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Rate
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Rate

The percentage used to calculate the interest charge for a loan. The rate and loan amount determine the interest expense and the loan payment. Also referred to as the interest rate, stated rate or loan rate.

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Definition

Rate is the percentage used to calculate the interest charge for a loan. The rate and loan amount determine the interest expense and the loan payment. Also referred to as the interest rate, stated rate or loan rate.

Calculating Interest Expense Using Rate

It’s the rate times the loan amount that determines the interest expense. For example, the cost to borrow $1,000 and repay it after one year, at a five percent interest rate, is calculated this way:

$1,000 * .05 = $50

When the loan is repaid in a year, then, the borrower will pay $1,050.

Rate VS APR

The annual percent rate, or APR, is different. It expresses all of the financing costs, including the interest charged but also and fees or charges associated with the loan – expenses that occur when a purchase is financed but not when a purchase is bought for cash are considered financing costs and are incorporated into the APR calculation. However, the APR is just used to express the costs of the loan. It’s the rate that determines the interest charge and the loan payment.

Rate Explained

When applying for a loan, you have to pay a rate, which is the amount of interest on that loan. Interest is the cost of borrowing the money based on a percentage of the loan amount. The rate can be expressed as an annual percentage rate (APR) or as an interest rate.

The APR is related to mortgages, loans and credit cards. Basically, it is the interest rate plus any other fees the lender charges. For example, the APR on a loan may be 6 percent. However, that loan’s interest rate may be only 5.5 percent. The APR is .5 percent higher because of the fees that you pay the lender. Since you probably pay these charges up front, the monthly payment is actually based on the 5.5 percent rate.

Credit Cards, Line of Credit, and Rates

Credit cards and other revolving lines of credit work a little bit differently in regard to APR. For these loans, APR does not include fees but, rather, the compound interest rate, which is charged over and over on a regular basis (monthly, daily, etc.). This is a result of the fact that credit cards are revolving lines of credit. That means that, when you repay an amount you have charged on the card, that amount is available for you to borrow again.

Rate Lock

When applying for a mortgage, it is possible to lock-in a rate. A lock is a commitment by the lender that guarantees you a certain interest rate for a specific period of time. For example, a lender may tell the buyer s/he can get a 6 percent interest rate for zero points for thirty days or an interest rate of 6.25 percent for forty-five days for one point. The buyer has to decide whether to take one of these rates or to wait and see if rates go down. When you do lock-in, it guarantees that you will get that rate for your mortgage.

Paying Points to Reduce Rate

One way to decrease the rate on a loan is to pay points. Actually, even though it may give you a lower rate, you are still paying the same interest rate in the long run -- you’re just paying some of it up front. Paying points is actually paying interest in advance. One point is equal to one percent of the loan amount and brings down the interest rate by just a quarter point. For example, on a $100,000 loan, one point would equal $1,000. The more points that a buyer pays up front, the lower the interest rate will be.

When deciding whether to pay points, consider how long you plan to live in the house. If you intend to be in the house less than five years, a general rule of thumb is to avoid paying points. You may not be in your house long enough to make up for the initial cost of the points.