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What Is APR And How Is It Calculated?

Sidney Richardson10-minute read
November 05, 2021

If you’ve ever applied for a credit card, you’ve probably seen the acronym “APR.” This term, meaning annual percentage rate, is an important one to know whether you’re opening your first line of credit or getting a mortgage loan. If you’ve ever wondered what APR is, how it differs from interest rate and what it influences, you’re in the right place. Read on to our full guide to APR and how it’s calculated.

What Is APR?

In simple terms, APR is the price you’ll pay to borrow money every month. APR is expressed as a percentage and applies to many types of loans and financial products, including mortgages, credit cards and auto loans. Unlike interest rate, APR takes multiple factors of a loan or line of credit into account, including the interest rate itself and any finance charges. APR essentially expresses what the total cost of borrowing will look like for you.

How Does APR Work?

APR is expressed as a yearly rate that impacts the amount you’ll owe your lender in interest if you carry a balance on your loan or line of credit. APR will apply a certain amount of interest to your balance until the debt is paid in full. So, if you owe $300 on your credit card bill, you’ll be charged interest based on your APR every month until that $300 (plus the new interest) is paid off.

If you always pay off your credit card bill each month, APR likely won’t impact you because you won’t be charged any interest on your $0 running balance. It’s possible you may also get a grace period from your lender for new purchases where no interest will accrue if you pay off your monthly balance on time.

What Are The Different Types Of APR?

APR can impact you in many different ways, and depending on your loan or credit card, it may be applied to you for different things. Let’s go over some of the different types of APR you may encounter.

APRs For Bank Loans: Fixed-Rate APR Vs. Variable APR

When borrowing money, you will encounter either fixed or variable APR. The type you end up dealing with can have a big impact on your finances, since it determines whether your APR remains the same throughout your loan or fluctuates. 

Fixed-Rate APR

If your APR is fixed, it will usually remain the same throughout the entire life of your loan. This makes paying your debts a little more predictable; you’ll always have a good idea of what your payment will be.

However, this doesn’t mean that a fixed APR won’t ever change. Sometimes an event will trigger an increase. If this happens, your lender or credit card provider must provide you with a notice that your rate will change. For instance, if you make a late payment on your credit card balance, your provider might increase your APR to what is known as a penalty APR.

Variable APR

If your APR is variable, that means it’s tied to another rate, usually a prime rate that is based on the federal funds rate, which makes it overall more or less expensive to borrow money in the U.S. With a variable APR, you might pay more or less interest over time. This can make budgeting for monthly loan or credit card payments a little more complicated because it adds some unpredictability to your financial situation.

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APRs For Credit Cards

Beyond being fixed or variable, you may also encounter different APRs for different purposes. If you have a credit card, you might be impacted by multiple different APRs based on how you use your credit. Here are a few types of credit card APRs to be aware of:

  • Purchase APR: This rate is applied to purchases you make with your credit card. If you have a running balance at the end of the month, this APR determines how much interest you’ll be charged.
  • Balance transfer APR: Some credit cards allow you to transfer your debt from another card to theirs. A balance transfer APR determines how much you’ll be charged to transfer that debt.
  • Introductory APR: An introductory APR is a promotional rate that is used to entice borrowers to use their services. It may allow new customers to pay 0% in interest on purchases for a limited time or some other similar bonus.
  • Cash advance APR: A cash advance allows you to borrow money against your line of credit rather than using that credit for specific purchases. In this case, a cash advance APR determines what you’ll be charged in terms of fees and interest to borrow that money.
  • Penalty APR: A penalty APR is a high rate that’s usually applied to borrowers that have violated the terms of their loan or credit in some way. If you fail to make monthly payments, a penalty APR may be applied to your account balance.

What Factors Influence APR?

APR can vary wildly, with rates of 12% or lower and even 29% or higher on the other end of the spectrum. The rates you can qualify for will depend on many factors, including the prime rate used by your bank or financial institution, your credit score and much more. Let’s go over a few things that might impact your APR.

Credit Score

When getting a loan or a line of credit, a borrower’s credit score is examined to determine how risky it might be to lend to them. With a higher credit score, like 740 or even 800 for example, you’ll likely qualify for some of the lowest rates offered by your lender since they have proof you repay your debts and won’t be a financial liability.

With a lower credit score, particularly one below 580, you will likely see much higher APRs offered to you. Higher APRs are intended to protect your lender in case of financial risk should you default on payments.

Interest Rate Type 

The type of APR you apply for, meaning fixed or variable, will also impact how high or low the percentage is. Fixed APRs tend to be a little higher but will stay consistent, whereas variable APRs might be initially lower but run the risk of increasing with market fluctuations.

Loan Term 

If you’re getting a loan, the term of the loan will also have an impact on your APR. The longer your loan term, the lower your interest rate and APR will be. Longer loans are less risky than short ones and reflect this in their APR. With a short-term loan, lenders run the risk of borrowers being unable to repay their loan within the shorter time frame. Because of that, you can expect to see higher APRs on short-term loans.

Down Payment 

In terms of getting a mortgage loan, the size of down payment you’re able to make can impact your APR, too. If you can afford to make a sizable down payment that would decrease your monthly mortgage payments, lenders may see you as less of a financial risk and might offer you a lower rate in response.

Payment Schedule

The time it will take you to pay back a loan will also have an impact on your APR. As we mentioned above, longer loan terms typically come with lower APRs. The schedule of your payments during your loan term is also influential. Your monthly payment is split between your principal balance and loan interest; your payment schedule is how many payments it will take you to pay off the loan. The amount you pay toward interest could be lower overall if you make biweekly payments or larger monthly payments than your required minimum. 

