When you're calling around to banks to inquire about a mortgage loan, they'll usually quote you the base interest rate. But that rate isn't the same as your mortgage APR, or annual percentage rate. To be a truly informed and responsible borrower, you need to understand the difference between these two figures.
An interest rate is a percentage charged on the balance of the mortgage loan. The lender quotes it to you as a yearly rate. The interest rate quote you receive varies depending on a number of factors, including your credit score and payment history. If you choose to pay a discount point, which equals 1 percent of the loan, you'll receive a discount on the interest rate in exchange.
The APR, often called the "true cost" of the loan, is the interest rate plus additional financing fees integrated into the mortgage loan. These are charges that the lender collects at closing. The charges commonly include any points, origination costs, underwriting, document and other processing fees. The lender estimates these costs on the good-faith estimate, which lists your estimated closing costs.
Calculating APR is a two-step process requiring fairly complex formulas. If you want to calculate the APR on your own, you should do it with an online calculator, like the one offered by Bankrate.com or eFunda. Just insert the interest rate, length of loan, amount borrowed and the total additional financing fees.
Laws About APR
A mortgage lender is required by law to list not only your quoted interest rate but also your APR on your loan paperwork. Under the Truth in Lending Act, you as a borrower have a right to full disclosure on a mortgage loan, including the interest rate and the APR. A lender could quote you a really low interest rate, then tack on extremely high origination fees and points as a condition of getting that rate. Knowing the APR instead of just the interest rate gives you a better idea of which is the more preferable mortgage deal.