Annual percentage rate (APR) is a term usually associated with mortgages, auto loans and credit cards that denotes the annual rate of funds that banks or financial institutions usually charge borrowers. APR is an annual rate of funds charged as a percentage that represents the annual cost of the funds borrowed over the life of the loan.
By law, banks and financial institutions need to show customers the annual percentage rate to ensure a clear understanding of the interest rates applicable to their loans and credit agreements. For borrowers, APR is one of the essential parameters used for comparing interest and fees from various lenders. The APR enables borrowers to evaluate the cost of the loan in terms of a percentage. For instance, if banks charge 1% interest per month, the APR amounts to 1% x 12 months = 12%. In mortgages, the APR could include interest charges, closing costs or other payments needed for getting the loan approved. With credit cards, APR usually only includes the interest charges. It does not include annual fees, balance transfer fees, etc.
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