Points And Rewards

If you get a credit card that offers spectacular rewards or point redemption systems, watch out – these cards often come with higher APRs. If your card grants you cash back on all purchases, travel rewards or other great incentives, you’ll likely find yourself with a higher APR to account for those costs.


Location has an impact on your APR as well, particularly if you are getting a mortgage loan. Different states and local governments may have differing laws and regulations that could impact fees and other various costs you will end up paying, thus altering your APR as well.

Where Can You Find What The APR On A Credit Offer Is?

The Truth in Lending Act (TILA) requires lenders to disclose the APR of a loan or credit card before the borrower can sign any sort of contract. When you are shopping around for credit cards, you should be able to see upfront in the offer what the APR of each card is so you can compare costs from different lenders.

If you already have a credit card and you’re not sure what your APR is, there are a few ways you can find out. It should be listed on your monthly statement, but you can also find it by logging into your account online and viewing the details of your line of credit.

Why Is Your APR High?

If you checked the APR on your credit card or loan out of curiosity and were surprised at how high it was, you’re not alone. Many borrowers are confused as to why their APR is higher than they thought it should be. Let’s review a few reasons your rate could be higher. 

Loan Type

If you have a loan, it may come with a higher APR if it’s deemed a “risker” investment. For example, unsecured loans like some personal loans often have higher APRs because they aren’t backed by any sort of collateral. Secured loans, on the other hand, usually come with lower APRs because the loan is backed by a piece of your property, such as a house or car, that can be seized and sold should you fail to make payments.

Credit cards often come with higher APRs for the same reason as unsecured loans: there’s nothing in place to prove you’re going to make your payments on time. There are such things as secured credit cards, however, that allow you to prepay your credit line amount for your lender to hold as collateral. Since your lender has a way to recoup their losses, should you stop making payments, these cards tend to have lower APRs.

That said, credit card purchase APR won’t even matter if you pay your balance off completely every month since you won’t be charged on a running balance. 

Low Credit Score

If you have imperfect credit, your credit score could be contributing to a high APR. Your credit score shows lenders how you’ve managed your debts in the past, and if your financial history has been a little rocky, lenders may only qualify you for credit cards and loans with high APR to make up for the lending risk. 

Debt Load 

Lenders also look at your debt-to-income ratio, or DTI, to determine your APR. Your DTI measures how much debt you have in comparison to how much money you’re taking home at the end of the day. If you have too much debt, lenders may be less willing to let you borrow money because you’re more likely to fail to make payments. Most lenders prefer that your DTI is below the 40% range, but it’s important to note that the lower your DTI, the lower APR you may be offered.

How To Calculate APR

Thanks to the Truth in Lending Act, lenders have to disclose your APR before you get a loan or a credit card. If a lender won’t show you your future APR, you should not work with them. Should you want to calculate your APR yourself for whatever reason, however, you can use this formula.

APR Formula

As an example, let’s say you are taking out a personal loan for $5,000 and you have 12 months to pay it back, or 365 days. You’re being charged a $350 origination fee and you’ll pay roughly $163 in interest over the life of the loan with a starting interest rate of 6%.

If you add your fee and interest together, you’ll get $513, which you can divide by the loan amount ($5,000) to get 0.1026. Divide that by the loan term in days (365) and you’ll get 0.0002811. If you multiply that by 365 and then 100, you’ll get your final APR amount of around 10.26%.

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Annual Percentage Rate FAQs

Still confused about APR? Here are some common questions surrounding annual percentage rate and our answers.

How does APR work with ARM calculations?

“ARM” is an acronym for adjustable-rate mortgage. An ARM has an interest rate that adjusts and changes after a set fixed period. These loans are typically named for the number of years they keep a fixed rate and then for the period of time that passes between each rate change. So, a 5/6 ARM would keep the same initial rate for 5 years and then would adjust every 6 months after.

Since it’s not possible to predict exactly what will happen with the market and how it will affect your interest rate, APR is not a particularly useful tool for calculating how much it will cost you to borrow over the life of your loan with an ARM.

What’s the difference between APR and APY?

If you’ve heard of APY, you may be wondering how it differs from APR. APY stands for annual percentage yield and measures the amount of money or interest earned or paid on an annual basis after factoring in compound interest. Unlike APR, which is useful for calculating the cost of borrowing, APY is used to calculate the rate of return earned on an investment, assuming you don’t add or detract from the initial amount invested. You’ll see APY listed when you open a new savings account – use this as a guide to understand how much interest you’ll gain by leaving money in the account.

How does APR account for compound interest?

Short answer: it doesn’t. APR only accounts for simple interest. If you’re looking into an investment or other financial venture with compound interest, it’s a better idea to use APY for those calculations.

How can I lower the APR on my credit cards?

If you’re looking to lower your APR, the best way to do so is by improving your financial health. That means making all your payments on time, from mortgage payments to student loans. To make sure you never miss a payment, it’s a good idea to enroll in an auto-pay system if that’s available to you.

You should also work on paying down your debts to decrease your DTI and help your credit score. A higher credit score and lower DTI will show lenders you are a reliable borrower and will make them more likely to grant you a lower APR.

The Bottom Line

APR may seem complicated at first, but once you’ve learned what annual percentage rate is and how it works, it’s easy to calculate and use to shop for the best credit card or loan. APR is an important thing to understand to make sure you’re always getting the full picture when applying for a loan or new line of credit. Interest rate doesn’t always tell the whole story – sometimes APR can clue you in to high fees and costs that could make a loan pricier than it looks.

If you’re looking to buy a house and you’re interested in seeing what rates you could qualify for, get started with Rocket Mortgage® today.

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Sidney Richardson

Sidney Richardson is a professional writer for Rocket Companies in Detroit, Michigan who specializes in real estate, homeownership and personal finance content. She holds a bachelor's degree in journalism with a minor in advertising from Oakland University.