like payment protection, or fines if you miss a payment or go over your credit limit. 

What is a representative APR?

When you compare the APR offered by various lenders, you’ll be looking at something called the representative APR. This is the advertised rate – it only actually has to be offered to 51% of customers, so you may well be among the 49% charged a higher rate. 

Calculating payments using the annual percentage rate

While it’s possible to calculate the exact amount you’ll pay back on a loan over 12 months, it can be more complicated when a credit card is involved. That’s because the amount paid on a credit card every month can vary above the minimum limit set by the lender – this means the balance being used to calculate the interest owed is always fluctuating.

Credit card companies calculate interest on a rolling basis, changing each month or even day, so the amount paid over a 12-month period varies. For example, if you pay the balance of your credit card in full every month then the amount of interest paid will be zero, no matter what the APR is. While APR is a useful guide when you’re comparing various credit card deals, the actual amount you’ll pay in interest will vary depending on your individual repayments. 

A personal APR definition

While the lender will quote its advertised representative APR,your personal APR is the interest rate you’ll actually be charged. In some cases your personal APR will be higher than the representative APR on the basis of your personal eligibility. If your credit rating is extremely poor then you may be refused a loan or credit card altogether, but even a slightly bad rating can lead to the lender setting your personal APR at a higher level.   

What APR should you look for? 

In general, a larger loan comes with a lower APR, while the APR on a credit card depends on your personal credit score – the lower the score, the higher the APR will be. The following is an example of the impact a change in the APR can have:

• You borrow £10,000 to be paid back over four years. If the APR is 4% the monthly payments will be £225.79, and the total interest paid over the four years will be £837.95 

• You take out the same loan, but this time with an APR of 6%. Now your monthly repayments will go up to £234.85 and you will pay total interest of £1,272.81  

In this case a shift of just two percentage points leads to the interest charged (independent of any other charges) going up by £434.86.

It’s worth shopping around for the best APR you can secure. Bear in mind that the APR is usually charged on purchases made online or in person. Individual credit card providers might charge different rates for transactions such as cash withdrawals. 

We can help

If you’d like to find out more about APR and how it will impact on your borrowing then get in touch with the financial experts at GOCardless here. Find out how GoCardless can help you with ad hoc payments or recurring payments.