There is a radio commercial playing around here and it says great time to refinance … blah blah blah … 5% mortgage with a 5.25% APR.
What does this mean?
APR has a specific definition which accounts for the interest, plus additional expenses like origination fees, PMI, closing costs, etc. Federal law requires lenders to disclose the APR to prevent them from advertising very low interest rates and then including all sorts of hidden fees to make up for the low interest.
Also, APR (annual percentage rate) is used to refer to the effective interest rate once compounding is taken into effect. 5% annual interest turns out to be a bit more when interest is accrued every 30 days.
CD rates are typically quoted in the same way, for this reason.
I think ultimately it’s a market gimmick. A 5% loan sounds more attractive than a 5.25% loan, but the 5.25% is what you will actually end up paying due to the compounding of interest.
It’s no gimmick. The interest rate IS 5%, but it’s compounded, usually monthly. It’s similar to pricing stuff in the store. Just because the TV says it costs $1000, doesn’t mean I can lay 10 $1000 bills on the counter and walk away. There is going to be sales tax on it.
In this case, it means that there must be a lot of extra fees involved in getting the loan! It’s not possible to have an APR of 5.25% when the nominal rate is 5% unless the 5.25% includes other fees like loan origination fees, administrative fees, etc. No amount of compounding will lead you to 5.25% from a nominal rate of 5%. So in this case, I would ask to see a breakdown of all of those fees.
Bet you could.
Please come shop at my store!
But the sales tax goes to the government, and is the same amount at any TV store in the state. The extra .25% on the loan goes to the lender, via various so-called fees. And those ‘fees’ will vary from different lenders, so including them in the APR forces all the lenders to disclose them equally.
Ok, ok. Bunch of smartasses, the lot of you. So you can’t lay down 10 $100 bills, and walk away. Happy?