Homebuyers

Mortgage Rates vs APR: Knowing the Difference May Save Homebuyers Big Money

Entering the housing market can be intimidating for many first-time homebuyers—especially with the number of unfamiliar, real estate-related terms that suddenly enter the conversation.

But there are two important terms every potential homebuyer should learn right away: mortgage interest rates and the annual percentage rate (APR).

Both terms are directly related to how much money you will pay each year to borrow money for that home you're thinking about buying. However, there are a few key differences that can really add up.

A mortgage rate can help to determine the size of your monthly mortgage payment. The higher the rate, the more you will pay throughout the life of your loan.

Meanwhile, the APR is the mortgage rate in addition to other fees and charges you will be paying on an annual basis for your loan. That's important to note to ensure that you're really getting the best deal possible and not potentially overpaying for your mortgage.

"If you're shopping for a mortgage, the APR will show you what you're paying to get that mortgage rate," said Ralph DiBugnara, a regional vice president at New American Funding. He is based in Edgewater, N.J. "It includes many of the fees being charged by the lender to close on your home loan."

What is a mortgage interest rate?

Put simply, the mortgage interest rate is the cost of borrowing money from a lender that you will be paying back over the length of your loan. That cost is conveyed as a percentage, aka your mortgage interest rate.

For example, if you borrow $400,000, with a mortgage rate of 5%, you will be paying back the lender 5% of the loan (or $20,000) just in interest, each year.

"Your mortgage interest rate is what you're actually paying on a monthly basis," said DiBugnara. "It will determine what you are paying for that mortgage over the life of that loan."

It's important to note that mortgage interest rates are determined by both your financial situation and market conditions. For example, someone with a higher credit score, a larger down payment, and less debt may be able to score a lower mortgage rate.

The economy also plays a part. Mortgage rates tend to be lower during downturns. The U.S. Federal Reserve will generally lower its interest rates to help stimulate the economy. This puts downward pressure on mortgage rates.

What is the annual percentage rate (APR) for a home loan?

The APR represents the mortgage interest rate plus any other fees and charges you will be paying on an annual basis.

"The APR is a larger measure of what it actually costs for you to borrow the money," said DiBugnara.

These include things like loan origination fees, any mortgage points buyers purchase to lower their mortgage rates, processing fees, some closing costs, and other charges. It may also include private mortgage insurance.

Why the difference between mortgage rates and APR is important

If you're in the market for a home, and a loan, it's important to evaluate both the mortgage interest rate and APR you're being offered.

While one lender might have an enticingly low interest rate, they may be charging higher upfront fees.

Another lender might charge higher rates, but not as many fees.

"If your annual percentage rate is a lot higher than your mortgage interest rate, [there are] questions you should ask," said DiBugnara. "'Why is it so high? What fees are included in this? What am I actually paying up front?"

Ralph DiBugnara NMLS # 19269