Whenever you take out a loan, mortgage or open a credit card, the cost of borrowing is expressed as an APR.
You might know this is something to do with interest (or maybe you’re clueless!), but what does it actually mean for you and your borrowing?
APRs can get very complicated, so we’ve covered the basics, which should be enough for you to understand them better.
Before we get to APRs, let's start at the beginning. When you borrow money, there is a cost for doing so – this is how the lender makes their money. In most cases this cost is expressed as an interest rate.
Here’s an example:
If you borrow £1,000 and the interest rate is 10% a year – so if you paid this off over a year you’d pay back the original £1,000 plus £100 in interest. If you paid it back over 6 months you’d only pay an extra £50 and so on.
Okay, so what’s APR?
APR stands for Annual Percentage Rate and it’s the way that lenders express the total cost of borrowing on a mortgage, credit card or any type of loan. It’s “annual” because it includes the total cost of borrowing over a one year period.
It will include all the interest you would have to pay including “interest on your interest” (known as compound interest). For example of you had a credit card balance of £100 and are being charged interest at 1% per day at the end of the month you’d owe £130 (assuming a 30 day month). But the following month your interest would be 1% of £130 per day – or £1.30.
APRS also include any extra charges you’ll have to pay, like arrangement fees or annual fees. But they don’t include charges that you don’t have to pay – such as credit card charges if you make a payment late.
So APRs make it easier for you to compare the cost of borrowing in different ways over a standard period.
Lenders don’t just put the APR on their adverts or websites to make it easier for you though – it’s actually the law so you can make an easier and fairer comparison on different credit products. So, if you see an advert where the monthly interest rate is promoted, look at the small print to find the APR, as this is a more helpful way of working out what you’ll have to pay back over the whole year.
What’s personal APR and representative APR?
The APR rate that you’re given once accepted for credit is known as your ‘Personal APR’, as it’s specifically for you, but what about representative APR?
Most loans or credit cards will be advertised with a ‘representative APR’ which you may or may not get – it’s all down to your credit score. A representative APR means that at least 51% of the people who get accepted for the loan or credit card must get the advertised rate – potentially leaving almost a half of people with a higher rate.
If you’ve had a few problems with late payments or defaults in the past, which will have impacted negatively on your credit score, you’ll may be one of those who are offered a higher APR instead. Find out how to improve your credit score to help you get a better rate in future.
What about short term loans?
If you take out a loan for just a month or so, like a payday loan, the APR becomes less useful in helping you work out how much you’ll pay back as APR is an annual percentage rate. This is why the new loans rules don’t focus on their huge APRs but on the total loan cost.
Payday loans can now only charge you 0.8% interest on the amount you borrowed each day and even if you fall behind on payments, you can’t owe more than double of the amount you originally borrowed. However, this could still be a relatively large amount to deal with, so make sure you only take out a loan if you’re as sure as possible that you’ll be able to pay it back.
If you’re looking for a loan that’s right for your situation, Ocean has a range of loans available. Whether you only want to take out a small personal loan or you’re looking to fund a bigger purchase, they’ll look at your circumstances and find a product that’s right for you.
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Intelligent Lending Ltd (Credit Broker). Capital One is the exclusive lender.