Lenders and brokers compete for your business by advertising their low yearly interest rates in print and online. The APR, or annual percentage rate, is that oddly higher number that appears next to it, though, and more accurately represents the rate you actually pay. A markedly higher number might indicate that the loan isn't as good a deal as you originally thought. Shop around for the best loan rates and terms before committing yourself to a specific product.
Interest Rate Basics
When you obtain a home loan, a lender gives you a lump sum of money to complete a home purchase, in exchange for payment over time, with interest. The lender calculates how much interest to charge you based on the current economic climate, your credit history and the length of your loan, among other factors.
Rate You Pay
Although the lender quotes a certain percentage on your loan papers, the rate you end up paying each month is higher. Even if you sign up for a fixed-rate loan, various additional monthly costs add to the principal and interest that are charged to you every pay cycle. The total cost to you figured as an annual percentage is the annual percentage rate.
Points are fees that sometimes increase your monthly payments. You pay points in exchange for a lower interest rate. Mortgage insurance is another cost that ratchets up your annual percentage rate. In most cases, you'll pay mortgage insurance when you put less than 20 percent down on a loan. Any required impounds for taxes and insurance policies also increase your monthly payments and the actual annual percentage rate.
You must receive a document explaining the costs of your loan when you apply for a mortgage. The “good faith estimate” mandated by the Truth in Lending Act details the annual percentage rate of your loan. Lenders also must list the APR next to the interest rate in advertisements to comply with the Truth in Lending Act.
Loan brokers search for different loans on your behalf. You might pay a fee for the service and find it added onto you monthly payment. Certain lending institutions act as brokers themselves, which may come as a surprise to borrowers. The Federal Reserve Board advises consumers to watch out for broker fees added to the loan resulting from the banks acting as brokers without advertising the fact.
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