An Annual Percentage Rate (APR) is a metric that will help you understand the actual cost of borrowing. It factors in the loan amount and the related charges including the origination fee, broker fees, and any other fee associated with securing a loan. An APR will give you a holistic representation of the actual cost of taking a mortgage for investment.
Are you looking to secure a mortgage for investment? The Mortgage Shop provides a variety of loan types to vacation homes, short-term, and long-term rental investors. Our professional specialists provide 24/7 support for all your investment needs. We have over 15 years of experience in providing exceptional loan services to investors.
As part of our investor education series, we also provide useful content to investors about the property industry. Some highlight articles include A 15 vs. 30-Year Mortgage which highlights the pros and cons of a 15 versus a 30-year mortgage. Benefits of a Reverse Mortgage is also a good read if you are planning to secure a mortgage for an investment property.
Today, we are going to demystify what is APR on a Mortgage and how you can use the metric to gain insight into securing a suitable mortgage for your investment.
Components of an APR
- Interest Rate is the primary cost you pay for borrowing money. It represents the percentage of the loan amount that you’ll pay in addition to the principal over the life of the loan.
- Mortgage Insurance: If your down payment is less than a certain percentage of the home’s value, you might be required to pay mortgage insurance. This insurance protects lenders in the event you default on your loan.
- Loan Origination Fees: This is what lenders charge for processing your mortgage application and providing you with a loan. It covers administrative costs and is typically a percentage of your loan amount.
- Discount Points: These are fees you pay upfront to reduce your mortgage’s interest rate. One point is typically 1% of your loan amount. By paying these points, you can secure a lower rate and subsequently, a lower APR.
- Other Associated Fees: Apart from the aforementioned charges, there are other fees that can factor into your APR. These might include application fees, underwriting fees, and broker fees, among others.
Types of APR
Introductory or Promotional APR
This type of APR is frequently introduced as a promotional strategy to captivate borrowers. It’s set at a rate that is typically lower than the regular interest rate and APR for a predefined period. However, after this promotional phase expires, the rate typically escalates to the standard APR.
Balance Transfer APR
This is the rate applied when a balance is transitioned from one credit card to another. Some offers may present a lower APR for balance transfers, aiming to entice customers to transfer their existing balances.
Cash Advance APR
When individuals opt to borrow money from a credit card, such as when making an ATM withdrawal, they are typically subjected to the Cash Advance APR. This rate is generally steeper than other types of APRs.
The Penalty APR is applied when borrowers breach certain stipulations, like missing a scheduled payment. Familiarity with this APR can serve as a preventive measure, enabling individuals to avert actions that might trigger it.
Dependent on an index interest rate like the prime rate, the Variable APR can oscillate over the duration of the loan, potentially leading to variations in monthly payments. This stands in contrast to the Fixed APR.
This rate remains constant throughout the loan’s lifespan. While it assures stability in monthly payments, borrowers should be cognizant that elements like lender charges could still influence the overall cost of borrowing.
Commonly seen in “buy now, pay later” propositions, the Deferred APR allows interest to accumulate over a period without immediate charges. However, if the loan principal is not settled by the conclusion of the promotional term, all accrued interest is appended to the balance.
For those delving into home or investment property loans, the Mortgage APR amalgamates elements like lender fees and discount points to calculate the actual value of the mortgage. This rate plays a pivotal role in contrasting diverse mortgage rates.
Why Is an APR Important in Mortage Comparisons?
The APR reflects more than just the interest rate. It paints a comprehensive picture of the total cost of borrowing money. While mortgage lenders advertise based on the loan interest rates, this rate only represents the cost of borrowing the loan principal. In contrast, the mortgage APR includes both the interest rate and other fees that the mortgage lender might charge.
A lower interest rate might not provide a complete picture, especially for long-term mortgages. So, the APR metric provides transparency, enabling you to discern which loans are genuinely cost-effective. The metric ensures that your decisions are rooted in a holistic understanding and can therefore potentially save you money and optimize your investment returns.
How to Calculate APR on a Mortage
It might seem a little challenging to calculate the APR considering it takes into account multiple variables and fees. Here is a general breakdown of how you can approach an APR calculation:
- Identify the Loan Amount: Start with the actual amount you’re borrowing, which might be less than the home’s purchase price if you’re making a down payment.
- Total Up the Fees: Add up all the fees associated with the loan. This could include origination fees, mortgage points, broker fees, and more.
- Calculate the True Loan Amount: Subtract the total fees from the original loan amount. This gives you the amount you’ll actually receive from the lender.
- Determine the Monthly Payment: Use the adjusted loan amount to determine your monthly mortgage payment using a loan calculator or formula for a given interest rate and loan term.
- Calculate APR: Use the monthly payment to work backwards and determine the effective interest rate on the full, original loan amount, which is your APR.
How to Calculate APR: Practical Example
The calculation below is a generalized example. In practice, APR calculations can be a little more complicated and might involve other variables and fees. If you are looking to secure a mortgage for an investment property and you are interested in knowing the actual APR, contact a mortgage broker today.
Let’s say you, as an investor, want to take out a mortgage of $200,000 with an interest rate of 4% for 30 years. The lender charges an origination fee of $2,000, and you decide to buy mortgage points for $3,000.
- Loan Amount: $200,000
- Total Fees: Origination fee ($2,000) + Mortgage points ($3,000) = $5,000
- True Loan Amount: $200,000 – $5,000 = $195,000
- Monthly Payment: Using a mortgage calculator (or formula) for a 30-year loan at 4% on $195,000, you might find a monthly payment of around $931.
Now, using that same monthly payment of $931, but for the original loan amount of $200,000, you might find an effective rate (or APR) of around 4.2% (this step usually requires a financial calculator or specific software to solve for the rate).
Secure a Mortgage For Your Investment Property Today
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Whether you are looking to secure a reverse mortgage, a conventional loan, or a full Doc loan, The Mortgage Shop can provide all these loan types. Talk to the best mortgage broker on the East Coast today if you need to quickly secure a mortgage for your investment property.
What Investors are Asking About APR
What is APR on a mortgage?
To understand what is APR on a Mortgage is, you must first understand what is an APR.
APR stands for “annual percentage rate.” In the context of a mortgage, the APR provides a more comprehensive measure of the cost to borrow money. It includes not only the loan interest rate but also other factors such as fees included in the loan application, lender charges, and sometimes discount points. The APR is expressed as a percentage and is designed to give borrowers a clearer picture of the true cost of the loan.
How is APR calculated on a mortgage?
APR calculations on a mortgage take into account both the loan interest rate and the various fees that are associated with the mortgage. This might include fees for loan origination, loan application, and others. By dividing the total cost of these fees by the loan principal and then factoring in the loan term, the APR provides a yearly rate that can be compared across multiple loan offers.
What is the APR on a mortgage today?
There is no definitive APR. Mortgage rates can fluctuate based on various economic factors, and it’s recommended to consult with a financial advisor or mortgage broker for the most current rates.
What is the difference between APR and Interest rate on a mortgage?
The interest rate on a mortgage simply refers to the percentage of the loan amount a borrower will pay in interest annually. In contrast, the APR (annual percentage rate) encompasses both the interest rate and other costs, such as lender charges and certain other fees involved in securing the loan. In essence, while the interest rate tells you how much interest you’ll pay, the APR gives you a broader view of how much you’ll pay in total to borrow the money, including fees.
What is a good APR for a mortgage?
A “good APR” can vary based on economic conditions, creditworthiness, loan terms, and other factors. Generally, a good APR is one that is competitive relative to current market conditions and is also aligned with the borrower’s financial situation and credit profile.
Is it better to have a lower interest rate or a lower APR?
If the loans you are considering have identical interest rates but different APRs, the one with the lower APR is typically the better deal. While a lower interest rate means lower monthly payments on the loan interest, a lower APR suggests fewer fees and overall costs associated with borrowing
What is an example of APR?
Let’s say you’re considering a mortgage loan with a fixed APR of 5%. This means that, in addition to the loan’s interest rate, other costs such as lender charges and fees cover a total annual cost of borrowing equivalent to 5% of the loan principal. If your mortgage’s interest rate is 4.5%, the remaining 0.5% in the APR might be made up of the fees and charges you’ll pay over the loan term. This example highlights how APR works and how it provides a more comprehensive view of loan costs than the interest rate alone.